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Answer :
Final answer:
The money illusion refers to perceiving changes in nominal monetary values as changes in real purchasing power. It can affect judgment and decision-making, leading to misjudgment in personal finances and managerial decisions.
Explanation:
The money illusion refers to a cognitive bias in which individuals perceive changes in nominal monetary values as changes in real purchasing power. People often focus on the nominal amount of money rather than considering the actual purchasing power it holds.
When individuals are affected by the money illusion, it can impact their judgment and decision-making in various ways. For example, if there is inflation and wages increase by 5%, individuals may initially perceive this as a positive change in their income. However, if the general price level also rises by 5%, their real purchasing power remains unchanged. This illusion can lead to misjudgments in personal finances and affect managerial decision-making.
To mitigate the money illusion's influence, individuals and managers need to have a clear understanding of inflation and its impact on real purchasing power. They should focus on real values and consider inflation-adjusted measures when making financial decisions.
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