The Method of Economics

Positive economics. An approach to economics that seeks to understand behavior and the operation of systems without making judgments. It describes what exists and how it works.

Normative economics. An approach to economics that analyzes outcomes of economic behavior, evaluates them as good or bad, and may prescribe courses of action. Also called policy economics.

Descriptive economics. The compilation of data that describe phenomena and facts.

Economic theory. A statement or set of related statements about cause and effect, action and reaction.

Theories and Models

-model. A formal statement of a theory, usually a mathematical statement of a presumed relationship between two or more variables

-variable. A measure that can change from time to time or from observation to observation.

-Ockham’s razor. The principle that irrelevant detail should be cut away.

- ceteris paribus, or all else equal. A device used to analyze the relationship between two variables while the values of other variables are held unchanged. Using the device of ceteris paribus is one part of the process of abstraction. In formulating economic theory, the concept helps us simplify reality to focus on the relationships that interest us.

- Expressing Models in Words, Graphs, and Equations. Methods of expressing the quantitative relationship between two variables: Graphing (as presented in appendix); Equations. For example: If over time U.S. households collectively spend, or consume, 90 percent of their income and save 10 percent of their income.

Cautions and Pitfalls.

-post hoc, ergo propter hoc. Literally, “after this (in time), therefore because of this.” A common error made in thinking about causation: If Event A happens before Event B, it is not necessarily true that A caused B.

- fallacy of composition. The erroneous belief that what is true for a part is necessarily true for the whole.

Testing Theories and Models: Empirical Economics. The collection and use of data to test economic theories.

Economic Policy. Criteria for judging economic outcomes:

1. Efficiency

2. Equity

3. Growth

4. Stability

-Efficiency. In economics, allocative efficiency. An efficient economy is one that produces what people want at the least possible cost.

-Equity. Fairness.

-Economic growth. An increase in the total output of an economy.

- Stability. A condition in which national output is growing steadily, with low inflation and full employment of resources.