1. Economics as Social Science Economic Methodology Lecture 2 Dominika Milczarek-Andrzejewska

2. 2 Outline of Lecture 2 Economics as Social Science Economic Methodology Macroeconomics and Microeconomics Positive and Normative Economics Key Terms

3. 3 Economics as Social Science Sciences: -Social Science -Natural Science -Formal Science Social Sciences: -Economics -Sociology -Law -Political Science -Social Psychology -Anthropology -Education -Geography -Etc.

4. 4 Economics and Other Sciences Other social sciences: -Use of empirical research and methodology (sociology or psychology); -Economic sociology, economic psychology; law & economics, public choice theory Other Sciences: -Importance of mathematics: mathematical models, econometrics, statistics -Natural sciences: methodological inspiration (e.g. theory of evolution, equilibrium, adaptation, etc.)

5. 5 Nature and Method of Economics Personal decision-making: list the economic choices you had to make last week analyze one or two of these choices in terms of the alternatives you gave up –What other choices did you have? –What criteria were used to judge the alternatives? –How rational our decisions were?

6. 6 Economic Methodology Economics: Mainly an academic subject Problems and decisions from the social point of view Scientific Method: Formulation of hypothesis based on observations –explanations of cause and effect relationships based upon the facts Hypothesis testing: acceptance, rejection or modification of the hypothesis

7. 7 Economic Methodology Scientific Method (cont.): Theory –theoretical economics: the systematic arranging of facts, interpretation of the facts, making generalizations Law or Principle – widely accepted theory –explain and/or predict the behavior of individuals and institutions –generalizations about economic behavior (used synonymously) Models – simplified representations

8. 8 Models in Economics Importance of models or simplification –Example: a road map –the amount of detail would be determined by the needs of the „traveler”, i.e., “I need to travel between Warsaw and Poznan as quickly as possible,” “I would like to visit some historical museums as I am traveling through Italy” –Neither road map would have the details of the real world. –Several models of the same problem –Descriptive models, graphical models, mathematical models

9. 9 Economic Methodology Generalizations –typical or average individuals, etc. Other-Things-Equal Assumption ceteris paribus –to judge the effect one variable has upon another it is necessary to hold other contributing factors constant –economics is not a laboratory science › economic principles less precise –the real world as the laboratory

10. 10 Economic Methodology Abstractions to find the important connections and relationships of economic behavior Graphical Expression

11. 11 Economic Methodology McConnell and Brue 2005

12. 12 Economic Policy POLICY ECONOMICS Economic theories are the foundation of economic policy ECONOMIC POLICY Steps in policy making: –State the goal –Determine the policy options –Implement and evaluate the policy that was selected

13. 13 Economic Goals Economic Growth Full Employment Economic Efficiency Price-Level Stability Economic Freedom Equitable Distribution Economic Security Balance of Trade TRADEOFFSTRADEOFFS COMPLEMNTARIESCOMPLEMNTARIES

14. 14 Macroeconomics and Microeconomics MACROECONOMICS Examines the economy as a whole or its basic aggregates (government, household, business sectors) AGGREGATE Collection of specific economic units treated as a unit MICROECONOMICS Looks at specific economic units “Sand, Rocks, and Shells, not the Beach”

15. 15 Positive and Normative Economics Positive Economics –Absolute Facts and Cause-and-Effect Relationships –Description, Theory Development and Theory Testing Normative Economics –Value Judgments –What Ought to Be –What particular policy actions should be recommended

16. 16 Positive and Normative Economics Positive: -Analyzing an influence of taxation on consumers’ and producers’ decisions; -„Laffer curve”: relationship between tax rates and tax revenues Normative: -Use of tax system to decrease income inequality in society; -„Fair taxation”

17. 17 Why do not economists agree? Positive and Normative Economics Different models used to analyze the same economic processes Different theoretical approaches and different research methodologies

18. 18 New tendencies in economic methodology Broad use of mathematics (especially game theory) Development of experimental economics Interest in the role of institutions in economy and interdisciplinary approach to economic processes

19. 19 Key Terms ECONOMIC PERSPECTIVE UTILITY MARGINAL ANALYSIS SCIENTIFIC METHOD THEORETICAL ECONOMICS PRINCIPLES MODELS OTHER-THINGS- EQUAL ASSUMPTION POLICY ECONOMICS TRADEOFFS MACROECONOMICS AGGREGATE MICROECONOMICS POSITIVE ECONOMICS NORMATIVE ECONOMICS

20. 20 Questions to Lecture 2 How economic theories are developed? What is a role of economic models? What is a difference between microeconomics and macroeconomics? What is a difference between positive and normative economics? Why do not economists agree?