Study Notes for 1st year Intro to Microeconomics course

These study notes include detailed information for each chapter in the "Microeconomics, Christopher Ragan, 16th Canadian Edition. Pearson" textbook. I used these notes to gain an A+ for the course

Chapter 2 – Economic Theories, Data and Graphs

Main Topics Covered

Positive and Normative Statements

Building and Testing Economic Theories

Economic Data

Graphing Economic Theories

Positive and Normative Statements

• Positive statements do not involve value judgments. They are statements about

matters of fact, and so disagreements about them are appropriately dealt with by an

appeal to evidence.

• Normative statements depend on value judgments and cannot be evaluated solely by

a recourse to facts. Advice that depends on a value judgment is normative—it tells

others what they ought to do.

The distinction between positive and normative is fundamental to scientific progress. Much

of the success of modern science depends on the ability of scientists to separate their views

on what does happen in the world from their views on what they would like to happen.

Distinguishing what is actually true from what we would like to be true requires

distinguishing between positive and normative statements.

Table2-1 Positive and Normative Statements

Positive Normative

A

Raising interest rates

encourages people to save. F

People should be

encouraged to save.

B

High rates of income tax

encourage people to evade

paying taxes.

G

Governments should

design taxes so that

people cannot avoid

paying them.

C

Lowering the price of cigarettes

leads people to smoke less. H

The government

should raise the tax

on cigarettes to

discourage people

from smoking.

D

The majority of the population

would prefer a policy that

reduced unemployment to one

that reduced inflation.

I

Unemployment is a

more important

social problem than

inflation.

E

Government financial

assistance to commercial banks

is ineffective at preventing job

losses.

J

Government should

not spend taxpayers’

money on supporting

commercial banks.

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Two things to notice about the positive/normative distinction:

1. Positive statements need not be true. Statement C is almost certainly false, and yet it

is positive, not normative

2. The inclusion of a value judgment in a statement does not necessarily make the

statement itself normative. Statement D is a positive statement about the value

judgments that people hold.

There is no need for the economist to rely on a value judgment to check the validity of

the statement itself.

Disagreements Among Economists

Reasons for it:

• Poor communication. They often fail to define their terms or their points of reference

clearly, and so they end up “arguing past” each other, with the only certain result

being that the audience is left confused.

• Failure to acknowledge the full state of their ignorance. There are many points on

which the evidence is far from conclusive. In such cases, a responsible economist

makes clear the extent to which his or her view is based on judgments about the

relevant (and uncertain) facts.

Building and Testing Economic Theories

• Theories are used to both explain events that have already happened and to help

predict events that might happen in the future.

• Like demand and supply theory and all other theories are distinguished by

their variables, assumptions, and predictions.

Building Theories

Variables

• A variable is a well-defined item, such as a price or a quantity, that can take on

different possible values.

• There are two broad categories of variables that are important in any theory.

1. An endogenous variable: a variable that is explained within a theory.

Sometimes called an induced variable or a dependent variable. E.g. Price and

quantity of eggs

2. An exogenous variable: A variable that is determined outside the theory.

Sometimes called an autonomous variable or an independent variable. E.g. the

state of weather (as it may affect the number of eggs consumed and produced)

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Assumptions

• A theory’s assumptions concern motives, directions of causation, and the conditions

under which the theory is meant to apply.

Motives

• Individuals are assumed to strive to maximize their utility, while firms are

assumed to try to maximize their profits.

• Not only are they assumed to know what they want, but we also assume that

they know how to go about getting it within the constraints they face

 Directions of Causation

• When economists assume that one variable is related to another, they are

usually assuming some causal link between the two

• E.g. Producers supply more wheat because the growing conditions improve;

they are not assumed to experience better weather as a result of their increased

supply of wheat.

 Conditions of Application

• Assumptions are used to specify the conditions under which a theory is meant

to hold

• A good theory abstracts in a useful way; a poor theory does not. If a theory has

ignored some genuinely important factors, its predictions will usually be

contradicted by the evidence.

Predictions

• A theory’s predictions are the propositions that can be deduced from it. They are often

called hypotheses

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