EconomicsforEveryone,Block1 MilesCorak€¦ · Objectives PositivevsNormative Methodsandmodels...

Objectives Positive vs Normative Methods and models Two great questions A formal model Summary

The method and scope of economicsEconomics for Everyone, Block 1

Miles Corak

MilesCorak.com @MilesCorakThe Graduate Center, City University of New Work

Lecture 1

https://milescorak.com/

https://twitter.com/MilesCorak


Introduction to Block 1

Objectives for this block of classesas listed in the course outline

1 A definition of the subject.2 Economic methods and models.3 The two “great” questions: how a society generates a surplus,

how that surplus is distributed.

1 Positive versus Normative economics.2 Some core concepts and pitfalls: marginal reasoning, scarcity,

opportunity costs.3 Comparative advantage and the gains from trade.



A “silly” problem: Miles needs a cappuccino



A “silly” problem: Miles needs a cappuccinoFigure 1: A map of nearby coffee shops



A “silly” problem: Miles needs a cappuccinoTable 1: Results from a price survey

Establishment Price in dollars Distance frommy bus stop

Starbucks $3.00 0 blocks awaySecond Cup $2.95 1 1/2 blocks away

Timothy’s World Coffee $2.90 2 1/2 blocks away

Source: data collected by the Author, autumn 2008



Not so “silly” problems

What determines now much we earn for the hours of work weput in?What determines the benefits of an extra year of schooling?What determines the value we place on the air, water, andnatural environment around us?Why do some in the world have so much, and others so little?

What determines how many babies we should have?


An example from an economic theorist

Milton Friedman on “Positive” vs “Normative” economics“The Methodology of Positive Economics”

Positive economics is in principle independent of any particular ethical positionor normative judgments. As Keynes says, it deals with “what is,” not with“what ought to be.” Its task is to provide a system of generalizations that canbe used to make correct predictions about the consequences of any change incircumstances. Its performance is to be judged by the precision, scope, andconformity with experience of the predictions it yields. In short, positiveeconomics is, or can be, an “objective” science. Of course, the fact thateconomics deals with the interrelations of human beings, and that theinvestigator is himself part of the subject matter being investigated in a moreintimate sense than in the physical sciences, raises special difficulties inachieving objectivity....1

1Milton Friedman (1953), “The Methodology of Positive Economics.” In Essays inPositive Economics. Chicago: University of Chicago Press, page 4.

Economics is a science


Theory and the scientific method

How to evaluate a theory

critique the logicevaluate the predictions



How not to evaluate a theory

are the assumptions realistic?Friedman asserts: “the more significant the theory, the moreunrealistic the assumptions”



We should judge a theoretical model not by the realism ofits assumptions, but by the validity of its predictions


Another example

A “silly” problem: Miles needs a cappuccinoFigure 2: Another map of nearby coffee shops

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Sciences / ScienceMarion140 Louis-Pasteur

Admission / Admissions

Faculté / Faculty

1er cycle / UndergraduateTabaret550 Cumberland

2e et 3e cycles / GraduateHagen115 Séraphin-Marion

Éducation / EducationLamoureux145 Jean-Jacques Lussier

Études supérieures / Graduate StudiesHagen115 Séraphin-Marion

Génie / EngineeringColonel By161 Louis-Pasteur

Sciences de la santé / Health SciencesGuindon451 Smyth

Sciences sociales / Social SciencesTabaret550 Cumberland

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Bibliothèque Morisset Library(Sciences sociales et humanités /Social Sciences and Humanities)• Morisset

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Cartothèque / Map Library• Morisset 353

Musicothèque / Music Library• Pérez 302

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Another example

A “silly” problem: Miles needs a cappuccinoFigure 1: A map of nearby coffee shops


Another example

Making and testing a prediction


Elements of a model inspired by Malthus

Malthus makes two assumptionsand uses an “equilibrium” condition

1 he observes that human populations double every 10 to 25years when the environment provides for above subsistenceamount of food

2, 4, 8, 16, 32, 64,128, 256his model is a model over the long run, measured in decadesand generations

2 the production of food cannot increase at the same rate, infact it probably increases at a diminishing rate

Something has to give, and that is done through a process thatequilibrates population with the productivity of the land. Theequilibrating process invloves changes in population.



Equilibrium in the Malthusian modela long run model with population change

... the human race will be constantly endeavouring to increasebeyond the means of subsistence. But as by that law of our naturewhich makes food necessary to the life of man, populations cannever actually increase beyond the lowest nourishment capable ofsupporting it; a strong check on population, from the difficulty ofacquiring food, must be constantly in operation. This difficultymust fall somewhere, and must necessarily be severely felt in someor other of the various forms of misery, or the fear of misery, by alarge portion of mankind.2

2T. R. Malthus (1803), An Essay on the Principle of Population. or, A View of itsPast and Present Effects on Human Happiness; with an inquiry into our prospectsrespecting the future removal or mitigation of the evils which it occasions. Selectedand introduced by Donald Winch. Cambridge: Cambridge University Press, page 15.



Equilibrium in the Malthusian modela long run model with population change

The ... checks to population are extremely various, and includeevery cause, whether arising from vice or misery, which in anydegree contributes to shorten the natural duration of human life.Under this head therefore may be enumerated, all unwholesomeoccupations, severe labour and exposure to the seasons, extremepoverty, bad nursing of children, great towns, excesses of all kinds,the whole train of common diseases and epidemics, wars,pestilence, plague, and famine.3

3T. R. Malthus (1803), An Essay on the Principle of Population. or, A View of itsPast and Present Effects on Human Happiness; with an inquiry into our prospectsrespecting the future removal or mitigation of the evils which it occasions. Selectedand introduced by Donald Winch. Cambridge: Cambridge University Press, page 23.



Is this positive economics, or is it normative economics?


Adding the concept of “scarcity” and the method of marginal analysis

What does it mean to say a resource is “scarce”?an example from David Ricardo

On the first settling of a country, in which there is an abundanceof rich and fertile land, a very small proportion of which is requiredto be cultivated for the support of the actual population, or indeedcan be cultivated with the capital which the population cancommand, there will be no rent; for no one would pay for the useof the land, when there was an abundant quantity not yetappropriated, and, therefore, at the disposal of whosoever mightchoose to cultivate it. On the common principles of supply anddemand, no rent could be paid for such land, for the reason statedwhy nothing is given for the use of air and water, or for any otherof the gifts of nature which exist in boundless quantity.4

4David Ricardo (1817). On the Principles of Political Economy and Taxation.Volume I of The Works and Correspondence of David Ricardo. Piero Sraffa (editor).Cambridge: Cambridge University Press. Page 69.




When population is relatively small land has no economicvalue, no price, it is free like the air we breath. It is, in otherwords, not scarce.At some point our demands upon the natural resourcesaround us increase to the point that they exceed the availablesupply, and at that point—and only at that point—we havean economic issue.Scarcity implies that we face trade-offs in allocating what isavailable to all the uses it could be put.Many people have defined the subject of economics as thestudy of how to allocate scarce resources among thecompeting demands placed upon them.




If a resource is said to be “scarce” all we mean is that the quantityof it available is not sufficient to satisfy all the demands put on it.At some population level land becomes scarce in Malthus’s model.


Microeconomics

Scarcity, opportunity costs, trade-offsthe definition of “opportunity costs”

When we reach the point of scarcity our actions entail a typeof cost because of the trade-offs that must be made, the useof the resource for one purpose implies that it cannot be usedfor other purposes.In making a particular use we forgo other possibilities. For thisreason we refer to these costs as “opportunity costs.”They are the value we attach to the next best alternative useof the resource, the value of the opportunity foregone.


Microeconomics

Scarcity, opportunity costs, trade-offsthe definition of “opportunity costs”

in the context of scarcity we have an economic problem:how to allocate resources in a way that maximizes the socialgood.

Or another way of putting it: how to maximize the surplus insociety, and how to allocate that surplus across the membersof society.

The first is a question of production, or growth, and thesecond is a question of distribution.


Microeconomics

Scarcity, opportunity costs, trade-offsthe definition of “microeconomics”

Microeconomic reasoning concerns questions of allocation,and it leads to the realization that the maximization ofsomething—the total production less the total costs ofproduction (which is what we mean by “surplus”)—requiresmarginal reasoning; maximization occurs when the marginalbenefits of an action just equal the marginal costs.Consider Miles’s “silly” problem: The most obvious exampleof a resource that has an opportunity cost is our time, andthat is what is driving the pattern of cappuccino prices.


Some assumptions

Two types of assumptions1. technical assumptions

1. There is only one goodcall it “corn”surplus is easy to measureno need to worry about prices

2. There are two resourcesland and labourland owners earn a “rent”,workers earn a “wage”rents and wage are paid in corn

3.There are four types of landcharacterized by a diminishing productivity that does not change overtime


Some assumptions

Two types of assumptions2. behavioural assumptions

Technical assumptions alone do not tell us how much land willbe cultivated, how much corn will be produced, how large thepopulation will be, nor how the corn is distributed among theclasses of the populationa behavioural assumption is needed

borrow from Malthusthere is a clearly defined subsistence level of cornabove this level population increases, below this level itdecreases


The Ricardo-Malthus corn model

A graphical depiction of the model


The Ricardo-Malthus corn model

A graphical depiction of the model

Type 1 Type 2 Type 3 Type 4

100

90 subsistence level

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0 100 200 300

number of labourers per period of time


Using the model to make predictions: an exercise in comparative statics

What is the impact of “foreign aid”?

Type 1 Type 2 Type 3 Type 4

100

90 subsistence level

80 aid

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rm p

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n

0 100 200 300 400

number of labourers per period of time


A Definition of Economics

A definition of the subjectwhat is economics?

Appendix

For Further Reading

A. Author.Handbook of Everything.Some Press, 1990.S. Someone.On this and that.Journal on This and That. 2(1):50–100, 2000.

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