Chapter 2 (macro)

Chapter 2: Observing and Explaining the Economy

• Key Role of Economists

  • Economists aim to explain observations and facts about the economy.

  • Understanding economic events is crucial for making informed policy recommendations.

  • Incorrect explanations may lead to harmful policy responses during economic crises.

Fundamental Questions in Economics

• Economists investigate various important questions, including:

  • What drives community college enrollment during recessions?

  • What causes Super Bowl ticket prices to change?

  • Why is healthcare spending increasing faster than the overall economy?

  • What factors contributed to China's dramatic economic growth over the last 30 years?

  • What triggered the 2008 U.S. recession?

Correlation and Causation

Key Definitions

• Economic Variables:

  • Any economic measure that can vary over a range of values

  • Example: vehicle miles traveled per person, price of gasoline

  • Two variables are correlated if they move up down together

• Correlation:

  • Occurs when two variables move in the same direction (when one moves up, so does the other)

Distinguishing Correlation from Causation

• Correlation does not imply causation; careful analysis is necessary to determine which factor causes the other.

Controlled Experiments and Experimental Economics

Defintion

• Controlled experiments: empirical tests of theories in a controlled setting in which particular effects can be isolated

• Experimental economics: a branch of economics that uses laboratory experiments to analyze economic behavior

Economic Models

• Definitions:

  • An economic model explains how economies function, often through simplifications.

  • Differentiates between microeconomics (individual firms and households) and macroeconomics (overall economy).

Model Presentation Types

Multiple Descriptions

• Economic models can be represented verbally through numerical data, graphs, or algebraic expressions.

Example of a Two-Variable Model

• Model Representation:

  1. Verbal - More doctors lead to more physical examinations, with diminishing returns.

  2. Numerical - A table showing the relationships.

  3. Graph - Visual representation of the relationship.

  4. Algebra - Formula elucidating the relationship between variables.

Micro/Macro Economics

• Microeconomics: looks at individual decision-making at firms and households and the way they interact in specific industries

• Macroeconomics: looks at problems of the economy as a whole; focuses on variables, such as the GDP growth and unemployment

Gross Domestic Product (GDP):

• the most comprehensive measure of the size of an economy

• total value of all goods and services made in the country during a specific period of time

• includes all newly made goods like cars, shoes, gas, airplanes, and houses as well as services such as healthcare, education, and financial services

• Positively Related: an increase in one variable is associated with an increase in another variable (also called directly related)

  • Features: upward sloping

• Negatively Related: an increase in one variable is associated with a decrease in another variable, also called inversely related

  • Features: downward sloping

Ceteris Paribus Assumption

• This assumption facilitates predictions by holding other conditions constant while altering one variable.

Positive vs. Normative Economics

Definitions

• Positive Economics:

  • Describes and analyzes what happens in economics without policy recommendations.

  • Example: Discussing the decline in driving during the recession.

• Normative Economics:

  • Offers recommendations on what policies should be implemented.

  • Example: Proposing actions to prevent future increases in driving for environmental protection.