economic theory

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Face-to-face trading interactions on the New York Stock Exchange trading floor. Financial decisions can be one of those many economic choices people make.
Economics is the social science that studies the production, distribution, and consumption of goods and services. The term economics comes from the Greek for oikos (house) and nomos (custom or law), hence "rules of the house(hold)."

A definition that captures much of modern economics is that of Lionel Robbins in a 1932 essay: "the science which studies human behaviour as a relationship between ends and scarce means which have alternative uses." Scarcity means that available resources are insufficient to satisfy all wants and needs. Absent scarcity and alternative uses of available resources, there is no economic problem. The subject thus defined involves the study of choices as they are affected by incentives and resources.

Areas of economics may be divided or classified in various ways, including: One of the uses of economics is to explain how economies work and what the relations are between economic players (agents) in the larger society. Methods of economic analysis have been increasingly applied to fields that involve people (officials included) making choices in a social context, such as crime [1], education [2], the family, health, law, politics, religion [3], social institutions, and war [4].

In the beginning

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initiating modern economics]].

Although discussions about production and distribution have a long history, economics in its modern sense is conventionally dated from the publication of Adam Smith's The Wealth of Nations in 1776.[1] In this work Smith describes the subject in these practical and exacting terms:
Political economy, considered as a branch of the science of a statesman or legislator, proposes two distinct objects: first, to supply a plentiful revenue or product for the people, or, more properly, to enable them to provide such a revenue or subsistence for themselves; and secondly, to supply the state or commonwealth with a revenue sufficient for the public services. It proposes to enrich both the people and the sovereign.
Smith referred to the subject as 'political economy', but that term was gradually replaced in general usage by 'economics' after 1870.

Areas of economics

Areas of economics may be classified in various ways, but an economy is usually analyzed by use of microeconomics or macroeconomics.


Main article: Microeconomics
Microeconomics examines the economic behavior of agents (including individuals and firms) and their interactions through individual markets, given scarcity and government regulation. A given market might be for a product, say fresh corn, or a factor of production, say bricklaying. The theory considers of quantity demanded by buyers and quantity supplied by sellers at each possible price per unit. It weaves these together to describe how the market may reach equilibrium as to price and quantity or respond to market changes over time. This is broadly termed demand-and-supply analysis. Market structures, such as perfect competition and monopoly, are examined as to implications for behavior and economic efficiency. Analysis often proceeds from the simplifying assumption that behavior in other markets remains unchanged, that is, partial-equilibrium analysis. General-equilibrium theory allows for changes in different markets and aggregates across all markets, including their movements and interactions toward equilibrium.[2][3]


Main article: Macroeconomics
Macroeconomics examines the economy as a whole "top down" to explain broad aggregates and their interactions. Such aggregates include national income and output, the unemployment rate, and price inflation and subaggregates like total consumption and investment spending and their components. It also studies effects of monetary policy and fiscal policy. Since at least the 1960s, macroeconomics has been characterized by further integration as to micro-based modeling of sectors, including rationality of players, efficient use of market information, and imperfect competition.[4] This has addressed a long-standing concern about inconsistent developments of the same subject.[5] Analysis also considers factors affecting the long-term level and growth of national income within a country and across countries.[6][7]

Related fields, other distinctions, and classifications

Recent developments closer to microeconomics include behavioral economics and experimental economics. Fields bordering on other social sciences include economic geography, economic history, public choice, , and institutional economics.

Another division of the subject distinguishes two types of economics. Positive economics ("what is") seeks to explain economic phenomena or behavior. Normative economics ("what ought to be," often as to public policy) prioritizes choices and actions by some set of criteria; such priorities reflect value judgments, including selection of the criteria.

Another distinction is between mainstream economics and heterodox economics. One broad characterization describes mainstream economics as dealing with the "rationality-individualism-equilibrium nexus" and heterodox economics as defined by a "institutions-history-social structure nexus." [8]

The JEL classification codes of the Journal of Economic Literature provide a comprehensive, detailed way of classifying and searching for economics articles by subject matter. An alternative classification of often-detailed entries by mutually-exclusive categories and subcategories is (1987).[9]

Mathematical and quantitative methods

Economics as an academic subject often uses geometric methods, in addition to literary methods. Other general mathematical and quantitative methods are also often used for rigorous analysis of the economy or areas within economics. Such methods include the following.

Mathematical economics

Mathematical economics refers to application of mathematical methods to represent economic theory or analyze problems posed in economics. It uses such methods as calculus and matrix algebra. Expositors cite its advantage in allowing formulation and derivation of key relationships in an economic model with clarity, generality, rigor, and simplicity.[10] For example, Paul Samuelson's book Foundations of Economic Analysis (1947) identifies a common mathematical structure across multiple fields in the subject.


Main article: Econometrics
Econometrics applies mathematical and statistical methods to analyze data related to economic models. For example, a theory may hypothesize that a person with more education will on average earn more income than person with less education holding everything else equal. Econometric estimates can estimate the magnitude and statistical significance of the relation. Econometrics can be used to draw quantitative generalizations. These include testing or refining a theory, describing the relation of past variables, and forecasting future variables.[11]

National accounting

Main article: National accounts
National accounting is a method for summarizing economic activity of a nation. The national accounts are double-entry accounting systems that provide detailed underlying measures of such information. These include the national income and product accounts (NIPA), which provide estimates for the money value of output and income per year or quarter. NIPA allows for tracking the performance of an economy and its components through business cycles or over longer periods. Price data may permit distinguishing nominal from real amounts, that is, correcting money totals for price changes over time.[12][13] The national accounts also include measurement of the capital stock, wealth of a nation, and international capital flows.[14]

Selected fields

Development and growth economics

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Chart of World GDP per capita by region over the last 2000 years. GDP per capita is a convenient summary measure of long-term economic development.|thumb
Growth economics studies factors that explain economic growth – the increase in output per capita of a country over a longer period of time. The same factors are used to explain differences in the level of output per capita between countries, Much-studied factors include the rate of investment, population growth, and technological change. These are represented in theoretical and empirical forms (as in the neoclassical growth model) and in growth accounting. At a more specific level, development economics examines economic aspects of the development process in relatively low-income countries with a focus on methods of promoting economic growth. Approaches in development economics frequently incorporate social and political factors to devise particular plans.[15][16][17][18]

Economic systems

Main article: Economic system
Economic systems is the of economics that studies the methods and institutions by which societies determine the ownership, direction, and allocaton of economic resources. An economic system of a society is the unit of analysis. Among contemporary systems at different ends of the organizational spectrum are socialist systems and capitalist systems, in which most production occurs in respectively state-run and private enterprises. In between are mixed economies. A common element is the interaction of economic and political influences, broadly described as political economy. Comparative economic systems studies the relative performance and behavior of different economies or systems.[19][20]

Environmental economics

Environmental economics is concerned with issues related to degradation, enhancement, or preservation of the environment. In particular, public bads from production or consumption, such as air pollution, can lead to market failure. The subject considers how public policy can be used to correct such failures. Policy options include regulations that reflect cost-benefit analysis or market solutions that change incentives, such as emission fees or redefinition of property rights.[21][22]

Financial economics

Main article: Financial economics
Financial economics, often simply referred to as finance, is concerned with the allocation of financial resources in an uncertain (or risky) environment. Thus, its focus is on the operation of financial markets, the pricing of financial instruments, and the financial structure of companies.[23]

Game theory

Main article: Game theory
Game theory is a branch of applied mathematics that studies strategic interactions between agents. In strategic games, agents choose strategies that will maximize their payoff, given the strategies the other agents choose. It provides a formal modeling approach to social situations in which decision makers interact with other agents. Game theory generalizes maximization approaches developed to analyze markets such as the supply and demand model. The field dates from the 1944 classic Theory of Games and Economic Behavior by John von Neumann and Oskar Morgenstern. It has found significant applications in many areas outside economics as usually construed, including formulation of nuclear strategies, ethics, political science, and evolutionary theory.[24]

Industrial organization

Industrial organization studies the strategic behavior of firms, the structure of markets and their interactions. The common market structures studied include perfect competition, monopolistic competition, various forms of oligopoly, and monopoly.[25]

Information economics

Main article: Information economics
Information economics examines how information (or a lack of it) affects economic decision-making. An important focus is the concept of information asymmetry, where one party has more or better information than the other. The existence of information asymmetry gives rise to problems such as moral hazard, and adverse selection, studied in contract theory. The economics of information has relevance in many fields, including finance, insurance, contract law, and decision-making under risk and uncertainty.

International economics

International trade studies the determinants of the flow of goods and services across international boundaries. International finance is a macroeconomic field which examines the flow of capital across international borders, and the effects of these movements on exchange rates. Increased trade in goods, services and capital between countries is a major effect of contemporary globalization.

Labour economics

Main article: Labour economics
Labour economics seeks to understand the functioning of the market and dynamics for labour. Labour markets function through the interaction of workers and employers. Labour economics looks at the suppliers of labour services (workers), the demanders of labour services (employers), and attempts to understand the resulting patterns of wages and other labour income and of employment and unemployment, Practical uses include assisting the formulation of full employment of policies.[26]

Law and economics

Main article: Law and Economics
Law and economics, or economic analysis of law, is an approach to legal theory that applies methods of economics to law. It includes the use of economic concepts to explain the effects of laws, to assess which legal rules are economically efficient, and to predict what the legal rules will be.[27][28] A seminal article by Ronald Coase published in 1961 suggested that well-defined property rights could overcome the problems of externalities.[29]

Managerial economics

Main article: Managerial economics
Managerial economics applies microeconomic analysis to specific decisions in business firms or other management units. It draws heavily from quantitative methods such as operations research and programming and from statistical methods such as regression analysis in the absence of certainty and perfect knowledge. A unifying theme is the attempt to optimize business decisions, including unit-cost minimization and profit maximization, given the firm's objectives and constraints imposed by technology and market conditons.[30] [31]

Public finance

Main article: Public finance
Public finance is the field of economics that deals with budgeting the revenues and expenditures of a public sector entity, usually government. The subject addresses such matters as tax incidence (who really pays a particular tax), cost-benefit analysis of government programs, effects on economic efficiency and income distribution of different kinds of spending and taxes, and fiscal politics. The latter, an aspect of public choice theory, models public-sector behavior analogously to microeconomics, involving interactions of self-interested voters, politicians, and bureaucrats.[32]

Welfare economics

Main article: Welfare economics
Welfare economics is a branch of economics that uses microeconomic techniques to simultaneously determine the allocative efficiency within an economy and the income distribution associated with it. It attempts to measure social welfare by examining the economic activities of the individuals that comprise society.[33]

Economic concepts

Supply and demand

Main article: Supply and demand
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The supply and demand model describes how prices vary as a result of a balance between product availability and demand. The graph depicts an increase (that is, right-shift) in demand from D1 to D2 along with the consequent increase in price and quantity required to reach a new equilibrium point on the supply curve (S).
The theory of demand and supply is an organizing principle to explain prices and quantities of goods sold and changes thereof in a market economy. In microeconomic theory, it refers to price and output determination in a perfectly competitive market. This has served as a building block for modeling other market structures and for other theoretical approaches.

For a given market of a commodity, demand shows the quantity that all prospective buyers would be prepared to purchase at each unit price of the good. Demand is often represented using a table or a graph relating price and quantity demanded (see boxed figure). Demand theory describes individual consumers as "rationally" choosing the most preferred quantity of each good, given income, prices, tastes, etc. A term for this is 'constrained utility maximization' (with income as the "constraint" on demand). Here, 'utility' refers to the (hypothesized) preference relation for individual consumers. Utility and income are then used to model hypothesized properties about the effect of a price change on the quantity demanded. The law of demand states that, in general, price and quantity demanded in a given market are inversely related. In other words, the higher the price of a product, the less of it people would be able and willing buy of it (other things unchanged). As the price of a commodity rises, overall purchasing power decreases (the income effect) and consumers move toward relatively less expensive goods (the substitution effect). Other factors can also affect demand; for example an increase in income will shift the demand curve outward relative to the origin, as in the figure.

Supply is the relation between the price of a good and the quantity available for sale from suppliers (such as producers) at that price. Supply is often represented using a table or graph relating price and quantity supplied. Producers are hypothesized to be profit-maximizers, meaning that they attempt to produce the amount of goods that will bring them the highest profit. Supply is typically represented as a directly proportional relation between price and quantity supplied (other things unchanged). In other words, the higher the price at which the good can be sold, the more of it producers will supply. The higher price makes it profitable to increase production. At a price below equilibrium, there is a shortage of quantity supplied compared to quantity demanded. This pulls the price up. At a price above equilibrium, there is a surplus of quantity supplied compared to quantity demanded. This pushes the price down. The model of supply and demand predicts that for a given supply and demand curve, price and quantity will stabilize at the price that makes quantity supplied equal to quantity demanded. This is at the intersection of the two curves in the graph above, market equilibrium.

For a given quantity of a good, the price point on the demand curve indicates the value, or marginal utility[34] to consumers for that unit of output. It measures what the consumer would be prepared to pay for the corresponding unit of the good. The price point on the supply curve measures marginal cost, the increase in total cost to the supplier for the corresponding unit of the good. The price in equilibrium is determined by supply and demand. In a perfectly competitive market, supply and demand equate cost and value at equilibrium.[35]

Demand and supply can also be used to model the distribution of income to the factors of production, including labour and capital, through factor markets. In a labour market for example, the quantity of labour employed and the price of labour (the wage rate) are modeled as set by the demand for labour (from business firms etc. for production) and supply of labour (from workers).

Demand and supply are used to explain the behavior of perfectly competitive markets, but their usefulness as a standard of performance extends to any type of market. Demand and supply can also be generalized to explain macroeconomic variables in a market economy, for example, quantity of total output and the general price level.

Prices and quantities

Main articles: Price and Prices and quantities
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Even a currency has a price, its exchange rate in currency markets. Its determination by supply and demand is an important issue in international trade.
In supply-and-demand analysis, price, the going rate of exchange for a good, coordinates production and consumption quantities. Price and quantity have been described as the most directly observable characteristics of a good produced for the market.[36] Supply, demand, and market equilibrium are theoretical constructs linking price and quantity. But tracing the effects of factors predicted to change supply and demand -- and through them, price and quantity -- is a standard exercise in applied microeconomics and macroeconomics. Economic theory can specify under what circumstances price demonstrably serves as an efficient communication device to regulate quantity.[37] A real-world counterpart might attempt to measure how much variables that increase supply or demand change price and quantity.

Elementary demand-and-supply theory predicts equilibrium but not the speed of adjustment for changes of equilibrium due to a shift in demand or supply.[38] In many areas, some form of "price stickiness" is postulated to account for quantities, rather than prices, adjusting in the short run to changes on the demand side or the supply side. This includes standard analysis of the business cycle in macroeconomics. Analysis often revolves around causes of such price stickiness and their implications for reaching a hypothesized long-run equilibrium. Examples of such price stickiness in particular markets include wage rates in labour markets and posted prices in markets deviating from perfect competition.

Another area of economics considers whether markets adequately take account of all social costs and benefits. An externality is said to occur where there are significant social costs or benefits from production or consumption that are not reflected in market prices. For example, air pollution may generate a negative externality, and education may generate a positive externality (less crime, etc.). Governments often tax and otherwise restrict the sale of goods that have negative externalities and subsidize or otherwise promote the purchase of goods that have positive externalities in an effort to correct the price distortions caused by these externalities.[39]


Main article: Marginalism
Marginalist economic theory, such as above, describes consumers as attempting to reach a most-preferred position, subject to constraints, including income and wealth. It describes producers as attempting to maximize profits subject to their own constraints (including demand for goods produced, technology, and the price of inputs). Thus, for a consumer, at the point where marginal utility of a good, net of price, reaches zero, further increases in consumption of that good stop. Analogously, a producer compares marginal revenue against marginal cost of a good, with the difference as marginal profit. At the point where the marginal profit reaches zero, further increases in production of the good stop. For movement to equilibrium and for changes in equilibrium, behavior also changes "at the margin" -- usually more-or-less of something, rather than all-or-nothing.

Related conditions and considerations apply more generally to any type of economic system, whether market-based or not, where there is scarcity.[40] Scarcity is defined by the amount of producible or exchangeable goods, whether needed or desired, exceeding feasible production.[41] The conditions are in the form of constraints on production from finite resources available. Such resource constraints describe a menu of production possibilities. For consumers or other agents, production possibilities and scarcity are posited to imply that, even if resources are fully utilized, there are trade-offs, whether of radishes for carrots, non-work time for money income, private goods for public goods, or present consumption for future consumption. The marginalist notion of opportunity cost is a device to measure the size of the trade-off between competing alternatives. Such costs, reflected in prices of a market economy, are used for analysis of economic efficiency or for predicting responses to disturbances in a market economy. In a centrally planned economy, comparable shadow-price relations must be satisfied for the efficient use of resources in meeting production objectives.[42] At this level, marginalism can be used as a tool for modeling not only individual agents or markets but different economic systems and broad allocations of output in relation to variables that affect them.

Economic reasoning

Economics as a contemporary discipline relies on rigorous styles of argument. Objectives include formulating theories that are simpler, more fruitful, and more reliable in their explanatory power than other theories.[43] Often analysis begins with a simple model to isolate relations of a variable to be explained. Complications may be impounded in a ceteris paribus ("other things equal") assumption. For example, the quantity theory of money hypothesizes a positive relationship between the price level and the money supply, ceteris paribus. The theory can be tested using economic data, such as a price index for GDP and a measure of the money supply, say currency plus bank deposits. Econometric methods can allow for the influence of competing explanations and attempt to adjust for noise from other variables in the absence of a controlled experiment. More recently, the use of experimental methods in economics has greatly expanded, challenging a historically-noted differentiating feature of some natural sciences from economics.[44]

Expositions of reasoning within economic models often use two-dimensional graphs to represent theoretical relationships. At a higher level of generality, Paul Samuelson's treatise Foundations of Economic Analysis (1947) showed how to apply mathematical methods to examine the class of assertions called operationally meaningful theorems in economics, which are theorems that can conceivably be refuted by empirical data.[45] Such assertions permit testing of a theory.

Some reject mathematical economics. Thus, in the Austrian school of economics it is argued that anything beyond simple logic is likely unnecessary and inappropriate for economic analysis. Still, economics has undergone a thorough, cumulative formalization of concepts and methods, including for use in the hypothetico-deductive method of explaining real-world phenomena. An example of the latter is the extension of microeconomic analysis to seemingly non-economic areas, sometimes called economic imperialism.[46]

History and schools of economics

Economic thought may be roughly divided into three phases: premodern to about the 15th century, early modern (mercantilist, physiocrats) from the 15th to 18th century,[47] and modern (since Adam Smith in the late 18th century). Systematic economic theory has been developed mainly since the birth of the modern era. Joseph Schumpeter specifically credits the development of the scientific study of economics to the Late Scholastics, particularly those of 15th and 16th century Spain (see his History of Economic Analysis).

Ancient economic thought

Economics was studied in various ancient civilizations, including the Mesopotamian, Greek, Roman, Indian, Chinese, Persian and Arab civilizations. Notable ancient economic thinkers include Aristotle, Chanakya, Qin Shi Huang, Thomas Aquinas, and Ibn Khaldun.

Classical economics

Main article: Classical economics
Publication of Adam Smith's The Wealth of Nations in 1776, has been described as "the effective birth of economics as a separate discipline."[47] In his famous invisible-hand analogy, Smith argued for the seemingly paradoxical notion that competitive markets tended to advance broader social interests, although driven by narrower self-interest. The general approach that Smith helped initiate was called political economy and later classical economics. It included such notables as Thomas Malthus, David Ricardo, and John Stuart Mill writing from about 1770 to 1870.[49]

Value theory was important in classical theory. Smith wrote that the "real price of every thing ... is the toil and trouble of acquiring it" as influenced by its scarcity. Smith maintained that, with rent and profit, other costs besides wages also enter the price of a commodity.[50] Other classical economists presented variations on Smith, termed the 'labour theory of value'. Classical economics focused on the tendency of markets to move to long-run equilibrium.

Marxist economics

Main article: Marxian economics
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The Marxist school of economic thought comes from the work of German economist Karl Marx.
Marxist (later, Marxian) economics descends from classical economics. It derives from the work of Karl Marx. The first volume of Marx's major work, Capital, was published in German in 1867. In it, Marx focused on the labour theory of value and what he considered to be the exploitation of labour by capital. Thus, the labour theory of value, rather than simply a theory of price, was a method for measuring the exploitation of labour in a capitalist society,[51][52] although concealed by appearances of "vulgar" political economy.[53][54]

Neoclassical economics

A body of theory later termed 'neoclassical economics' or 'marginalist economics' formed from about 1870 to 1910. The term 'economics' was popularized by neoclassical economists such as Alfred Marshall as a substitute for the earlier term 'political economy'. Neoclassical economics systematized supply and demand as joint determinants of price and quantity in market equilibrium, affecting both the allocation of output and the distribution of income. It dispensed with the labour theory of value inherited from classical economics in favor of a marginal utility theory of value on the demand side and a more general theory of costs on the supply side.<ref name=>Campos, Antonietta (1987). "marginalist economics". The New Palgrave: A Dictionary of Economics. London and New York: Macmillan and Stockton, v. 3, 320. ISBN 0333372352. 

In microeconomics, neoclassical economics represents incentives and costs as playing a pervasive role in shaping decision making. An immediate example of this is the consumer theory of individual demand, which isolates how prices (as costs) and income affect quantity demanded. In macroeconomics it is reflected in an early and lasting neoclassical synthesis with Keynesian macroeconomics.[55][56]

Neoclassical economics is occasionally referred as orthodox economics whether by its critics or sympathizers. Modern mainstream economics builds on neoclassical economics but with many refinements that either supplement or generalize earlier analysis, such as econometrics, game theory, analysis of market failure and imperfect competition, and the neoclassical model of economic growth for analyzing long-run variables affecting national income.

Keynesian economics

Main article: Keynesian economics
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John Maynard Keynes (above, right), widely considered a towering figure in economics.
Keynesian economics derives from John Maynard Keynes, in particular his book The General Theory of Employment, Interest and Money (1936), which ushered in contemporary macroeconomics as a distinct field.[57][58] The book focused on determinants of national income in the short run when prices are relatively inflexible. Keynes attempted to explain in broad theoretical detail why high labour-market unemployment might not be self-correcting due to low "effective demand" and why even price flexibility and monetary policy might be unavailing. Such terms as "revolutionary" have been applied to the book in its impact on economic analysis.[59][60][61]

Keynesian economics has two successors. Post-Keynesian economics also concentrates on macroeconomic rigidities and adjustment processes. Research on micro foundations for their models is represented as based on real-life practices rather than simple optimizing models. It is generally associated with the University of Cambridge and the work of Joan Robinson.[62] New-Keynesian economics is also associated with developments in the Keynesian fashion. Within this group researchers tend to share with other economists the emphasis on models employing micro foundations and optimizing behavior but with a narrower focus on standard Keynesian themes such as price and wage rigidity. These are usually made to be endogenous features of the models, rather than simply assumed as in older Keynesian-style ones.

Other schools and approaches

Other well-known schools or trends of thought referring to a particular style of economics practiced at and disseminated from well-defined groups of academicians that have become known worldwide, include the Austrian School, Chicago School, the Freiburg School, the School of Lausanne and the Stockholm school.

Within macroeconomics there is, in general order of their appearance in the literature; classical economics, Keynesian economics, the neoclassical synthesis, post-Keynesian economics, monetarism, new classical economics, and supply-side economics. New alternative developments include evolutionary economics, dependency theory, and world systems theory.

Historic definitions of economics

This section extends the discussion of the definitions of Economics at the beginning of the article.

Wealth definition

Some early definitions of political economy were succinctly related to wealth, which was broadly construed. Adam Smith defined the subject as simply the "Science of wealth."[63] Smith offered another definition, "the Science relating to the laws of production, distribution and exchange."<ref name="smith" /> Wealth was defined as the specialization of labour which allowed a nation to produce more with its supply of labour and resources. This definition divided Smith and Hume from previous definitions which defined wealth as gold. Hume argued that gold without increased activity only serves to raise prices.[64]

John Stuart Mill defined economics as "the practical science of production and distribution of wealth"; this definition was adopted by the Concise Oxford English Dictionary even though it does not include the vital role of consumption. For Mill, wealth is defined as the stock of useful things.[65]

Definitions of the subject in terms of wealth emphasize production and consumption. This emphasis was charged by critics as too narrow a focus in placing wealth to the forefront and man in the background. For example, John Ruskin referred disparagingly to political economy as "the science of getting rich"[66] and a "bastard science."[67]

Welfare definition

Broader later definitions evolved to include the study of man, human activity, and human welfare, not wealth as such. Alfred Marshall in his 1890 book Principles of Economics wrote, "Political Economy or Economics is a study of mankind in the ordinary business of Life; it examines that part of the individual and social action which is most closely connected with the attainment and with the use of material requisites of well-being."[68]

Economic theory criticisms

Is economics a science?

One of the marks of a science is the use of a scientific method and the ability to establish hypotheses and make predictions which can then be tested with data and where the results are repeatable and demonstrable to others when the same conditions are present. In a number of applied fields in economics experimentation has been conducted: this includes the sub-fields of experimental economics and consumer behavior, focused on experimentation using human subjects; and the sub-field of econometrics, focused on testing hypotheses when data are not generated via controlled experimentation. However, in a way similar to what happens in other social sciences, it may be difficult for economists to conduct certain formal experiments due to moral and practical issues involved with human subjects.

The status of the social sciences as an empirical science or even a science, has been a matter of debate since the 20th century. Some philosophers and scientists, most notably Karl Popper, have asserted that no empirical hypothesis, proposition, or theory can be considered scientific if no observation could be made which might contradict it, insisting on strict falsifiability, see Positivism dispute.[69] Critics allege that economics cannot always achieve Popperian falsifiability, but economists point to many examples of controlled experiments that do exactly this, albeit in laboratory settings.[70][71][72]

While economics has produced theories that correlate with observations of behavior in society, economics yields no natural laws or universal constants due to its reliance on non-physical arguments. This has led some critics to argue economics is not a science.[73][74] In general, economists reply that while this aspect may present serious difficulties, they do in fact test their hypotheses using statistical methods such as econometrics and data generated in the real world.[75] The field of experimental economics has seen efforts to test at least some predictions of economic theories in a simulated laboratory setting – an endeavor which earned Vernon Smith and Daniel Kahneman the Bank of Sweden Prize in Economic Sciences in Memory of Alfred Nobel in 2002.

Although the conventional way of connecting an economic model with the world is through econometric analysis, economist and professor Deirdre McCloskey, through what is known as the McCloskey critique, cites many examples in which professors of econometrics were able to use the same data to both prove and disprove the applicability of a model's conclusions. She argues the vast efforts expended by economists on analytical equations is essentially wasted effort. Econometricians have replied that this would be an objection to any science, and not only to economics. Critics of McCloskey's critique reply by saying, among other things, that she ignores examples where economic analysis is conclusive and that her claims are illogical. [76]

Nobel Prize laureate and philosopher Friedrich Hayek thought that economics is a social science, but argued that the propensity to imitate the procedures of physical sciences in economics leads to outright error and is decidedly unscientific since it involves a mechanical and uncritical application of habits of thought to fields different from those in which they have been formed. [77]

Economics has been jokingly called "The dismal science". <ref name="dismal science" /> Although the actual origin of this 19th century designation is disputed, it managed to become a derogatory alternative name for economics.

Criticism of assumptions

Certain models used by economists within economics have been criticized, sometimes by other economists, for their reliance on unrealistic, unobservable, or unverifiable assumptions. One response to this criticism has been that the unrealistic assumptions result from abstraction from unimportant details, and that such abstraction is necessary in a complex real world, which means that rather than unrealistic assumptions compromising the epistemic worth of economics, such assumptions are essential for economic knowledge. One study has termed this explanation the "abstractionist defense" and concluded that that this "abstractionist defense" does not invalidate the criticism of the unrealistic assumptions.[78] However, it is important to note that while one school does have a majority in the field, there is far from a consensus on all economic issues and multiple alternative fields claim to have more empirically-justified insights.

Assumptions and observations

Many criticisms of economics revolve around the belief that the fundamental claims of economics are unquestioned assumption without empirical evidence. Many economists reply giving examples of concepts that used to be considered "axioms" in economics and which have turned out to be consistent with empirical observation (see three examples below), however agreeing that these observations reveal that the original assumption was probably oversimplified.

A few examples of such concepts that according to many economists have evolved from "assumptions" to empirically-based are:
  • Rationality = Self-Interest: This refers to the common axiom or belief shared by many mainstream economists that rationality implies self-interest and vice-versa. This does not, however, preclude altruism. Altruism can be viewed as a case in which the individual's self-interest includes doing good for others. Other views claim that this does not leave much room for altruism, and in fact discourages it, rather like a global prisoner's dilemma .i.e.: If "rational" people are not altruistic, then I shouldn't be altruistic either, ad infinitum. However, this "axiom" has since been subjected to multiple experiments and even altruism, when all social pressures are considered, could be modeled as a form of self-interest.[79][80]
  • Well-Being = Consumption: This refers to the axiom or belief shared by some mainstream economists that human beings are happy when they consume, and unhappy when not consuming. Added to the other common assumption of insatiability, this implies human beings can never remain happy. Although this original belief is over-simplified (and perhaps not representative of most economists actual beliefs today), empirical observations have now confirmed a relationship between sense of well-being and such factors as income.[81]
    • Atomism: This refers to the belief shared by some mainstream economists that human beings are atomistic, ie.their preferences are independent. This is another simplification both of the economy and of the specific beliefs of the economists. Agent-based modeling and experimental economics produce results that are indicative of this theory.
    A common defense of the above axioms was that they made the problem tractable. However, after specific details of this have been observed through economics research in a variety of controlled experiments, the original assumptions have been further refined and are no longer technically "axioms" in mainstream economics.

    Criticism of contradictions

    Economics is a field of study with various schools and currents of thought. As a result, there exists a considerable distribution of opinions, approaches and theories. Some of these reach opposite conclusions or, due to the differences in underlying assumptions, contradict each other.[82][83][84]

    Criticisms of welfare and scarcity definitions of economics

    The definition of economics in terms of material being is criticized as too narrowly materialistic. It ignores, for example, the non-material aspects of the services of a doctor or a dancer. A theory of wages which ignored all those sums paid for immaterial services was incomplete. Welfare could not be quantitatively measured, because the marginal significance of money differs from rich to the poor (that is, $100 is relatively more important to the well-being of a poor person than to that of a wealthy person). Moreover, the activities of production and distribution of goods such as alcohol and tobacco may not be conducive to human welfare, but these scarce goods do satisfy innate human wants and desires.

    Marxist economics still focuses on a welfare definition. In addition, several critiques of mainstream economics begin from the argument that current economic practice does not adequately measure welfare, but only monetized activity, which is an inadequate approximation of welfare.

    The definition of economics in terms of scarcity suggests that resources are in finite supply while wants and needs are infinite. People therefore have to make choices. Scarcity too has its critics. It is most amenable to those who consider economics a pure science, but others object that it reduces economics merely to a valuation theory. It ignores how values are fixed, prices are determined and national income is generated. It also ignores unemployment and other problems arising due to abundance. This definition cannot apply to such Keynesian concerns as cyclical instability, full employment, and economic growth.

    The focus on scarcity continues to dominate neoclassical economics, which, in turn, predominates in most academic economics departments. It has been criticized in recent years from a variety of quarters, including institutional economics and evolutionary economics and surplus economics.

    Criticism in other topics

    Criticism on several topics in economics can be found elsewhere, in both general and specialized literature. See, for example: general equilibrium, Pareto efficiency, marginalism, behavioral finance, behavioral economics, feminist economics, Keynesian economics, monetarism, neoclassical economics, endogenous growth theory, exogenous growth model, comparative advantage, Kuznets curve, Laffer curve, economic sociology, agent-based computational economics, Homo economicus, rational choice theory, rational egoism, public choice theory, Heckscher-Ohlin model, Harrod-Domar model, quantity theory of money, et al..

    Economics and politics

    Some economists (ex. J.S.Mill, Leon Walras) have maintained that the production of wealth should not be tied to its distribution. The former is in the field of "applied economics" while the latter belongs to "social economics" and is largely a matter of (power)politics.[85]

    Economics per se, as a social science, do not stand on the political acts of any government or other decision-making organization, however, many policymakers or individuals holding highly ranked positions that can influence other people's lives are known for arbitrarily use a plethora of economic theory concepts and rhetoric as vehicles to legitimize agendas and value systems, and do not limit their remarks to matters relevant to their responsibilities.[86] The close relation of economic theory and practice with politics[87] is a focus of contention that may shade or distort the most unpretentious original tenets of economics, and is often confused with specific social agendas and value systems.[88] For example, it is possible associate the U. S. promotion of democracy by force in the 21st century, the 19th century work of Karl Marx or the cold war era debate of capitalism vs. communism, as issues of economics. Although economics makes no such value claims, this may be one of the reasons why economics could be perceived as not being based on empirical observation and testing of hypothesis. As a social science, economics tries to focus on the observable consequences and efficiencies of different economic systems without necessarily making any value judgments about such systems, for example, examine the economics of authoritarian systems, egalitarian systems, or even a caste system without making judgments about the morality of any of them.

    Ethics and economics

    The relationship between economics and ethics is complex. Many economists consider normative choices and value judgments, like what needs or wants, or what is good for society, to be political or personal questions outside the scope of economics. Once a person or government has established a set of goals, however, economics can provide insight as to how they might best be achieved.

    Others see the influence of economic ideas, such as those underlying modern capitalism, to promote a certain system of values with which they may or may not agree. (See, for example, consumerism and Buy Nothing Day.) According to some thinkers, a theory of economics is also, or implies also, a theory of moral reasoning.[89]

    The premise of ethical consumerism is that one should take into account ethical and environmental concerns, in addition to financial and traditional economic considerations, when making buying decisions.

    On the other hand, the rational allocation of limited resources toward public welfare and safety is also an area of economics. Some have pointed out that not studying the best ways to allocate resources toward goals like health and safety, the environment, justice, or disaster assistance is a sort of willful ignorance that results in less public welfare or even increased suffering.[90] In this sense, it would be unethical not to assess the economics of such issues. In fact, federal agencies in the United States routinely conduct economic analysis studies toward that end.

    Effect on society

    Some would say that market forms and other means of distribution of scarce goods, suggested by economics, affect not just their "desires and wants" but also "needs" and "habits". Much of so-called economic "choice" is considered involuntary, certainly given by social conditioning because people have come to expect a certain quality of life. This leads to one of the most hotly debated areas in economic policy, namely, the effect and efficacy of welfare policies. Libertarians view this as a failure to respect economic reasoning. They argue that redistribution of wealth is morally and economically wrong. Socialists view it as a failure of economics to respect society. They argue that disparities of wealth should not have been allowed in the first place. This led to both 19th century labour economics and 20th century welfare economics before being subsumed into human development theory.

    The older term for economics, political economy, is still often used instead of "economics", especially by certain economists such as Marxists. The use of this term often signals a basic disagreement with the terminology or paradigm of market economics. Political economy explicitly brings social political considerations into economic analysis and is therefore openly normative, although this can be said of many economic recommendations as well, despite claims to being positive. Some mainstream universities (many in the United Kingdom) have a "political economy" department rather than an "economics" department.

    Marxist economics generally denies the trade-off of time for money. In the Marxist view, concentrated control over the means of production is the basis for the allocation of resources among classes. Scarcity of any particular physical resource is subsidiary to the central question of power relationships embedded in the means of production.

    Economics in practice

    Main article: Economist
    The professionalization of economics, reflected in the growth of graduate programs on the subject, has been described as "the main change in economics since around 1900."[91] Most major universities and many colleges have a major, school, or department in which academic degrees are awarded in the subject, whether in the liberal arts, business, or for professional study. The Bank of Sweden Prize in Economic Sciences in Memory of Alfred Nobel (colloquially, the Nobel Prize in Economics) is a prize awarded to economists each year for outstanding intellectual contributions in the field. In the private sector, professional economists are employed in industries such as banking and finance. Economists also work for various government departments and agencies, for example, the Treasury.

    See also

    Related topics



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Further reading

  • Frontiers in Economics - ed. K. F. Zimmermann, Springer-Science, 2002. - A summary of surveys on different areas in economics.
  • The Autistic Economist - Yale Economic Review - How and why the dismal science embraces theory over reality.
  • Nature of Things by Jean-Baptiste Say - an essay in which Say claims that economics is not an ethical system that one can simply refute on the basis that one does not accept its values: it is a collection of theories and models that explain inductively found principles.

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economy is the system of human activities related to the production, distribution, exchange, and consumption of goods and services of a country or other area.

The composition of a given economy is inseparable from technological evolution, civilization's history and social
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Economy can refer to:
  • Economy, the human activity that consists in producing, distributing, exchanging and consuming goods and services, studied by economics and realised inside an economic system.

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The social sciences are a group of academic disciplines that study human aspects of the world. They diverge from the arts and humanities in that the social sciences tend to emphasize the use of the scientific method in the study of humanity, including quantitative and qualitative
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Distribution in economics refers to the way total output or income is distributed among individuals or among the factors of production (labor, land, and capital) (Samuelson and Nordhaus, 2001, p. 762).
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A good or commodity in economics is any object or service that increases utility, directly or indirectly, not to be confused with good in a moral or ethical sense (see Utilitarianism and consequentialist ethical theory).
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Lionel Charles Robbins, Baron Robbins (1898 - 1984) was a British economist.
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In economics, scarcity is defined as the condition of human wants and needs exceeding production possibilities. In other words, society does not have sufficient productive resources to fulfill those wants and needs.
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In economics, factors of production are resources used in the production of goods and services, including land, labor, and capital.

Land, labor, and capital

Resource in economics distinguish among such factors of production as:

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The basic economic problem is a term used in economic theory. It asserts that there is scarcity, such that finite resources available are insufficient for satisfying all human wants.
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Primitive communism
Capitalist economy
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Microeconomics (or price theory) is a branch of economics that studies how individuals, households, and firms make decisions to allocate limited resources,[1] typically in markets where goods or services are being bought and sold.
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Macroeconomics is a branch of economics that deals with the performance, structure, and behavior of a national economy as a whole.[1] Macroeconomists seek to understand the determinants of aggregate trends in an economy with particular focus on national income,
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Positive economics is the branch of economics that concerns the description and explanation of economic phenomena (Wong, 1987, p. 920). It focuses on facts and cause-and-effect relationships and includes the development and testing of economics theories.
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In economics, an agent is an actor in a model that (generally) solves an optimization problem. In this sense, it is equivalent to the term player, which is also used in economics, but is more common in game theory.
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The family, although recognized as fundamental from Adam Smith on, received little systematic treatment in economics before the 1950s. A significant exception was Thomas Malthus's model of population growth.
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Public choice theory is the use of modern economic tools to study problems that are traditionally in the province of political science. (A more general term is 'political economy', an earlier name for 'economics' that evokes its practical and theoretical origins but should not be
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Institutional economics, known by some as Institutional political economy, focuses on understanding the role of human-made institutions in shaping economic behavior. Aspects of institutional economics are part of mainstream economics -- in particular the so-called new institutional
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Adam Smith FRSE (baptised June 5 (OS) / June 16 (NS) 1723 – July 17, 1790) was a Scottish moral philosopher and a pioneering political economist. He is a major contributor to the modern perception of free market economics.
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An Inquiry into the Nature and Causes of the Wealth of Nations is the magnum opus of the Scottish economist Adam Smith, published on March 9,1776 during the Scottish Enlightenment.
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Microeconomics (or price theory) is a branch of economics that studies how individuals, households, and firms make decisions to allocate limited resources,[1] typically in markets where goods or services are being bought and sold.
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