Chapter 1 – The Scope of Economic Analysis

 

A.    The Nature of Economics

1. What is Economics

• Economics is a science rest on the postulate of constrained maximization to predict or explain human behavior. Constrained maximization is the unique feature that distinguishes economic discipline from other social science discipline.

 

• Q: Which of the following is/are with the scope of economies?

(1) A study on the causes of a dream

(2) A study on cheating in exam

(3) A study on voting rate as a result of a decrease of voting age

(4) A study on how long teenagers spend on ICQ

(5) A study on the number of people using bus after the opening of Tseung Kwan O MTR Line

 

2. What is Positive and Normative Economics?

(1) Positive Economics

• Positive economics deals with positive statements – statements which are free from value adjustment. Theses statements only suggest what, how, why, in what conditions etc.
• Positive economics contains descriptive statements, propositions and predictions about the world.
• Positive economics tries to explain what is going on and predict what will happen.
• Positive economics says nothing about whether the consequence is good or bad, or about what we should do.
• The study of positive economics enables us to answer positive questions.
• A positive question is a question about what is or will be.
• Positive questions have definite, correct answers (which may or may not be known).
• The truthfulness of a positive statement can be tested against facts.
• We study positive economics only.
• Example: “The inflation rate will increase as the growth rate of money supply increases.” is a positive statement since it can be tested objectively.

 

(2) Normative Economics

• Normative economics deals with normative statements – statements which imply a value judgement. These statements are concerned with what is desirable, what is right, which policy is better, what should be done, etc.
• In normative economies, the results depend on one’s values or preferences.
• A normative question is a question about what ought to be.
• The answers to normative questions depend on value judgements.
• Example: “The Hong Kong Government must notice that inflation is more serious problem than unemployment” is a normative statement as it involves a value judgement.

 

• Q: Identity whether the following statement(s) is/are positive or normative?

(1) Driving after drinking is not recommended.

(2) As smoking is proved to be hazardous to health, the government should raise the tobacco tax.

(3) More people will do charity if they become richer.

(4) Businessman will support the labor importation scheme because this can lower the production cost.

(5) We should protest against the labor importation scheme because it can deteriorate the unemployment problem in HK.

 

3. What to maximize?

• In constructing a theory, economists have to specify clearly the subject to be maximized. For example, income, wealth and utility etc.

 

4. What are constraints?

• Constraints means all factors restricting or defining the alternative options that one can choose.
• Example: When a person chooses to buy a flat, his constraints may include income and location.

 

• Q: Specific a subject you are maximizing? What is /are your constraints(s)?

 

• People will choose among alternatives so as to maximize subject to constraints.

 

• Q: Suppose you are maximizing the chance of entering a university and you are choosing the AL/AS subjects in your 2-year matriculation course. Assuming that the school allows you to take a maximum of 4 AL. Will you choose 4 AL or 1AL?

 

• Q: Which of the following is/not maximizing behavior?

(1) A person spends all his income on hotdogs.

(2) An accountant, who can earn $300 an hour, spends 4 hours waiting in a line to buy some cream puffies because the puffy shop offers a 20% discount.

(3) In a HKCEE exam, a student did not put down any answer in a MC paper.

(4) An AL student spends 2 hours a day attending a tutorial class.

(5) A poor person does charity

 

• The behavior of an individual will change when the subject of maximization changes.

 

• Q: How would you expect your behavior to change if universities require a C or above in AL Economics?

 

5. Postulate of (Constraint) Maximization

• In N.S. Cheung’s words, the postulate of maximization is “the postulate of selfishness”, i.e. an individual will always try to maximize his own “self-interest”.
• Economists assume that people maximize their gain when they make decisions (i.e. they prefer more to less) subject to the constraints.
• For the postulate of maximization to be useful, we must be able to specify the goals of the individual and the constraints involved in achieving the goals, otherwise the postulate is just an elaborate camouflage to our ignorance.