Lecture Notes: Economic Models

Introduction to Economic Models

• Economic models simplify complex real-world systems to understandable formats.
• Models help focus on key characteristics, avoiding getting bogged down in details.
• They are used across sciences to break down complex ideas and events.

Role of Models in Economics

• Economists adopt ideas from other sciences, like chemistry and biology, to form models.
• Models simplify assumptions about interactions in an economy, similar to the ideal gas law in chemistry.
• Simplified models help understand complex systems with many variables.

Assumptions in Economic Models

• Assumptions are necessary to simplify and understand complex economic activities.
• Common assumptions include rational actors and perfect information.
• These assumptions are not always true but help form a basis for models.

Examples of Economic Models

• Production Possibility Frontier (PPF): Illustrates trade-offs between two goods, assuming all else equal (ceteris paribus).
• Price Equilibrium Models: Explore supply and demand dynamics to determine equilibrium prices and quantities.

Importance and Limitations of Models

• Models are essential for understanding economic principles.
• They should not be taken as absolute reality but with awareness of their assumptions.
• Economic models can be improved by revisiting assumptions; pivotal for Nobel Prize-winning work.

Testing in Economics vs. Sciences

• Unlike chemistry or physics, economic models can't be tested with controlled experiments.
• Economists can't replicate economies to test theories as in medical drug trials.

Conclusion

• Economic models are valuable but have limitations due to their assumptions.
• Economics straddles between a social science and physical sciences due to the nature of its complexities and assumptions.
• Simplifying assumptions, though not fully accurate, are necessary to make sense of economic complexities.