Positive and Normative Economics

Two economists can agree completely on the facts and still argue for opposite policies. That is not a failure of the subject — it is the difference between describing what is and arguing about what ought to be. Learning to spot which one you are reading is a skill the exam tests directly.

Telling them apart

Positive economic statements are concerned with objective descriptions of how something works. They are built on empirical evidence, they are statements of fact, and crucially they can be shown to be true or false.

• Unemployment in a country fell from 8% to 7.3% over the last twelve months.
• Raising the minimum wage last year reduced the gap between the lowest and median wage.
• Prices rose sharply this year, partly because oil cost 20% more.

Normative economic statements focus on value judgements: opinions and beliefs about what the best policy or solution would be. They are the raw material of political manifestos and of the different agendas parties put forward.

• Every economy should provide free healthcare to its citizens.
• Corporation tax should be higher than personal income tax.
• The best way to deal with rising crime is to employ more police.

How positive economics is done

Economics deals with human interactions that are complex and constantly changing. That makes it much harder than physics or maths to examine a relationship between two variables and be confident it will behave identically next time. Three tools help economists make factual statements with a decent degree of reliability.

1. The use of logic

When analysing a market, economists assume things about the rationality of the agents involved. In classical theory, “rational” means an agent can consider the outcomes of their choices, recognise the net benefit of each, and select the one with the highest benefit.

• Consumers act rationally by maximising their utility — their satisfaction.
• Producers act rationally by selling in the way that maximises profit.
• Workers act rationally by balancing pay against the other benefits and conditions of a job.
• Governments act rationally by putting the interests of the people they serve first, to maximise welfare.

2. Hypotheses, models and theories

The social sciences use a version of the scientific method known as the social scientific method. The steps look similar, but there is one key difference: you cannot run a controlled experiment on a whole society and repeat it identically, because human nature is complicated and millions of interactions are happening at once.

Refutation is the act of a statement or theory being proved wrong by the evidence. It sounds negative, but it is the whole point: if a statement could be refuted by evidence, it is a positive statement. If no evidence could ever settle it, it is normative.

Once a hypothesis has been tested repeatedly across different circumstances, and either supported or rejected, economists build it into a model. A model is a simplified version of reality resting on assumptions about behaviour and likely outcomes — and, as always, those assumptions should be examined whenever the model is used.

3. The ceteris paribus assumption

Any economic interaction is influenced by a large number of variables at once, so economists build models using the principle of ceteris paribus.

It allows an economist to simplify and explain cause and effect, even though the explanation is limited by the assumption. Unemployment, for example, is affected by interest rates, consumer confidence, firms’ investment plans and government policy all at once. Holding everything else constant lets you examine just two of those variables and say something clear about how they relate.

Rational decision making, and why it is flawed

The rationality assumption makes analysis possible, but in many ways it does not describe how people actually behave. Consumers are frequently swayed by emotion rather than by a careful calculation of net benefits. Impulse purchases are not rational computations. Workers sometimes accept poor conditions for mediocre pay. Governments sometimes adopt policies that mainly serve their core voters rather than maximising public welfare.

When agents behave irrationally, markets produce fundamentally different outcomes from the ones theory predicts.

The role of normative economics

Value judgements are not a contaminant to be removed. They decide which policies governments adopt and where money is spent. Two countries facing identical evidence about drug addiction may spend very differently — one on imprisonment, another on rehabilitation. Saying one country spends more per person on rehabilitation is positive. Saying its approach is better is normative.

Two normative ideas run through the whole course:

• Equity is about economic fairness in how resources are distributed. Views on what is fair differ, and those views shape policy. Some countries believe healthcare should be available regardless of ability to pay; others believe payment should determine access.
• Equality is about everyone being equal and having equal recognition. It is normative too, because deciding when people are genuinely equal, or genuinely have equal opportunity, is a judgement.

Statistics about inequality, however, are positive. “Women in a given country were paid 12% less than men in comparable jobs” is a measurable fact. Whether that gap is unjust is the normative part.

Worked examples