What is economics?
by Professor Rachel Griffith FBA
4 Oct 2019
Economics is the study of how people make choices, while considering how these choices are constrained because of limited resources such as money, time, and information. Economists also consider how policies and practices could help people make better choices; for themselves, their families, or for society as a whole. Economists address a very wide set of questions, such as: how can we design policy to protect the most vulnerable in society while encouraging work, innovation, and all the activities that lead to economic and social advancement and wellbeing? What policies will reduce carbon emissions and pollutants in the most cost-effective way? How do individuals and families choose whether to have children and how much to save for the future?
Most economists today do this by combining data with a toolbox of theoretical models and statistical methods. Data helps us to understand some facts and realities about how the world is, and increasingly big data enhances our ability to do this. However, it is only by combining data with models of behaviour that we are able to understand what drives behaviour and what impact different choices will have. To quote Ragnar Frisch, winner of the first Nobel Prize in Economics,
No amount of statistical information, however complete and exact, can by itself explain economic phenomena. ... we need the guidance of a powerful theoretical framework. Without this no significant interpretation and coordination of our observations will be possible.
The role of models, and the assumptions that they rely on, is something that people often misunderstand about economics. A good analogy is to compare models to maps. If I go for a walk in the Peak District, I take a small scale Ordinance Survey map. This provides a detailed picture of the trails, with every wall and geographical feature marked. However, if I want to drive from Manchester to Sheffield across the Peaks, I would prefer a larger scale map that abstracts from this detail and lets me see the road network more clearly. If, instead of driving I wanted to take a canal boat, a map that abstracted from the roads and brought the canals (and pubs) more easily into focus would be more useful.
This is precisely the role that models play in economics: they help us to focus on key aspects of behaviour that are important for the specific questions that we want to answer. No one model is appropriate in all circumstances, just as no one map is useful for all journeys. If I want to understand what price consumers will pay for a pack of batteries, it is a reasonable approximation to assume that they are ‘rationally’ trading off the cost of the batteries against the benefits from using them. However, If I am interested in what drives some people to take out a pay day loan, then assuming they have full information and the time and ability to think through the consequences, assuming ‘rationality’ would result in a model that’s not very useful because it abstracts away from the details that are central to the question of interest. The important job that economists do is to choose which of all the many models that are available are best suited to answer the particular question at hand, and how the model can best be applied to data.
Rachel Griffith is Professor of Economics at the University of Manchester, Research Director of the Institute for Fiscal Studies and President of the Royal Economic Society . The Royal Economic Society has recently launched a campaign aimed at changing perceptions of economics among young people and attracting students from under-represented groups to study economics. Follow the conversation on @RoyalEconSoc and #DiscoverEconomics.