PowerPoint Presentations for
Principles of Macroeconomics
Sixth Canadian Edition
by Mankiw/Kneebone/McKenzie
Adapted for the
Sixth Canadian Edition by
Marc Prud’homme
University of Ottawa
Thinking Like
an economist
CHAPTER
2
THINKING LIKE AN ECONOMIST
 Before delving into the substance and details of
economics, it is helpful to have an overview of how
economists approach the world.
 This chapter, therefore, discusses the field’s
methodology.
 What is distinctive about how economists confront a
question?
 What does it mean to think like an economist?
THE ECONOMIST AS SCIENTIST
 Economists try to address their subject with
a scientist’s objectivity.
The Scientific Method
 The scientific method involves
observation, theory, and more
observation.
 Economists use theory and observation
like other scientists, but they do face an
obstacle that makes their task especially
challenging:
Experiments are often difficult in
economics.
Thinkstock

The Role of Assumptions
 Assumptions can simplify the complex world and
make it easier to understand.
 The art in scientific thinking is deciding which
assumptions to make.
Economic Models
 Economists also use models to learn about the
world that are most often composed of diagrams
and equations.
 Economic models omit many details to allow us to
see what is truly important.
 All the models are built with assumptions.
Our First Model:
The Circular-Flow Diagram
 Circular-Flow Diagram: a visual model of the
economy that shows how dollars flow through
markets among households and firms
MARKET OF CONSUMPTION
FIGURE 2.1:
The
Circular
Flow
MARKET OF PRODUCTION
Our Second Model:
The Production Possibilities Frontier
 Production Possibility Frontier: a graph that
shows the combinations of output that the
economy can possibly produce given the
available factors of production and the
available production technology
FIGURE 2.2:
The Production Possibilities Frontier
Active Learning
Production Possibilities Frontier Example
6000
Production
Point
on
graph
Computers
Wheat
A
500
0
B
400
1,000
C
250
2,500
E
D
100
4,000
E
0
5,000
Wheat
5000
D
4000
C
3000
2000
B
1000
A
0
0
100
250
400
Computers
500
Active Learning
Discussion Questions
A. On the graph, find the point that represents
(100 computers, 3,000 tons of wheat), label it F.
Would it be possible for the economy to produce this
combination of the two goods? Why or why not?
B. Next, find the point that represents
(300 computers, 3,500 tons of wheat), label it G.
Would it be possible for the economy to produce this
combination of the two goods?
Active Learning
Answers
 Point F: 100
computers, 3,000 tons
wheat
 Point F requires 40,000
hours of labour.
Possible but not efficient:
could get more of either
good without sacrificing
any of the other
Wheat
(tons)
6,000
5,000
4,000
3,000
F
2,000
1,000
0
0 100 200 300 400 500 600
Computers
Active Learning
Answers
 Point G: 300 computers,
3,500 tons wheat
 Point G requires 65,000
hours of labour.
Not possible because
economy only has
50,000 hours
Wheat
(tons)
6,000
5,000
4,000
G
3,000
2,000
1,000
0
0 100 200 300 400 500 600
Computers
FIGURE 2.3:
A Shift in the Production Possibilities Frontier
Microeconomics and Macroeconomics
 Microeconomics: the study of how households
and firms make decisions and how they
interact in markets
 Macroeconomics: the study of economy-wide
phenomena, including inflation,
unemployment, and economic growth
QuickQuiz
In what sense is economics like a science?
Draw a production possibilities frontier for a
society that produces food and clothing.
Show an efficient point, an inefficient point, and
an infeasible point.
Show the effects of a drought.
Define microeconomics and macroeconomics.
THE ECONOMIST AS POLICY ADVISER
 When economists are trying to explain the
world, they are scientists.
 When they are trying to help improve it, they
are policy advisers.
Positive versus Normative Analysis
 Positive statements: claims that attempt to
describe the world as it is
 Normative statements: claims that attempt to
prescribe how the world should be
Example of Normative VS Positive
The distinction between positive and normative statements is
easily shows via examples. A positive statement:
 The unemployment rate is currently at 9 percent.
since it conveys factual, testable information about the world.
Statements such as (below) are normative statements:
 The unemployment rate is too high.
 The government must take action in order to reduce
the unemployment rate.
Active Learning
Discussion Questions
Which of these statements are“positive”and which are
“normative”? How can you tell the difference?
a. Prices rise when the government increases the quantity of
money.
b. The government should print less money.
c. A tax cut is needed to stimulate the economy.
d. An increase in the price of burritos will cause an increase in
consumer demand for video rentals.
Active Learning
Answers
a. Prices rise when the government increases the quantity of
money.
Positive: describes a relationship, could use data to
confirm or refute
b. The government should print less money.
Normative: this is a value judgment, cannot be
confirmed or refuted
Active Learning
Answers
c. A tax cut is needed to stimulate the economy.
Normative: another value judgment
d. An increase in the price of burritos will cause an increase in
consumer demand for video rentals.
Positive: describes a relationship
Note: A statement need not be true to be positive.
TABLE 2.1:
Websites of Some Major Economic Organizations
Why Economists’ Advice Is Not Always Followed
 Any economist who advises government knows that
his or her recommendations are not always heeded.
 In the real world, figuring out the right policy is only
part of the job for the government.
QuickQuiz
Give an example of a positive statement
and an example of a normative statement.
Name three parts of government that
regularly rely on advice from economists.
WHY ECONOMISTS DISAGREE
 There are two basic reasons:


Thinkstock
They can disagree about
the validity of alternative
positive theories about
how the world works.
They can have different
values and, therefore,
different normative views
about what a policy should
try to accomplish.
Differences in Scientific Judgments
 Economists often disagree about the direction in
which truth lies.
 For example, economists disagree about whether the
government should levy taxes based on a
household’s income or its consumption.
Differences in Values
 Suppose that Peter and Paula both take the same
amount of water from the town well. To pay for
maintaining the well, the town taxes its residents.
Peter has income of $50 000 and is taxed $5000, or
10 percent of his income. Paula has income of $10
000 and is taxed $2000, or 20 percent of her
income.
 Is this policy fair?
 If not, who pays too much and who pays too little?
Perception versus Reality
 Because of differences in scientific judgments
and differences in values, some disagreement
among economists is inevitable.
 But they do often share a common view.
Perception versus Reality
1. A ceiling on rents reduces the quantity and quality
of housing available. (93 percent)
2. Tariffs and import quotas usually reduce general economic
welfare. (93 percent)
3. Flexible and floating exchange rates offer an effective
international monetary arrangement. (90 percent)
Perception versus Reality
4. Fiscal policy (e.g., tax cut and/or government expenditure
increase) has a significant stimulative impact on a less than
fully employed economy. (90 percent)
5. The government should not restrict employers from
outsourcing work to foreign countries. (90 percent)
6. Economic growth in developed countries like Canada leads
to greater levels of well-being. (88 percent)
7. Agricultural subsidies should be eliminated. (85 percent)
QuickQuiz
Why might economic advisers to the
prime minister disagree about a question
of policy?
Classroom Activity
Screwdrivers and Bloody Marys
1. Draw a graph with Bloody Marys on the horizontal axis and
Screwdrivers on the vertical axis.
A Bloody Mary contains tomato juice and one shot of vodka. A
Screwdriver contains orange juice and one shot of vodka. Assume
that we have plenty of orange juice and tomato juice, but only one
small bottle of vodka containing six shots.
2. How many Bloody Marys can we make, if we only make Bloody Marys?
3. How many Screwdrivers can we make if we only make Screwdrivers?
4. Could we make six of both drinks? Why not?
5. On your graph, show all of the possible combinations of Bloody Marys
and Screwdrivers that can be made, given a small bottle of vodka.