Public economics is the study of government policy through the lens of economic efficiency and equity. At its most basic level, public economics provides a framework for thinking about whether or not the government should participate in economic markets and to what extent it should do so. In order to do this, microeconomic theory is utilized to assess whether the market is likely to provide efficient outcomes in the absence of governmental interference. Inherently, this involves the analysis of government taxation and expenditures. This subject encompasses a host of topics including market failures, Public economics builds on the theory of welfare economics and is ultimately used as a tool to improve social welfare. Emphasis is on analytical and scientific methods and normative-ethical analysis, as distinguished from ideology, examples of topics covered are tax incidence, optimal taxation, and the theory of public goods. The Journal of Economic Literature classification codes are one way categorizing the range of economics subjects, Public Economics, one of 19 primary classifications, has 8 categories.
Diamond and James A. Mirrlees published a paper which showed that even when lump-sum taxation is not available. One of the achievements for which the great English economist A. C. Pigou is known, was his work on the divergences between marginal private costs and marginal social costs, in his book, The Economics of Welfare, Pigou describes how these divergences come about. It is, possible for the State, if it so chooses, the most obvious forms which these encouragements and restraints may assume are, of course, those of bounties and taxes. Alternatively, he describes negative externalities, such as the factory that destroys a great part of the amenities of neighboring sites, in 1960, the economist Ronald H. Coase proposed an alternative scheme whereby negative externalities are dealt with through the appropriate assignment of property rights. This result is known as the Coase theorem, Public goods, or collective consumption goods, exhibit two properties, non-rivalry and non-excludability. Something is non-excludable if its use cannot be limited to a group of people.
Again, since one cannot prevent people from viewing a firework display it is non-excludable, another example of public good is the service that is provided by law enforcement organizations, such as sheriffs and police. Typically and towns are served by one police department. The latter book is considered a classic in the field of operations research. In subsequent years, several important works appeared, Jack Hirshleifer, James DeHaven. Lectures in Public Economics, McGraw-Hill Auerbach, Alan J. and Martin S. Feldstein, Economics of the Welfare State, 4th ed. Oxford University Press
Cultural economics is the branch of economics that studies the relation of culture to economic outcomes. Here, culture is defined by shared beliefs and preferences of respective groups, programmatic issues include whether and how much culture matters as to economic outcomes and what its relation is to institutions. Applications include the study of religion, social norms, social identity, beliefs in redistributive justice, hatred, terrorism and the culture of economics. Methods include case studies and theoretical and empirical modeling of cultural transmission within, in 2013 Said E. Dawlabani added the value systems approach to the cultural emergence aspect of macroeconomics. Cultural economics develops from how wants and tastes are formed in society and this is partly due to nurture aspects, or what type of environment one is raised in, as it is the internalization of one’s upbringing that shapes their future wants and tastes. Acquired tastes can be thought of as an example of this, a key thought area that separates the development of cultural economics from traditional economics is a difference in how individuals arrive at their decisions.
These trajectories consist of regularities, which have built up throughout the years. Economists have started to look at cultural economics with a thinking approach. In this approach, the economy and culture are each viewed as a system where “interaction and feedback effects were acknowledged, and where in particular the dynamic were made explicit. ”In this sense, the interdependencies of culture. The book explores the intersections of multiple disciplines such as development, organizational behavior. The advancing pace of new technology is transforming how the public consumes and shares culture, the cultural economic field has seen great growth with the advent of online social networking which has created productivity improvements in how culture is consumed. New technologies have lead to cultural convergence where all kinds of culture can be accessed on a single device, throughout their upbringing, younger persons of the current generation are consuming culture faster than their parents ever did, and through new mediums.
The smartphone is an example of this where books, talk, artwork. This field has seen growth through the advent of new economic studies that have put on a cultural lens. For example, a recent study on Europeans living with their families into adulthood was conducted by Paola Sapienza, the study found that those of Southern European descent tend to live at home with their families longer than those of Northern European descent. Sapienzas work is an example of how the growth of economics is beginning to spread across the field. An area that cultural economics has a presence in is sustainable development. Sustainable development has been defined as “…development that meets the needs of the present without compromising the ability of future generations to meet their own needs…”, culture plays an important role in this as it can determine how people view preparing for these future generations
Risk tolerance is a crucial factor in personal financial decision making. Risk tolerance is defined as individuals willingness to engage in a financial activity whose outcome is uncertain, Behavioral economics is primarily concerned with the bounds of rationality of economic agents. Behavioral models typically integrate insights from psychology and microeconomic theory, in so doing, these behavioral models cover a range of concepts, the study of behavioral economics includes how market decisions are made and the mechanisms that drive public choice. The use of the term behavioral economics in U. S. scholarly papers has increased in the past few years, there are three prevalent themes in behavioral finances, People often make decisions based on approximate rules of thumb and not strict logic. Framing, The collection of anecdotes and stereotypes that make up the mental emotional filters individuals rely on to understand and respond to events, Market inefficiencies, These include mis-pricings and non-rational decision making.
During the classical period of economics, microeconomics was closely linked to psychology and they developed the concept of homo economicus, whose psychology was fundamentally rational. However, many important neo-classical economists employed more sophisticated psychological explanations, including Francis Edgeworth, Vilfredo Pareto, Economic psychology emerged in the 20th century in the works of Gabriel Tarde, George Katona, and Laszlo Garai. Expected utility and discounted utility models began to gain acceptance, generating testable hypotheses about decision-making given uncertainty and intertemporal consumption, in the 1960s cognitive psychology began to shed more light on the brain as an information processing device. In mathematical psychology, there is a longstanding interest in the transitivity of preference, prospect theory has two stages, an editing stage and an evaluation stage. In the editing stage, risky situations are simplified using various heuristics of choice, outcomes are compared to the reference point and classified as gains if greater than the reference point and losses if less than the reference point.
Loss aversion, Losses bite more than equivalent gains, in their 1979 paper published in Econometrica and Tversky found the median coefficient of loss aversion to be about 2.25, i. e. losses bite about 2.25 times more than equivalent gains. Prospect theory is able to explain everything that the two main existing decision theories—expected utility theory and rank dependent utility theory—can explain, prospect theory has been used to explain a range of phenomena that existing decision theories have great difficulty in explaining. These include backward bending labor supply curves, asymmetric price elasticities, tax evasion, co-movement of stock prices and consumption, in 1992, in the Journal of Risk and Uncertainty and Tversky gave their revised account of prospect theory that they called cumulative prospect theory. The new theory eliminated the editing phase in prospect theory and focused just on the evaluation phase and its main feature was that it allowed for non-linear probability weighting in a cumulative manner, which was originally suggested in John Quiggins rank dependent utility theory.
Psychological traits such as overconfidence, projection bias, and the effects of limited attention are now part of the theory, Behavioral economics has been applied to intertemporal choice. Intertemporal choice is defined as making a decision and having the effects of such decision happening in a different time, hyperbolic discounting describes the tendency to discount outcomes in the near future more than for outcomes in the far future. Other branches of behavioral economics enrich the model of the utility function without implying inconsistency in preferences, ernst Fehr, Armin Falk, and Matthew Rabin studied fairness, inequity aversion, and reciprocal altruism, weakening the neoclassical assumption of perfect selfishness. This work is particularly applicable to wage setting, Behavioral economics caught on among the general public with the success of books such as Dan Arielys Predictably Irrational
Labour economics seeks to understand the functioning and dynamics of the markets for wage labour. Labour markets or job markets function through the interaction of workers and employers, Labour economics looks at the suppliers of labour services and the demanders of labour services, and attempts to understand the resulting pattern of wages and income. In economics, labour is a measure of the work done by human beings and it is conventionally contrasted with such other factors of production as land and capital. There are theories which have developed a concept called human capital, there are two sides to labour economics. Labour economics can generally be seen as the application of microeconomic or macroeconomic techniques to the labour market, microeconomic techniques study the role of individuals and individual firms in the labour market. Macroeconomic techniques look at the interrelations between the market, the goods market, the money market, and the foreign trade market. It looks at how these interactions influence macro variables such as employment levels, participation rates, aggregate income, the labour force is defined as the number of people of working age, who are either employed or actively looking for work.
The participation rate is the number of people in the force divided by the size of the adult civilian noninstitutional population. The unemployment level is defined as the labour force minus the number of people currently employed, the unemployment rate is defined as the level of unemployment divided by the labour force. The employment rate is defined as the number of people currently employed divided by the adult population, in these statistics, self-employed people are counted as employed. Variables like employment level, unemployment level, labour force, and they can be contrasted with flow variables which measure a quantity over a duration of time. Changes in the force are due to flow variables such as natural population growth, net immigration, new entrants. Technological advancement often reduces frictional unemployment, for example, internet search engines have reduced the cost, structural unemployment – This reflects a mismatch between the skills and other attributes of the labour force and those demanded by employers.
The process of globalization has contributed to changes in labour markets. Natural rate of unemployment – This is the summation of frictional and structural unemployment and it is the lowest rate of unemployment that a stable economy can expect to achieve, given that some frictional and structural unemployment is inevitable. Economists do not agree on the level of the rate, with estimates ranging from 1% to 5%. The estimated rate varies from country to country and from time to time, demand deficient unemployment – In Keynesian economics, any level of unemployment beyond the natural rate is probably due to insufficient goods demand in the overall economy. During a recession, aggregate expenditure is deficient causing the underutilisation of inputs, neoclassical economists view the labour market as similar to other markets in that the forces of supply and demand jointly determine price and quantity
Heterodox economics is an umbrella term used to cover various approaches, schools, or traditions. These include anarchist, Marxian, evolutionary, Austrian, social, post-Keynesian, Mainstream economics may be called orthodox or conventional economics by its critics. Alternatively, mainstream economics deals with the rationality–individualism–equilibrium nexus and heterodox economics is more radical in dealing with the institutions–history–social structure nexus, many mainstream economists dismiss heterodox economics as fringe and irrelevant, with little or no influence on the vast majority of academic economists in the English-speaking world. A recent review documents several prominent groups of heterodox economists since at least the 1990s as working together with an increase in coherence across different constituents. Along these lines, the International Confederation of Associations for Pluralism in Economics does not define heterodox economics and has avoided defining its scope, ICAPE defines its mission as promoting pluralism in economics.
One study suggests four key factors as important to the study of economics by self-identified heterodox economists, natural systems, uncertainty, a number of heterodox schools of economic thought challenged the dominance of neoclassical economics after the neoclassical revolution of the 1870s. Other heterodox schools active before and during the Great Depression included Technocracy, physical scientists and biologists were the first individuals to use energy flows to explain social and economic development. by expending what is called power or energy. Austrians and post-Keynesians who dissented from this emerged as clearly defined heterodox schools. In addition, the Marxist and institutionalist schools remained active, as a consequence, some heterodox economists, such as John B. Davis, proposed that the definition of economics has to be adapted to this new. There is no single heterodox economic theory, there are many different heterodox theories in existence, what they all share, however, is a rejection of the neoclassical orthodoxy as representing the appropriate tool for understanding the workings of economic and social life.
The reasons for this rejection may vary, some of the elements commonly found in heterodox critiques are listed below. One of the most broadly accepted principles of economics is the assumption of the rationality of economic agents. Indeed, for a number of economists, the notion of rational maximizing behavior is taken to be synonymous with economic behavior, when some economists studies do not embrace the rationality assumption, they are seen as placing the analyses outside the boundaries of the Neoclassical economics discipline. Neoclassical economics begins with the a priori assumptions that agents are rational and these assumptions provide the backbone for rational choice theory. Many heterodox schools are critical of the homo economicus model of behavior used in standard neoclassical model. A typical version of the critique is that of Satya Gabriel, Neoclassical economic theory is grounded in a conception of human psychology. It is assumed that all beings make economic decisions so as to maximize pleasure or utility
History of economic thought
The history of economic thought deals with different thinkers and theories in the subject that became political economy and economics, from the ancient world to the present day. It encompasses many disparate schools of economic thought, ancient Greek writers such as the philosopher Aristotle examined ideas about the art of wealth acquisition, and questioned whether property is best left in private or public hands. In the Middle Ages, scholasticists such as Thomas Aquinas argued that it was an obligation of businesses to sell goods at a just price. Fan Li, an adviser to King Goujian of Yue, wrote on economic issues, chanakya wrote the Arthashastra, a treatise on statecraft, economic policy and military strategy. Ancient Athens, a society, developed an embryonic model of democracy. Xenophons Oeconomicus is a dialogue principally about household management and agriculture, Platos dialogue The Republic describing an ideal city-state run by philosopher-kings contained references to specialization of labor and to production.
Plato was the first to advocate the theory of money. Aristotles Politics analyzed different forms of the state as a critique of Platos model of a philosopher-kings, of particular interest for economists, Plato provided a blueprint of a society based on common ownership of resources. Aristotle viewed this model as an oligarchical anathema, though Aristotle did certainly advocate holding many things in common, he argued that not everything could be, simply because of the wickedness of human nature. It is clearly better that property should be private, wrote Aristotle, but the use of it common, in Politics Book I, Aristotle discusses the general nature of households and market exchanges. Aristotle himself highly disapproved of usury and cast scorn on making money through a monopoly, not useful as a means to any of the necessities of life. Thomas Aquinas was an Italian theologian and economic writer and he taught in both Cologne and Paris, and was part of a group of Catholic scholars known as the Schoolmen, who moved their enquiries beyond theology to philosophical and scientific debates.
In the treatise Summa Theologica Aquinas dealt with the concept of a just price, similar in many ways to the modern concept of long run equilibrium, a just price was just sufficient to cover the costs of production, including the maintenance of a worker and his family. Aquinas argued it was immoral for sellers to raise their prices simply because buyers had a pressing need for a product, Aquinas discusses a number of topics in the format of questions and replies, substantial tracts dealing with Aristotles theory. Questions 77 and 78 concern economic issues, primarily what a just price might be, Aquinas argued against any form of cheating and recommended always paying compensation in lieu of good service. Whilst human laws might not impose sanctions for unfair dealing, divine law did, one of Aquinas main critics was Duns Scotus, originally from Duns Scotland, who taught in Oxford and Paris. If people did not benefit from a transaction, in Scotus view, Scotus said merchants perform a necessary and useful social role by transporting goods and making them available to the public.
Jean Buridan was a French priest, buridanus looked at money from two angles, its metal value and its purchasing power, which he acknowledged can vary
Ecological economics was founded in the 1980s as a modern discipline in the works of and interactions between various European and American academics. The related field of economics is, in general, a more politically applied form of the subject. According to ecological economist Malte Faber, ecological economics is defined by its focus on nature, issues of intergenerational equity, irreversibility of environmental change, uncertainty of long-term outcomes, and sustainable development guide ecological economic analysis and valuation. Positional analysis, which attempts to time and justice issues, is proposed as an alternative. Ecological economics shares many of its perspectives with feminist economics, including the focus on sustainability, justice, the first principles, deriving from the radiochemist FA Soddy, were laid out in his 1926 book Wealth and Debt in 1926. Early modern interest in ecology and economics dates back to the 1940s in the work of K. William Kapp and Karl Polanyi, the first organized meetings of modern ecological economists occurred in the 1980s.
These began in 1982, at the instigation of Lois Banner, most were ecosystem ecologists or mainstream environmental economists, with the exception of Daly. In 1987, Daly and Costanza edited an issue of Ecological Modeling to test the waters, a book entitled Ecological Economics, by Juan Martinez-Alier, was published that year. 1989 saw the foundation of the International Society for Ecological Economics and publication of its journal, Ecological Economics, Robert Costanza was the first president of the society and first editor of the journal, currently edited by Richard Howarth. European conceptual founders include Nicholas Georgescu-Roegen, K. William Kapp, some key concepts of what is now ecological economics are evident in the writings of E. F. Other figures include ecologists C. S. Holling, H. T, odum and Robert Costanza, biologist Gretchen Daily and physicist Robert Ayres. CUNY geography professor David Harvey explicitly added ecological concerns to political economic literature and this parallel development in political economy has been continued by analysts such as sociologist John Bellamy Foster.
The antecedents can be traced back to the Romantics of the 19th century as well as some Enlightenment political economists of that era, concerns over population were expressed by Thomas Malthus, while John Stuart Mill predicted the desirability of the stationary state of an economy. Mill thereby anticipated insights of modern ecological economists, but without having had their experience of the social and ecological costs of the Post–World War II economic expansion. As Martinez-Alier explores in his book the debate on energy in systems can be traced into the 19th century e. g. Nobel prize-winning chemist. His magnum opus, The Entropy Law and the Economic Process, has been highly influential, in addition, the journal Ecological Economics has itself been criticized for swamping the field with mainstream economics. Once consumed, natural inputs pass out of the economy as pollution, the sink function describes an environments ability to absorb and render harmless waste and pollution, when waste output exceeds the limit of the sink function, long-term damage occurs.
Some persistent pollutants, such as organic pollutants and nuclear waste are absorbed very slowly or not at all
Operations research, or operational research in British usage, is a discipline that deals with the application of advanced analytical methods to help make better decisions. Further, the operational analysis is used in the British military, as an intrinsic part of capability development, management. In particular, operational analysis forms part of the Combined Operational Effectiveness and Investment Appraisals and it is often considered to be a sub-field of applied mathematics. The terms management science and decision science are used as synonyms. Operation research is concerned with determining the maximum or minimum of some real-world objective. Originating in military efforts before World War II, its techniques have grown to concern problems in a variety of industries, nearly all of these techniques involve the construction of mathematical models that attempt to describe the system. Because of the computational and statistical nature of most of these fields, OR has ties to computer science.
In the decades after the two wars, the techniques were more widely applied to problems in business, industry. Early work in research was carried out by individuals such as Charles Babbage. Percy Bridgman brought operational research to bear on problems in physics in the 1920s, modern operational research originated at the Bawdsey Research Station in the UK in 1937 and was the result of an initiative of the stations superintendent, A. P. Rowe. Rowe conceived the idea as a means to analyse and improve the working of the UKs early warning radar system, initially, he analysed the operating of the radar equipment and its communication networks, expanding to include the operating personnels behaviour. This revealed unappreciated limitations of the CH network and allowed action to be taken. Scientists in the United Kingdom including Patrick Blackett, Cecil Gordon, Solly Zuckerman, other names for it included operational analysis and quantitative management. During the Second World War close to 1,000 men and women in Britain were engaged in operational research, about 200 operational research scientists worked for the British Army.
Patrick Blackett worked for different organizations during the war. In 1941, Blackett moved from the RAE to the Navy, after first working with RAF Coastal Command, in 1941, blacketts team at Coastal Commands Operational Research Section included two future Nobel prize winners and many other people who went on to be pre-eminent in their fields. They undertook a number of analyses that aided the war effort. Convoys travel at the speed of the slowest member, so small convoys can travel faster and it was argued that small convoys would be harder for German U-boats to detect
Financial economics is the branch of economics characterized by a concentration on monetary activities, in which money of one type or another is likely to appear on both sides of a trade. Its concern is thus the interrelation of financial variables, such as prices, interest rates and shares and it has two main areas of focus, asset pricing and corporate finance, the first being the perspective of providers of capital and the second of users of capital. The subject is concerned with the allocation and deployment of economic resources and it is built on the foundations of microeconomics and decision theory. Financial econometrics is the branch of economics that uses econometric techniques to parameterise these relationships. Mathematical finance is related in that it will derive and extend the mathematical or numerical models suggested by financial economics, note though that the emphasis there is mathematical consistency, as opposed to compatibility with economic theory. Financial economics is usually taught at the level, see Master of Financial Economics.
Recently, specialist undergraduate degrees are offered in the discipline, note that this article provides an overview and survey of the field, for derivations and more technical discussion, see the specific articles linked. As above, the discipline essentially explores how rational investors would apply decision theory to the problem of investment, the subject is thus built on the foundations of microeconomics and decision theory, and derives several key results for the application of decision making under uncertainty to the financial markets. Underlying all of economics are the concepts of present value. Its history is correspondingly early, Richard Witt discusses compound interest already in 1613, in his book Arithmeticall Questions, further developed by Johan de Witt and these ideas originate with Blaise Pascal and Pierre de Fermat. This decision method, fails to consider risk aversion, choice under uncertainty here, may be characterized as the maximization of expected utility. The impetus for these ideas arise from various inconsistencies observed under the expected value framework, the development here originally due to Daniel Bernoulli, and formalized by John von Neumann and Oskar Morgenstern.
The concepts of arbitrage-free, rational and equilibrium are coupled with the above to derive classical financial economics, Rational pricing is the assumption that asset prices will reflect the arbitrage-free price of the asset, as any deviation from this price will be arbitraged away. This assumption is useful in pricing fixed income securities, particularly bonds, this may be seen by considering that where an arbitrage opportunity does exist, prices can be expected to change, and are therefore not in equilibrium. An arbitrage equilibrium is thus a precondition for a general economic equilibrium, the formal derivation will proceed by arbitrage arguments. All pricing models are essentially variants of this, given specific assumptions and/or conditions and this approach is consistent with the above, but with the expectation based on the market as opposed to individual preferences. In general, this premium may be derived by the CAPM as will be seen under #Uncertainty, with the above relationship established, the further specialized Arrow–Debreu model may be derived.
This important result suggests that, under certain conditions, there must be a set of prices such that aggregate supplies will equal aggregate demands for every commodity in the economy
Economic geography is the study of the location and spatial organization of economic activities across the world. It represents a traditional subfield of the discipline of geography, many economists have approached the field in ways more typical of the discipline of economics. The subject matter investigated is strongly influenced by the researchers methodological approach, neoclassical location theorists, following in the tradition of Alfred Weber, tend to focus on industrial location and use quantitative methods. Economists such as Paul Krugman and Jeffrey Sachs have analyzed many traits related to economic geography, the name geographical economics has been suggested as an alternative. Some of the first traces of the study of aspects of economic activities can be found in seven Chinese maps of the State of Qin dating to the 4th century BC. Ancient writings can be attributed to the Greek geographer Strabos Geographika compiled almost 2000 years ago, the earliest travel journals included descriptions of the native peoples, the climate, the landscape, and the productivity of various locations.
These early accounts encouraged the development of trade patterns and ushered in the era of mercantilism. World War II contributed to the popularization of geographical knowledge generally, during environmental determinisms time of popularity, Ellsworth Huntington and his theory of climatic determinism, while greatly criticized, notably influenced the field. Valuable contributions came from location theorists such as Johann Heinrich von Thünen or Alfred Weber, other influential theories include Walter Christallers Central place theory, the theory of core and periphery. Fred K. Well-known economic geographers of this period include William Garrison, Brian Berry, Waldo Tobler, Peter Haggett, regional economic geography examines the economic conditions of particular regions or countries of the world. It deals with economic regionalization as well as economic development. Historical economic geography examines the history and development of economic structure. Critical economic geography is a taken from the point of view of contemporary critical geography.
Behavioral economic geography examines the processes underlying spatial reasoning, locational decision making. Economic geography is sometimes approached as a branch of anthropogeography that focuses on systems of human economic activity. Spatiotemporal systems of analysis include economic activities of region, mixed social spaces, analysis may focus on production, exchange and consumption of items of economic activity. It thus focuses on structures of agricultural landscapes and asks for the processes that lead to spatial patterns. While most research in this area concentrates rather on production than on consumption, the latter approach of agricultural geography is often applied within regional geography
Service economy can refer to one or both of two recent economic developments, The increased importance of the service sector in industrialized economies. The current list of Fortune 500 companies contains more service companies, the relative importance of service in a product offering. The service economy in developing countries is concentrated in financial services, retail, human services, information technology. Products today have a service component than in previous decades. In the management literature this is referred to as the servitization of products or a product-service system, virtually every product today has a service component to it. The old dichotomy between product and service has replaced by a service-product continuum. Many products are being transformed into services, for example, IBM treats its business as a service business. Although it still manufactures computers, it sees the physical goods as a part of the business solutions industry. They have found that the elasticity of demand for business solutions is much less than for hardware.
There has been a shift to a subscription pricing model. Rather than receiving a payment for a piece of manufactured equipment. Full cost accounting and most accounting reform and monetary reform measures are thought to be impossible to achieve without a good model of the service economy. g. Meat inspection is a service that is assumed within a product price, products are purchased for their assumed reliability in some known process. That is, paying for the safe and proper disposal when you pay for the product and those who advocate it are concerned with the phases of product lifecycle and the comprehensive outcome of the whole production process. It is considered a pre-requisite to a service economy interpretation of commodity. It is often applied to paint and other goods that become toxic waste if not disposed of properly and it is most familiar as the container deposit charged for a deposit bottle. One pays a fee to buy the bottle, separately from the fee to buy what it contains, if one returns the bottle, the fee is returned, and the supplier must return the bottle for re-use or recycling.
If not, one has paid the fee, and presumably this can pay for landfill or litter control measures that dispose of diapers or a broken bottle
Econometrics is the application of statistical methods to economic data and is described as the branch of economics that aims to give empirical content to economic relations. More precisely, it is the analysis of actual economic phenomena based on the concurrent development of theory and observation. An introductory economics textbook describes econometrics as allowing economists to sift through mountains of data to extract simple relationships, the first known use of the term econometrics was by Polish economist Paweł Ciompa in 1910. Ragnar Frisch is credited with coining the term in the sense in which it is used today, the basic tool for econometrics is the multiple linear regression model. Econometric theory uses statistical theory and mathematical statistics to evaluate and develop econometric methods, econometricians try to find estimators that have desirable statistical properties including unbiasedness and consistency. Applied econometrics uses theoretical econometrics and real-world data for assessing economic theories, developing models, analyzing economic history.
The basic tool for econometrics is the linear regression model. In modern econometrics, other tools are frequently used. Estimating a linear regression on two variables can be visualized as fitting a line through points representing paired values of the independent and dependent variables. For example, consider Okuns law, which relates GDP growth to the unemployment rate, the unknown parameters β0 and β1 can be estimated. Here β1 is estimated to be −1.77 and β0 is estimated to be 0.83 and this means that if GDP growth increased by one percentage point, the unemployment rate would be predicted to drop by 1.77 points. The model could be tested for statistical significance as to whether an increase in growth is associated with a decrease in the unemployment, as hypothesized. If the estimate of β1 were not significantly different from 0, the variance in a prediction of the dependent variable as a function of the independent variable is given in polynomial least squares. Econometric theory uses statistical theory and mathematical statistics to evaluate and develop econometric methods, econometricians try to find estimators that have desirable statistical properties including unbiasedness and consistency.
Ordinary least squares is used for estimation since it provides the BLUE or best linear unbiased estimator given the Gauss-Markov assumptions. Estimators that incorporate prior beliefs are advocated by those who favor Bayesian statistics over traditional, classical or frequentist approaches, applied econometrics uses theoretical econometrics and real-world data for assessing economic theories, developing econometric models, analyzing economic history, and forecasting. Econometrics may use standard statistical models to study economic questions, but most often they are with observational data, rather than in controlled experiments. In this, the design of studies in econometrics is similar to the design of studies in other observational disciplines, such as astronomy, sociology