DP Economics HL 1.2 How Do Economists Approach the World?

DP Economics HL 1.2 How Do Economists Approach the World? - Full notes

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DP Economics HL | 1.2 How Do Economists Approach the World?

DP ECONOMICS · UNIT 1: INTRODUCTION TO ECONOMICS

1.2

How Do Economists Approach the World?

Full notes for HL · IB-style

Contents

1	Economics as a science: theories, models and evidence
2	Ceteris paribus, assumptions and the limits of models
3	Positive and normative economics in practice
4	The development of economic thinking
5	Rational choice and the challenge from behavioural economics
6	The nine central concepts as a framework
7	Economics as a social science
8	The scientific method in economics
9	Ceteris paribus
10	Models and their assumptions
11	The history of economic thought (overview)
12	Adam Smith and the invisible hand
13	Keynes and the Great Depression
14	Monetarism and the 1970s
15	Behavioural economics
16	Doughnut economics and planetary boundaries
17	Central themes of the IB course
18	Real-world examples and evaluation
19	Mixed review: worked problems
20	Additional exam-style practice
21	Economics and ethics
22	Common misconceptions and links
23	Exam-style question with markscheme
24	Check your understanding
25	Summary and topic map

These are full teaching notes. Read each section in order, try the Think about it question before you read on, and do every Quick check before moving to the next section.

Before you start

Rate yourself on each statement now, and again after you've worked through the notes. Shade R (not yet), A (getting there) or G (confident).

I can…	R	A	G
explain how economists use the scientific method, theories and models
explain the meaning and purpose of ceteris paribus
explain why economic predictions are often uncertain
distinguish positive from normative statements in a data text
outline the main ideas of Smith, the classical economists, Marx, Keynes, the monetarists and behavioural economists
explain how historical events changed economic thinking
evaluate the assumption of rational economic behaviour
use the central concepts to structure an evaluation

There is no additional HL content in 1.2. SL and HL students study the same material.

Guiding questions

How do economists study a world they cannot put in a laboratory? Why do economists disagree? How have big events, such as the Great Depression, changed the way economists think?

How this topic is examined

1.2 is about how economists think rather than about a particular market. It is rarely examined on its own, but it underpins every answer you write: knowing what a model can and cannot tell you, and separating facts from value judgements, is what turns description into evaluation.

Expect short questions in Paper 2 that ask you to identify positive or normative statements in a text, or to explain the role of ceteris paribus. In Paper 1, part (b) evaluation questions reward answers that question the assumptions behind a model, which is exactly the skill this topic builds.

Command term	What the examiner wants
Define	the precise meaning, ideally in the IB wording, in one or two sentences
Draw / Sketch	a fully labelled diagram with every axis, curve, equilibrium and change labelled
Explain	a causal chain linked to economic theory, usually supported by a diagram
Analyse	break a situation into its parts and trace the effects of each
Evaluate / Discuss	weigh up arguments, question assumptions and reach a justified conclusion using real-world examples

How to use these notes

Each section teaches one part of the syllabus in full. You'll see these boxes throughout; each has one job:

Box	What it's for
Think about it	a question to get you thinking before a section; the answer comes in the section
Key point	the one idea you must not forget
Common mistake	an error examiners see every year, and how to avoid it
In the real world	where the economics shows up outside the classroom
Try this	something quick you can do yourself to test the idea
Worked example	full solutions with IB-style marks (M1 method, A1 answer, R1 reasoning)
Quick check	short questions to test yourself at the end of each section

1 Economics as a science: theories, models and evidence

Economists cannot experiment on whole economies, so they build models and test them against data.

Think about it

A government wants to know whether a sugar tax will make people healthier. It cannot run the tax twice, once with and once without. How could economists still find out?

1.1 The scientific method in economics

Economists try to explain the world in the same disciplined way as natural scientists. The basic steps of the scientific method are: observe a pattern in the real world; develop a hypothesis (a testable statement about how variables are related); collect data to test it; and then accept, refine or reject the hypothesis.

Suppose economists observe that cities with higher bus fares have fewer bus passengers. They might hypothesise that 'a rise in bus fares reduces the number of passengers, ceteris paribus'. They then gather data from many cities and years and use statistical methods to see whether the relationship holds once other influences, such as income and population, are taken into account.

A theory is a set of related ideas that explains how something works and allows predictions. The theory of demand, for example, predicts that a higher price reduces quantity demanded. A theory is only as good as its ability to explain what we observe and to predict what will happen.

Step	What economists do	Example: bus fares
Observe	notice a pattern	cities with high fares have fewer passengers
Hypothesise	propose a testable relationship	higher fares reduce passenger numbers
Test	collect data and analyse it	compare fares and passengers across cities and years
Conclude	accept, refine or reject	the relationship holds, but is weaker for commuters

1.2 Models

A model is a simplified representation of reality that focuses on the most important relationships and leaves out the rest. A map is a good analogy: a road map ignores trees, houses and hills because they are not needed to find your way. A model is useful precisely because it leaves things out.

You will use many models in this course: the PPC, the circular flow, demand and supply, AD/AS. Each shows a small number of variables and how they are linked. Models can be expressed as diagrams, as equations (such as Qd = a − bP at HL), or in words.

Models are judged by how well they explain and predict, not by how realistic every assumption is. The demand and supply model assumes many buyers and sellers with full information; real markets rarely look like that, yet the model predicts the direction of price changes remarkably well.

1.3 Why economics cannot be an exact science

Economists face difficulties that natural scientists usually avoid. First, they can rarely run controlled experiments: a government cannot try two different interest rates at the same time to compare the results. Second, economies involve millions of people whose behaviour changes, sometimes in response to the predictions themselves. Third, many variables change at once, so it is hard to isolate the effect of one.

Economists use several methods to get round these problems: statistical analysis of large data sets, comparisons between similar countries or regions ('natural experiments'), and, increasingly, small-scale controlled experiments such as randomized trials of development policies. Even so, economic conclusions are always provisional and open to revision as new evidence appears.

In the real world

The 2019 Nobel Prize in Economics went to Abhijit Banerjee, Esther Duflo and Michael Kremer for using randomized controlled trials to test anti-poverty policies, for example comparing villages that received free bed nets with similar villages that did not.

Quick check

1. What is a hypothesis?

2. Why are models useful even though they are unrealistic?

3. Give two reasons why economics is not an exact science.

4. What is a natural experiment?

Answers: 1. a testable statement about a relationship 2. they isolate key relationships and allow prediction 3. no controlled experiments; behaviour changes; many variables change together 4. comparing similar groups affected differently by a real event

2 Ceteris paribus, assumptions and the limits of models

Hold everything else constant, and one relationship becomes clear.

Think about it

You notice that ice-cream sales and drowning incidents rise together. Does eating ice cream cause drowning? What is really going on?

2.1 Ceteris paribus

Ceteris paribus is Latin for 'all other things being equal'. When economists analyse the effect of one variable on another, they assume that every other relevant variable stays constant. When we say 'a rise in price reduces quantity demanded', we mean: if price rises and nothing else changes, quantity demanded falls.

Ceteris paribus allows economists to isolate a single cause and effect. Without it, analysis would be impossible, because in the real world everything changes at once. The ice-cream example shows the danger of ignoring it: both ice-cream sales and drowning rise in hot weather. The real cause is temperature, a third variable. Correlation between two variables does not prove that one causes the other.

2.2 Assumptions

Every model rests on assumptions: simplifications about how people behave or how markets work. Common assumptions include rational behaviour, perfect information, many buyers and sellers, and profit-maximizing firms. Assumptions make models manageable, but they also limit them.

Good economic analysis always asks: what happens if an assumption does not hold? If consumers are not fully informed, the demand curve may not reflect what is really good for them (this is the basis of merit goods and behavioural economics). If firms are not price-takers, the competitive model does not apply (this leads to the theory of market power at HL). Questioning assumptions is the heart of evaluation.

Key point

Ceteris paribus isolates one relationship. In evaluation, relaxing it ('in reality other factors also changed...') is often what earns the top marks.

Common mistake

Saying a model is 'useless because its assumptions are unrealistic'. Every model simplifies. The right question is whether the model still explains and predicts well enough for the purpose.

Quick check

1. Define ceteris paribus.

2. Why does correlation not prove causation?

3. Name two common assumptions in economic models.

4. How can questioning assumptions help in evaluation?

Answers: 1. all other things being equal 2. a third factor may cause both 3. rationality, perfect information, many buyers and sellers 4. it shows when the model's conclusions may not hold

3 Positive and normative economics in practice

Facts can be tested. Values cannot. Policy needs both.

Think about it

A minister says: 'Youth unemployment has reached 15%, which is unacceptable, so we should cut the minimum wage for under-21s.' Which parts of this sentence could an economist test?

A positive statement describes what is, was or will be, and can in principle be tested against evidence. A normative statement expresses a value judgement about what ought to be. Both appear in economic debate, and policy decisions always combine them.

In the minister's sentence, 'youth unemployment has reached 15%' is positive: it can be checked against data. 'Unacceptable' and 'we should cut the minimum wage' are normative: they depend on values, such as how much weight to put on employment versus fair pay. The claim implied in between, that cutting the minimum wage would reduce youth unemployment, is positive: it can be tested, and economists disagree about the evidence.

Why do economists disagree? Sometimes because the evidence on a positive question is unclear (how much would a minimum wage cut raise employment?). Sometimes because they hold different values (how much does equity matter compared with efficiency?). Separating the two kinds of disagreement is a powerful analytical skill.

Statement	Type	Why
The inflation rate was 6% in 2023	positive	can be checked against data
A sugar tax will reduce sugar consumption	positive	testable, even though it is a prediction
Inflation is too high	normative	'too high' is a value judgement
The government should protect farmers	normative	'should' expresses a value

WORKED EXAMPLE 1 Identifying statements in a text

Text: 'House prices rose 12% last year. This is unfair to young people, and the government should build 300 000 homes a year. Building more homes would lower prices.' Identify two positive and two normative statements.

Solution

Positive: 'House prices rose 12% last year' (testable fact)A1

Positive: 'Building more homes would lower prices' (testable prediction)A1

Normative: 'This is unfair to young people' (value judgement)A1

Normative: 'the government should build 300 000 homes a year' ('should')A1

Quick check

1. Is 'a minimum wage increase will cause unemployment' positive or normative?

2. Why do economists disagree?

3. Which word in 'prices are too high' signals a value judgement?

Answers: 1. positive (testable) 2. unclear evidence and different values 3. too

4 The development of economic thinking

Each major school of thought was a response to the problems of its time.

Think about it

Why might an economist writing in the 1930s, when one in four American workers was unemployed, think differently from one writing in 1776?

4.1 Adam Smith and the classical economists

Modern economics is often dated from Adam Smith's The Wealth of Nations (1776). Smith argued that individuals pursuing their own self-interest in competitive markets are led, as if by an 'invisible hand', to produce what society wants. The butcher and the baker provide our dinner not out of kindness but because it is profitable for them. Smith also stressed the gains from the division of labour and specialization, and argued for free trade and a limited role for government.

The classical economists who followed, including David Ricardo and Thomas Malthus, developed these ideas. Ricardo's theory of comparative advantage (Unit 4) showed that countries gain from trade even when one is better at producing everything. Classical economists believed that markets tend to clear on their own: if goods are unsold, prices fall; if workers are unemployed, wages fall until firms hire them. The economy therefore returns to full employment without government help. This view is called laissez-faire (leave it alone).

4.2 Marx and the critique of capitalism

Writing in the mid-1800s, during the harsh conditions of the industrial revolution, Karl Marx argued that capitalism exploits workers: owners of capital pay workers less than the value they produce and keep the difference as profit. He predicted growing inequality, crises and eventually the replacement of capitalism by collective ownership. His ideas inspired the planned economies of the twentieth century. Whatever one thinks of his conclusions, Marx put inequality and the distribution of income at the centre of economic debate.

4.3 The neoclassical revolution

From the 1870s, neoclassical economists such as Alfred Marshall introduced the idea of the margin: decisions are made by comparing the extra benefit of one more unit with its extra cost. They developed the theory of the rational, utility-maximizing consumer and the profit-maximizing firm, and the demand and supply diagram you use today. Neoclassical economics remains the basis of most microeconomics in this course.

4.4 Keynes and the Great Depression

The Great Depression of the 1930s challenged the classical view. Unemployment in the United States reached about 25% and stayed high for years; markets did not clear on their own. John Maynard Keynes argued in 1936 that an economy can get stuck at a low level of output because of insufficient aggregate demand. Wages may not fall quickly, and even if they did, lower wages would cut spending further.

Keynes's conclusion was that governments should actively manage demand: increase spending or cut taxes in a recession, even if this means borrowing. Keynesian economics dominated policy in many countries from the 1940s to the 1970s.

4.5 Monetarism and the return of the market

In the 1970s many economies suffered stagflation: high inflation and high unemployment at the same time, which Keynesian models struggled to explain. Milton Friedman and the monetarists argued that inflation is caused by excessive growth of the money supply, that governments should control inflation by limiting money growth, and that heavy intervention does more harm than good. Their ideas, along with a renewed faith in free markets, shaped policy in the 1980s: privatization, deregulation and independent central banks.

4.6 Behavioural economics and today

Since the late twentieth century, behavioural economics, combining economics with psychology, has challenged the assumption of perfectly rational individuals (Section 5). The 2008 global financial crisis also renewed interest in Keynesian ideas, financial regulation and inequality. Today, most economists draw on several schools rather than following one, and major issues such as climate change and inequality are pushing economic thinking in new directions.

School / thinker	Period	Core idea	Policy view
Adam Smith	1776	invisible hand; division of labour	free markets, limited government
Classical	late 1700s to 1800s	markets self-correct; comparative advantage	laissez-faire, free trade
Marx	mid 1800s	capitalism exploits labour; inequality	collective ownership
Neoclassical	from 1870s	marginal analysis; rational agents	markets usually efficient
Keynes	1930s	insufficient demand can cause lasting unemployment	government manages demand
Monetarist (Friedman)	1960s to 1980s	inflation caused by money growth	control money supply; less intervention
Behavioural	from 1970s	bounded rationality and biases	nudges and choice architecture

Key point

Economic ideas change when they fail to explain events. The Depression produced Keynes; stagflation revived free-market thinking; the 2008 crisis and psychology research boosted behavioural and Keynesian ideas.

Quick check

1. What did Adam Smith mean by the 'invisible hand'?

2. Why did the Great Depression challenge classical economics?

3. What did monetarists argue causes inflation?

4. What is behavioural economics?

Answers: 1. self-interest in markets leads to socially useful outcomes 2. unemployment stayed high; markets did not self-correct 3. excess growth of the money supply 4. economics combined with psychology; studies biases

5 Rational choice and the challenge from behavioural economics

The rational consumer is a powerful assumption. Real people often behave differently.

Think about it

Why do so many people sign up for gym memberships in January and then rarely go? Would a perfectly rational person do this?

5.1 The rational economic agent

Much of economics assumes that individuals are rational: they have consistent preferences, they weigh up costs and benefits using full information, and they choose the option that gives them the greatest satisfaction (utility maximization). Firms are assumed to maximize profit. These assumptions make it possible to predict behaviour and to derive demand and supply curves.

5.2 What behavioural economists observe

Behavioural economists, such as Daniel Kahneman and Richard Thaler, have shown in experiments and real data that people systematically depart from rational behaviour. Bounded rationality means that people have limited information and limited ability to process it, so they use rules of thumb. Bounded self-control means that people often act against their own long-term plans, under-saving, overeating or buying gym memberships they do not use. Bounded selfishness means that people care about others and act altruistically.

These findings matter for policy. If people do not always act in their own interest, governments may be able to improve outcomes with nudges: changes to the way choices are presented that do not restrict freedom. Making pension saving the default option, for example, has dramatically increased saving in several countries. You will study these ideas in depth in 2.4.

Common mistake

Saying behavioural economics proves people are 'irrational'. It shows that people are predictably and systematically different from the rational model, which is what makes their behaviour possible to study and influence.

Quick check

1. List three assumptions of the rational consumer.

2. What is bounded self-control?

3. What is a nudge?

Answers: 1. consistent preferences, full information, utility maximization 2. acting against one's own long-term plans 3. a change in how choices are presented that does not restrict them

6 The nine central concepts as a framework

Use the concepts to organise evaluation, not as a list to memorise.

The IB course is built around nine central concepts: scarcity, choice, efficiency, equity, economic well-being, sustainability, change, interdependence and intervention. They connect every topic and give you a ready-made framework for evaluation.

When you evaluate a policy, ask how it affects each relevant concept. A carbon tax, for example, improves sustainability and efficiency (by correcting an externality), may harm equity (low-income households spend more of their income on energy), and is a form of intervention that reflects change in priorities. Explicitly naming trade-offs between concepts shows the examiner that you understand that economic decisions rarely have one right answer.

Concept	Question to ask in evaluation
Efficiency	does the policy make better use of scarce resources?
Equity	who gains and who loses?
Sustainability	what is the effect on future generations?
Economic well-being	does quality of life improve, not just output?
Intervention	is government action justified, and could it fail?
Interdependence	how are other groups or countries affected?
Change	how might the situation evolve over time?
Scarcity and choice	what is the opportunity cost?

Quick check

1. Name the nine central concepts.

2. Which concepts might conflict in a carbon tax?

Answers: 1. scarcity, choice, efficiency, equity, well-being, sustainability, change, interdependence, intervention 2. sustainability/efficiency vs equity

7 Economics as a social science

Studying human behaviour.

Economics studies how people make choices under scarcity. Unlike natural sciences, it cannot usually run controlled experiments on whole economies, and human behaviour is influenced by expectations, culture and emotions. Economists therefore rely on models, natural experiments, and statistical analysis of data.

WORKED EXAMPLE 2 Limits of experiments (standard)

Explain why economists rarely use controlled experiments to test macroeconomic theories.

Solution

Whole economies cannot be isolated or repeatedR1

Many variables change at once; ethical and practical limitsR1

Quick check

1. Give one example of a natural experiment in economics.

Answers: 1. comparing regions before and after a minimum wage change in one region only

8 The scientific method in economics

Hypotheses, models and testing.

Economists form hypotheses, build models based on assumptions, derive predictions and test them against data. Models are refined or rejected when evidence contradicts them. Theories are never proven, only supported by evidence.

WORKED EXAMPLE 3 Testing (standard)

Outline how an economist could test the hypothesis that higher cigarette taxes reduce smoking.

Solution

Compare smoking rates before and after tax changes, or between regions with different taxesR1

Control for other factors (income, advertising bans)R1

9 Ceteris paribus

Holding other things equal.

Economic models assume ceteris paribus ('other things being equal') so that the effect of one variable can be isolated. For example, the law of demand states that as price rises, quantity demanded falls, ceteris paribus. In reality many factors change at once, which limits predictions.

Common mistake

Forgetting ceteris paribus when explaining a relationship. A price rise may coincide with rising demand if incomes also increase.

Quick check

1. Why is ceteris paribus necessary in models?

Answers: 1. to isolate the effect of one variable

10 Models and their assumptions

Simplifying reality.

Models simplify reality to focus on key relationships: the circular flow, supply and demand, the PPC. Assumptions (rational behaviour, perfect information) make models manageable but may not hold. Good evaluation questions whether assumptions are realistic.

WORKED EXAMPLE 4 Evaluating a model (exam level)

Evaluate the assumption of rational consumers in demand theory.

Solution

Allows clear predictions about choicesR1

Behavioural economics shows biases, habits and limited informationR1

11 The history of economic thought (overview)

Key paradigms.

Period / school	Key ideas
Classical (Smith, Ricardo)	free markets, the invisible hand, comparative advantage
Marxist	class conflict, exploitation of labour
Keynesian (1930s)	markets may not self-correct; government demand management
Monetarist / New Classical	money supply, inflation control, limited intervention
Behavioural	psychological biases affect decisions
Ecological / Doughnut economics	planetary boundaries and social foundations

12 Adam Smith and the invisible hand

Self-interest and markets.

Smith argued that individuals pursuing their own interest in competitive markets are led, as if by an invisible hand, to promote society's interest, by producing what consumers want efficiently. He also recognized the need for government in defence, justice and public works.

Quick check

1. Explain the invisible hand in one sentence.

Answers: 1. self-interested choices in competitive markets lead to efficient allocation of resources

13 Keynes and the Great Depression

When markets fail to self-correct.

The Great Depression (1929–1930s) brought mass unemployment that did not correct itself. Keynes argued that insufficient aggregate demand could keep economies in recession, and that government spending could restore employment. This led to active fiscal policy after 1945.

WORKED EXAMPLE 5 Keynesian view (standard)

Explain why Keynes supported government spending during a recession.

Solution

Private spending falls; aggregate demand is too lowR1

Government spending boosts demand and employment (multiplier)R1

14 Monetarism and the 1970s

Stagflation challenges Keynes.

In the 1970s, high inflation and unemployment together (stagflation) challenged Keynesian ideas. Monetarists such as Friedman emphasized controlling the money supply to reduce inflation and argued for a smaller role for government.

Quick check

1. What is stagflation?

Answers: 1. high inflation combined with high unemployment and low growth

15 Behavioural economics

Real human decisions.

Behavioural economics uses psychology to explain decisions that depart from rationality: bounded rationality, bounded self-control, bounded selfishness, biases (anchoring, availability, framing, loss aversion). Nudges (such as default pension enrolment) change behaviour without restricting choice.

WORKED EXAMPLE 6 Nudge (standard)

Explain how automatic enrolment in pension schemes increases saving.

Solution

People tend to accept defaults (status quo bias)R1

Opting out requires effort, so most remain enrolledR1

In the real world

When the UK introduced automatic pension enrolment in 2012, participation among eligible private-sector workers rose from about 42% to over 85%.

16 Doughnut economics and planetary boundaries

A new framework.

Kate Raworth's doughnut model proposes an economy that meets everyone's social needs (the inner ring) without overshooting ecological limits such as climate change and biodiversity loss (the outer ring). It challenges the focus on GDP growth alone.

Quick check

1. What does the inner ring of the doughnut represent?

Answers: 1. the social foundation: minimum standards of living for everyone

17 Central themes of the IB course

Concepts that connect.

The IB course is built around nine concepts: scarcity, choice, efficiency, equity, economic well-being, sustainability, change, interdependence, and intervention. Strong answers link topics to these concepts.

WORKED EXAMPLE 7 Concepts (standard)

Link the concept of equity to a government policy.

Solution

Progressive taxation redistributes income towards lower-income groupsR1

18 Real-world examples and evaluation

Making answers concrete.

Examiners reward specific, relevant real-world examples: a named country, policy, date and outcome. Evaluation weighs short-run and long-run effects, stakeholders, assumptions and the strength of evidence.

WORKED EXAMPLE 8 Evaluation frame (exam level)

List four evaluation angles to use in a Paper 1 part (b) answer.

Solution

Short run vs long runR1

Effects on different stakeholders; strength of evidence; assumptions/prioritiesR1

19 Mixed review: worked problems

Bringing the ideas together.

WORKED EXAMPLE 9 Mixed problem (exam level)

Using an example, explain how the economic paradigm changed after the 2008 financial crisis.

Solution

Renewed interest in government intervention and financial regulationR1

Quantitative easing; fiscal stimulus in many economies; questioning of efficient marketsR1

20 Additional exam-style practice

Paper 1 style.

WORKED EXAMPLE 10 Paper 1 part (a) (exam level)

Explain two assumptions underlying the model of rational consumer choice. [10]

Solution

Consumers have complete information and consistent preferencesR1 R1

Consumers maximize utility; act in self-interestR1 R1

Real-world examples and diagram/explanation as appropriateR1

21 Economics and ethics

Efficiency and fairness.

Economic decisions involve trade-offs between efficiency (maximizing total welfare) and equity (fairness of distribution). Ethical questions include who bears the costs of policies, intergenerational fairness and the value placed on non-market goods such as clean air.

Quick check

1. Give an example of a trade-off between efficiency and equity.

Answers: 1. high taxes for redistribution may reduce incentives to work

22 Common misconceptions and links

Students often think…	Actually…
economic theories are facts	theories are tested explanations that can be revised
models are wrong because they are unrealistic	models simplify on purpose; judge them by their predictions
correlation proves causation	a third factor may cause both variables
Keynes rejected markets entirely	Keynes argued governments should manage demand in a market economy
behavioural economics replaces standard economics	it adds to it by explaining systematic departures from rationality

How 1.2 connects to the rest of the course

Topic	Connection
1.1 What is economics?	economics as a social science and positive/normative statements
2.4 Critique of maximizing behaviour	behavioural economics in detail
3.2 AD/AS	the Keynesian and neoclassical models of the macroeconomy
3.5 and 3.6 Demand management	Keynesian and monetarist policy ideas
4.1 Trade	Smith and Ricardo on specialization and comparative advantage

23 Exam-style question with markscheme

Try this under exam conditions (about 15 minutes) before reading the markscheme.

Text A. 'In 2009, as unemployment soared, governments around the world raised spending and cut taxes. Some economists argued this was essential to prevent another Great Depression. Others warned that rising government debt was dangerous and that markets would recover on their own. Unemployment is still far too high in many countries.'

(a) Identify one positive and one normative statement in Text A. [2]

(b) Explain the role of ceteris paribus in economic models. [2]

(d) Explain why economists may disagree about the right policy response. [4]

Markscheme

Part	Answer	Marks
(a)	positive: e.g. 'governments raised spending and cut taxes'	A1
	normative: 'unemployment is still far too high'	A1
(b)	holds all other variables constant	R1
	isolates the effect of one variable on another	R1
(c)	recession caused by insufficient aggregate demand	R1
	markets may not self-correct quickly (sticky wages)	R1
	government spending boosts demand and output	R1
	reference to the Great Depression experience	R1
(d)	different evidence / uncertainty about the size of effects	R1
	different models: Keynesian vs classical views of self-correction	R1
	different values: weight on unemployment vs debt	R1
	positive vs normative disagreement distinguished	R1

Examiner's comments. In (a), many candidates chose 'markets would recover on their own' as normative; it is a prediction, so it is positive. In (d), the best answers separated disagreements about evidence from disagreements about values.

24 Check your understanding

Section A: multiple choice

1. Ceteris paribus means

A. all other things being equal B. in the long run C. at equilibrium D. with perfect information

2. A model in economics is

A. an exact description of reality B. a law that never changes C. a simplified representation of reality D. a government policy

3. Which school argued that markets self-correct?

A. Keynesian B. classical C. behavioural D. Marxist

4. Keynes argued that

A. markets always clear quickly B. money supply alone determines output C. governments should never borrow D. economies can remain below full employment without intervention

5. Which statement is normative?

A. minimum wages were raised in 2023 B. minimum wages should be raised C. unemployment is 5% D. prices rose by 3%

6. Monetarists emphasise

A. the money supply as the cause of inflation B. fiscal policy C. trade unions D. tariffs

7. Bounded rationality means

A. people are irrational B. people always maximize utility C. markets fail D. decisions are made with limited information and processing ability

8. Adam Smith's 'invisible hand' refers to

A. government planning B. taxation C. self-interest leading to socially useful outcomes through markets D. trade unions

Section B: structured

9. Explain how economists use models. [4]

10. Explain why the Great Depression led to Keynesian economics. [4]

11. Distinguish between positive and normative statements, with examples. [4]

12. Explain one way behavioural economics challenges the rational consumer assumption. [3]

Answers

1. A 2. C 3. B 4. D 5. B 6. A 7. D 8. C

9. Models simplify reality to isolate key relationships, using ceteris paribus; they are tested against evidence and judged by their predictions.

10. Mass unemployment persisted; classical self-correction failed; Keynes explained this by insufficient aggregate demand and argued for government demand management.

11. Positive: testable (e.g. 'inflation was 4%'); normative: value judgement (e.g. 'inflation should be lower').

12. e.g. bounded self-control: people under-save despite intending to; contradicts consistent utility maximization.

25 Summary and topic map

Idea	Remember
Scientific method	observe, hypothesise, test, conclude
Model	simplified representation; judged by predictions
Ceteris paribus	all other things equal
Positive / normative	testable / value judgement
Smith and classical	invisible hand, self-correcting markets
Keynes	demand management after the Depression
Monetarist	inflation from money growth
Behavioural	bounded rationality, self-control, selfishness
Central concepts	a framework for evaluation

Before the exam, make sure you…

•quote the exact words when identifying normative statements
•use ceteris paribus whenever you explain a model
•link each school of thought to the events that produced it
•question assumptions in evaluation rather than dismissing models
•name central concepts explicitly when weighing trade-offs

How Economists Approach the World on one page

Cover this page with a sheet of paper and try to rebuild it from memory. Whatever you can't recall is what to revise next.

Figure 1. Topic map for How Economists Approach the World.

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