Understanding Economic Models

While reading articles on different platforms, you may have come across a few that talk about analysing insights from economic models. But what are economic models and how do they impact the study of economics? Let’s watch the upcoming video and find out. 

So, in the video, you saw that economic models are simplified descriptions of reality that can be used to apply the law and the assumptions of economics to derive interesting insights. 

Models are built on various factors, and the number of factors determines how simple or complex a model is. You can say that economic models have two conflicting goals. One is that they should have a simple build and should be easily understood by the users. And the other is that they should be as accurate as possible. 

The reason these goals are conflicting is that the need for greater accuracy requires models to consider additional factors affecting the event, which always results in additional variables being added to the model. Greater the number of variables in the model, greater is the complexity of the model.

For example, assume that you wanted to explain the events occurring in an entire country's economy using one economic model. A simplified economic model can maybe have only two types of decision-makers: firms and households. A more complex and real model can include the role of governments, taxes and international trade. 

Additional Learning

Read this article published by the London School of Economics and Political Science, discussing the importance of economic models.