Economic Models

Read this section on the reasoning behind economic models, which are just representations of reality or theoretical thinking for understanding something. Pay attention to the explanation about the Circular Flow Diagram (Figure 2), which represents how the economy and its actors are related to one another. Make sure to answer the quiz questions.

Try It


A key feature of some economic models is linearity, or whether the variable of interest changes in constant proportion with another associated variable (meaning they exhibit a linear or constant straight line relationship) or whether the change in the variable is not a constant proportion but varies more or less depending on the level of the associated variable (meaning they have a non-linear or curved line relationship). Which of the following is the most effective way for an economist to support such a relationship?

    • Apply knowledge of economic theory to assert the form of the relationship.
    • Plot projected future data points of each variable against each other in a graph to visualize the  potential future form the relationship.
    • Conduct behavioral experiments and make quantitative observations that indicate the form of the relationship.

Question 2

One important use of algebraic modeling of economic behavior is to determine the direction of the relationship between two economic variables – say the quantity of X that is purchased and the price paid for X. If, as the price of X rises, the quantity of purchases fall, the relationship can be said to be ________.

    • negative
    • positive
    • constant