(a condensed summary)



Preview the material: Look at sub-headings, graphs, questions at the end of chapter; note new terms.




(prepared by Vincent Geraci, Associate Professor of Economics,
for the UT Learning Center, University of Texas at Austin 10/82)

At one of our well-known colleges, students have their own names for all the courses. They call the astronomy course "stars," the geology course "rocks," and the biology course "frogs." Their name for the economics course is "graphs and laughs." (story by E. G. Dolan)

Well, I don't know about the laughs, but I'm sure about the graphs. A good picture is worth many (if not a thousand) words, so economists use graphs to illustrate the theories they develop about people's economic behavior. As an aid to studying economics, we need to master the basics of working with graphs.

We first bearded the "line's den" in high school when we encountered those two cats, "y" and "x." We wrote the linear equation:

y = b + mx

where y is the dependent variable, x is the independent variable, b is the vertical intercept, and m is the slope (sometimes described as "rise over run"). Illustrative graphs follow:

The master of modern video games realizes that we are working in the Cartesian coordinate system with the northeast quadrant reserved for positive thinking (i. e., both axes are positive.)

* Economists like to scramble matters a bit (and maybe your mind in the process) by using symbols other than y and x. For example, consider the basic relationship between household consumption and household income. A simple model of household consumption behavior is the linear function:

C = a + bY
where (a > 0, 0 < b < 1)

where C is consumption (in dollars), Y is income (in dollars), a is autonomous consumption (in dollars), and b is the marginal propensity to consume (pure number).

Note that the preceding relationship is just the linear equation from before with new actors:

Earlier b denoted the intercept; now b denotes the slope. It obviously pays not to become hooked on a particular notation. "To b or not to b; that is the question." (Pardon the sick humor.)

The linear consumption relationship, by its constant slope b, embodies the special economic assumption that households consume a constant fraction out of each added dollar of income. Also, consumption generally rises with income; hence the slope b is positive.
When learning a new graph in economics, first ask yourself the purpose of the graph. What economic story is being told? What are the economic assumptions and the lessons? Be sure to note the units of measurement on each axis (dollars for both C and Y) and the direction of the relationship (positive for C as a function of Y).

* Of course, household consumption depends on a great many factors besides income, e.g., household size and composition, individual expectations about future prices, and so on. Since these other determinants of consumption do not appear on the graph, the effects on consumption of changes in them are captured by shifts of the entire consumption line. If the change spells increased consumption for any given level of income (e.g., household size increases), then the line shifts to the left. If the change spells decreased consumption, the line shifts to the right.

Shifts must be distinguished from "movements along" a particular consumption line. The latter reflect changes in consumption that are produced by changes in income itself.

* Most economic behavior involves multiple behavioral relationships. The prototype is the simple supply and demand model for an individual commodity in a competitive market. Continuing to assume linear relationships for simplicity, we may posit:

Here QS is quantity supplied, QD is quantity demanded, P is price, a and b are respectively the intercept and slope of the supply schedule and c and d are respectively the intercept and (magnitude of the) slope of the demand schedule. Of course, a and b represent different constants here from those of the consumption function. I reused the symbols, a and b, to emphasize that one must avoid memorization of symbols. After all, symbols mean nothing out of particular economic (or other) contexts.

* The market equilibrium (temporary place of rest) may be illustrated as

The intersection of the supply and demand lines illustrates the market equilibrium ("E") in which quantity supplied equals quantity demanded equals quantity transacted (QS = QD = Qe) at the equilibrium price Pe. For prices above Pe, there is excess supply which--assuming competition--will drive the price down. For prices below Pe, there is excess demand which will drive the price up. The equilibrium is reached at point E.

* As a final exercise in using graphs, suppose that some determinant of quantity demanded other than price changes; then the demand curve shifts. If the change increases quantity demanded at any given price (e.g., consumer incomes rise), then the demand curve shifts to the right. In this event both equilibrium price and quantity rise.

In learning supply and demand analysis, you should evaluate the effects on price and quantity of various, alternative changes in the economics determinants. Graphs usually prove an invaluable aid.


(Jack Mogab and De Johnson, Southwest Texas State University)

QUESTION: Why do many students discover the principles of economics courses as one of the most difficult experiences in their first two years of college?

ANSWER: Because these two introductory courses combine the study of economic models with both analyses and applications of those models. These three aspects of mastering economic theory rely on a basic understanding of the special language of economics.

Since most of you did not study economics in high school, you come to college economics courses without that special language or prior knowledge of general economic theory. Yet you must demonstrate that you can analyze and apply these theories in order to achieve an understanding of economics.

The following examples demonstrate this academic challenge. The first level of academic performance is knowledge--the remembering of previously learned material. Whenever you learn (i.e., remember) specific facts or explanations or definitions, you are functioning at the knowledge level. A test question at this level might be:

QUESTION: To say that two economic goals are mutually exclusive means that: (a) it is not possible to achieve both goals; (b) these goals are not accepted as goals in the USSR (c) the achievement of one of the goals results in the achievement of the other; (d) it is possible to quantify both goals.

ANSWER: (a) it is not possible to achieve both goals


QUESTION: Profit is the reward paid to those who provide the economy with capital.


This type of question is probably routine for you since knowledge level questions are typically asked on high school tests. But in Economics, only a few (15-20%) of test questions are at this level. Yet it is essential to learn material in this way because you need the knowledge to function at the next level.

Comprehension is the second level of academic performance. It is the ability to grasp the meaning of material. This may be shown by translating material from one form to another (words to numbers), by interpreting material (explaining or summarizing), and by estimating future trends (predicting consequences or effects). These learning outcomes go one step beyond the simple remembering of material and represent the lowest level of understanding. Several examples of comprehension test questions are:

QUESTION: If an individual determines to save a larger percentage of his/her income, he/she will no doubt be able to save more. To reason, therefore, that if all individuals determine to save a larger percentage of their incomes they will be able to save more is an example of: (a) the post hoc, ergo propter hoc fallacy; (b) the fallacy of composition; (c) a generalization that is true during a depression but untrue during prosperity; (d) using loaded terminology.

ANSWER: (b) the fallacy of composition

QUESTION: If there is an increase in the resources available within the economy: (a) more goods and services will be produced in the economy; (b) the economy will be capable of producing more goods and services; (c) the standard of living in the economy will rise; (d) the technological efficiency of the economy will improve.

ANSWER: (b) the economy will be capable of producing more goods and services.

Comprehension questions comprise 30-40% of most economics tests. (Note: your first test in each course will probably have 50% comprehension questions.) The third level, application, is the ability to use learned material in new and concrete situations. This may include the application of such things as concepts, principles, laws, and theories. Obviously, to function at this level requires both knowledge and comprehension of the relevant material.

Examples of application questions are:

QUESTION: The law of supply states that as price increases: (a) supply increases; (b) supply decreases; (c) quantity supplied increases; (d) quantity supplied decreases.

ANSWER: (c) quantity supplied increases

Using this table, answer the following question.

ANSWER: (d) law of supply

Using this graph, answer the following question:


ANSWER: (a) law of supply

Notice that these three questions are essentially the same question in different formats: verbal, numerical, and graphic.

Analysis, the fourth level, is the ability to break down material into its component parts so that its organizational structure may be understood. This may include the identification of the parts, analysis of the relationships between parts, and recognition of the organizational principles involved.

The analysis of the relationship between parts of a theory is especially important in the study of economics. Examples of this level of question are:

QUESTION: An increase in demand and a decrease in supply will: (a) increase price and increase the quantity exchanged; (b) decrease price and decrease the quantity exchanged; (c) increase price and the effect upon quantity exchanged will be indeterminate; (d) decrease price and the effect upon quantity exchanged will be indeterminate.

ANSWER: (c) increase price and the effect upon quantity exchanged will be indeterminate.

Based on information from The UT Learning Center

Updated: September 01, 2006
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