Difference Between Positive and Normative

Economics
Last updated on June 2, 2017 by Surbhi S

Economics is a science as well as

art. But which type of science is a big question here, i.e. positive or
normative? Positive economics is related to the analysis which is limited to
cause and effect relationship. On the other hand, normative
economics aims at examining real economic events from the moral and
ethical point of view. It is used to judge whether the economic events are
desirable or not.

While Positive economics is based on facts about the economy. Normative

economics is value judgment based. Most of the people think that the
statements which are commonly accepted are a fact but in reality, they are
valued. By, understanding the difference between positive and normative
economics, you will learn about how the economy operates and to which
extent the policy makers are taking correct decisions.

Content: Positive Economics Vs Normative Economics

1. Comparison Chart
2. Definition
3. Key Differences
4. Conclusion

Comparison Chart
 BASIS FOR
POSITIVE ECONOMICS NORMATIVE ECONOMICS
COMPARISON

Meaning A branch of economics based A branch of economics based on

on data and facts is positive values, opinions and judgement is
economics. normative economics.

Nature Descriptive Prescriptive

What it does? Analyses cause and effect Passes value judgement.

relationship.

Perspective Objective Subjective

Study of What actually is What ought to be

Testing Statements can be tested using Statements cannot be tested.

scientific methods.

Economic issues It clearly describes economic It provides solution for the economic
issue. issue, based on value.

Definition of Positive Economics

Positive Economics is a branch of economics that has an objective approach,

based on facts. It analyses and explains the casual relationship between
variables. It explains people about how the economy of the country operates.
Positive economics is alternatively known as pure economics or descriptive
economics.

When the scientific methods are applied to economic phenomena and scarcity
related issues, it is positive economics. Statements based on positive
economics considers what’s actually occurring in the economy. It helps the
policy makers to decide whether the proposed action, will be able to fulfill our
objectives or not. In this way, they accept or reject the statements.
Definition of Normative Economics

The economics that uses value judgments, opinions, beliefs is called normative
economics. This branch of economics considers values and results
in statements that state, ‘what should be the things’. It incorporates subjective
analyses and focuses on theoretical situations.

Normative Economics suggests how the economy ought to operate. It is also

known as policy economics, as it takes into account individual opinions and
preferences. Hence, the statements can neither be proven right nor wrong.

Positive Economics vs Normative Economics –

Comparison Table
Let’s have a look at the Comparison between Positive Economics vs Normative

Economics:

The basis of Comparison

Between Positive Economics Positive Economics Normative Ec

vs Normative Economics

Positive economy relates to the causes and

Normative economics ge
effects of an economy. It captures the
Related to the theory which prevails
consumer or the mass sentiment and the
or as per the things whic
consequences.

Meaning It strongly deals with facts and data. Thus the The Normative Economy
 facts lead to various opinions and different fictional part of the thou

judgments. with what is essential rat

be done from the curren

The nature of the positive economy is based on

The Normative economy
data and facts. It is highly narrative regarding
Nature perceptions and the mor
the demand and supply situation and the
which need to happen in
present trends across the masses.

The argument would bas

The argument which could be arising is
because there is no ques
Argument objective as it is well backed up by data and
the facts are morally fitte
relevant information.
situations.

The statement is not pos

The statements/ argument under positive data are not available be

economy can be tested with the estimated based on a different phil

Testing
figures and from there the right or wrong or values, etc. There is no o

the difference can be found. compare morality along

facts and figures.

 The facts are required for a reality check within
The opinions are require
the economy. Sometimes the desired results
moral value to the system
Caused by Need may move in a different direction and to
which need to be done f
control this we need to take the help of a
results.
Positive economy.

Real data, Facts, drivers of demand and supply,

It is based on moral valu
Based on the difference in expectations as well as
needs to be done and fic
practical implementations, etc.

Conclusion – Positive Economics vs Normative

Economics
Both Positive Economics vs Normative Economics concepts are necessary and

have its importance based on the situations. The policymakers give emphasize

on both Positive Economics vs Normative Economics concepts and their

principles are used on a situational basis. The overall framework is required

which can be called as the value or the moral of the particular segment. Then

the results are required to be extracted and tallied with the budgeted figures.

Thus the difference can be obtained and it can be worked upon accordingly so
as to get the desired results which were morally supported by the Normative

Economics.

PPF vs PPC
The world of economics is one that can be very complicated. Laws
of supply and demand, factors of production, allocable resources,
opportunity costs, scarcity; these are all terms and concepts that
affect the economy on the macro- and the microeconomic levels.
It is no surprise that different calculations and mathematical
equations are involved in each and every major concept. It is quite
common to encounter graphical representations of these
calculations. One of the most common used is the Production
Possibility Frontier (PPF) or the Production Possibility Curve
(PPC) which are used when comparing two commodities and their
effects on each other.

The Production Possibility Frontier (PPF) is an economics term

referring to a graphical representation of the possible
combinations or rates that two different commodities will be
produced at given the same amount of resources, manpower, and
other factors of production available within a certain period of
time. Production Possibility Curve (PPC) is simply another term
used to refer to this. Other terms used in the same way are
Production Possibility Boundary and transformation curve.

A PPF/PPC model would theoretically show the comparison of

one commodity’s production in comparison to the level of another
and what effect the decrease or increase of one commodity’s
production will have on the other. Note that this is not limited to a
physical commodity or goods as the PPF/PPC can also be used to
represent the productive efficiency of services. The desired result
is to maximize the potential output level of one of the
commodities in relation to that of the other. A PPF/PPC
representation can take the shape of a concave or a straight line,
(aka “linear”), depending on the elements and factors being taken
into the equation. Many economic concepts and problems can be
represented using a PPF/PPC, such as productive efficiency,
allocation, opportunity cost, limited or scarce resources, and the
like. Even factors of a larger scope in the economy such as
economic growth or stagnation, the effects of supply and demand,
dwindling labor force, and so on can be represented with a
PPF/PPC if provided with all the necessary data.

The Production Possibility Frontier/Production Possibility Curve,

however, is often criticized for being oversimplified and
unrealistic. In general, using a PPF assumes certain constants:
that wants of people are unlimited; that the resources involved are
limited but have alternatives. Only two commodities are being
compared, which does not factor the effect of other commodities
in the overall economy, (which, in reality, any commodity would
have an effect, however small); that the economy is constant and
stable; it does not take into consideration any advancements in
the economy (which, realistically, would have a significant impact
on the production, particularly if the period of time used is in
years); factors of production (i.e., land, labor, and capital goods)
are constant and always available; and, finally, that the entire
economic environment is unchanging (which, as we all know, is
unrealistic as it can shift at any time). Despite these criticisms,
PPF/PPC models are commonly used for getting rough estimates
on what commodities are needed, how much should be produced,
what needs to be adjusted with the allocation of resources,
potential economic growth, and such.

The great thing about the PPF/PPC concept is that it is very

versatile in application. It can be used in the macroeconomic
level, as mentioned before, but it can also be used at the
microeconomic level to address the same problems in budgeting
of a household or even at the individual level. For instance, by
using the PPF/PPC model, a student can compare their
productivity between two subjects and see where he is more
effective, thus being able to make adjustments so that he can
improve the one where he is lagging behind (figuring where
changes need to be made to improve his “productivity”).
Summary:

1.Production Possibility Frontier (PPF) is a graphical presentation

of the effects of one commodity or product compared to another.
2.Production Possibility Curve (PPC) is merely another term used
in reference to this, but the concepts are the same.
3.PPF/PPC is often criticized due to the unrealistic assumptions it
makes when calculating for the results.
4.PPF/PPC use a simplified model which can be in a concave or a
linear representation to determine factors that can affect the
productivity of two goods or services.
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10 Principles of Economics
 This article is part of the EconHelp
Tutoring Wiki

Here is a list of the Ten Principles of Economics

1. People Face Tradeoffs

 To get one thing, we usually have to give up something else
 Ex. Leisure time vs. work
2. The Cost of Something is What You Give Up to Get It
 Opportunity cost is the second best alternative foregone.
 Ex. The opportunity cost of going to college is the money you could have earned if
you used that time to work.
3. Rational People Think at the Margin
 Marginal changes are small, incremental changes to an existing plan of action
 Ex. Deciding to produce one more pencil or not
 People will only take action of the marginal benefit exceed the marginal cost
4. People Respond to Incentives
 Incentive is something that causes a person to act. Because people use cost and
benefit analysis, they also respond to incentives
 Ex. Higher taxes on cigarettes to prevent smoking
5. Trade Can Make Everyone Better Off
 Trade allows countries to specialize according to their comparative advantages and to
enjoy a greater variety of goods and services
6. Markets Are Usually a Good Way to Organize Economic Activity
 Adam Smith made the observation that when households and firms interact in markets
guided by the invisible hand, they will produce the most surpluses for the economy
7. Governments Can Sometimes Improve Economic Outcomes
 Market failures occur when the market fails to allocate resources efficiently.
Governments can step in and intervene in order to promote efficiency and equity.
8. The Standard of Living Depends on a Country's Production
 The more goods and services produced in a country, the higher the standard of living.
As people consume a larger quantity of goods and services, their standard of living will
increase
9. Prices Rise When the Government Prints Too Much Money
 When too much money is floating in the economy, there will be higher demand for
goods and services. This will cause firms to increase their price in the long run causing
inflation.
10. Society Faces a Short-Run Tradeoff Between Inflation and Unemployment
 In the short run, when prices increase, suppliers will want to increase their production of
goods and services. In order to achieve this, they need to hire more workers to produce
those goods and services. More hiring means lower unemployment while there is still
inflation. However, this is not the case in the long-run.
https://wiki.ubc.ca/10_Principles_of_Economics
 10 Principles of Economics
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Contents

 1How People Make Decisions

o 1.1People face trade-offs
o 1.2Significance of opportunity cost in decision making
o 1.3Rational people think at the margin
o 1.4People respond to incentives
 2How People Interact With Each Other
o 2.1Trade can make everyone better off
o 2.2Markets are usually a good way to organize economic activity
o 2.3Government can sometimes improve market outcomes
 3The Forces and Trends That Affect How The Economy as a Whole Works
o 3.1A country's standard of living depends on its ability to produce goods and services
o 3.2Prices rise when the government prints too much money
o 3.3Society faces a short-run trade off between inflation and unemployment
Gregory Mankiw in his Principles of Economics outlines Ten Principles of Economics that we will
replicate here, they are:

1. People face trade-offs

2. The cost of something is what you give up to get it
3. Rational people think at the margin
4. People respond to incentives
5. Trade can make everyone better off
6. Markets are usually a good way to organize economic activity
7. Governments can sometimes improve market outcomes
8. A country's standard of living depends on its ability to produce goods and services
9. Prices rise when the government prints too much money
10. Society faces a short-run tradeoff between Inflation and unemployment.

How People Make Decisions[edit]

People face trade-offs[edit]

 “There is no such thing as a free lunch (TINSTAAFL).” To get one thing that we like, we usually
have to give up another thing that we like. Making decisions requires trading one goal for
another.
 Examples include how students spend their time, how a family decides to spend its income, how
the government spends revenue, and how regulations may protect the environment at a cost to
firm owners.
 A special example of a trade-off is the trade-off between efficiency and equality.
o Definition of efficiency: the property of society getting the maximum benefits from its
scarce resources.
 o Definition of equality: the property of distributing economic prosperity fairly among the
members of society.
o For example, tax paid by wealthy people and then distributed to poor may improve equality
but lower the incentive for hard work and therefore reduce the level of output produced by
our resources.
o This implies that the cost of this increased equality is a reduction in the efficient use of our
resources.
 Another Example is “guns and butter”: The more we spend on national defense(guns) to
protect our borders, the less we can spend on consumer goods (butter) to raise our standard of
living at home.
 Recognizing that trade-offs exist does not indicate what decisions should or will be made.
Significance of opportunity cost in decision making [edit]

 Because people face tradeoffs, making decisions requires comparing the costs and benefits of
alternative courses of action.
 The cost of…
o …going to college for a year is not just the tuition, books, and fees, but also the foregone
wages.
o …seeing a movie is not just the price of the ticket, but the value of the time you spend in the
theater
 This is called opportunity cost of resource
 Definition of opportunity cost: whatever must be given up in order to obtain some item. or
last best alternative forgone
 When making any decision, decision makers should consider the opportunity costs of each
possible.
Rational people think at the margin[edit]

 Economists generally assume that people are rational.

o Definition of rational: systematically and purposefully doing the best you can to
achieve your objectives.
o Consumers want to purchase the bundle of goods and services that allow them the greatest
level of satisfaction given their incomes and the prices they face.
o Firms want to produce the level of output that maximizes the profits.
 Many decisions in life involve incremental decisions: Should I remain in school this semester?
Should I take another course this semester? Should I study an additional hour for tomorrow’s
exam?
 Rational people often make decisions by comparing marginal benefits and marginal costs.
 If the additional satisfaction obtained by an addition in the units of a commodity is equal to the
price a consumer is willing to pay for that commodity, he achieves maximum satisfaction, which
is the main goal of every rational consumer.
o Example: Suppose that flying a 200-seat plane across the country costs the airline
$1,000,000, which means that the average cost of each seat is $5000. Suppose that the
plane is minutes away from departure and a passenger is willing to pay $3000 for a seat.
Should the airline sell the seat for $3000? In this case, the marginal cost of an additional
passenger is very small.
o Another example: Why is water so cheap while diamonds are expensive? Because water is
plentiful, the marginal benefit of an additional cup is small. Because diamonds are rare, the
marginal benefit of an extra diamond is high.
People respond to incentives[edit]
 Incentive is something that induces a person to act [by offering rewards to people who change
their behavior].
 Because rational people make decisions by comparing costs and benefits, they respond to
incentives.
 Incentives may possess a negative or a positive intention. It may be in a positive or a negative
way.
For example,by offering a raise in the salary of whosoever works harder can induce people to work
hard which is a positive incentive. Whereas putting a tax on a good,say fuel, can induce people to
consume it less which is a negative incentive.

How People Interact With Each Other[edit]

Trade can make everyone better off[edit]

 Trade is not like a sports competition, where one side gains and the other side loses.
 Consider trade that takes place inside your home. Your family is likely to be involved in trade
with other families on a daily basis. Most families do not build their own homes, make their own
clothes, or grow their own food.
 Countries benefit from trading with one another as well.
 Trade allows for specialization in products that benefits countries (or families)
Markets are usually a good way to organize economic activity[edit]
Many countries that once had centrally planned economies have abandoned this system and are
trying to develop market economies.

 Definition of market economy: an economy that allocates resources through the

decentralized decisions of many firms and households as they interact in markets for
goods and services.
 Market prices reflect both the value of a product to consumers and the cost of the resources
used to produce it.
 Centrally planned economies have failed because they did not allow the market to work.
 Adam Smith and the Invisible Hand
o Adam Smith’s 1776 work suggested that although individuals are motivated by self-interest,
an invisible hand guides this self-interest into promoting society’s economic well-being.
Government can sometimes improve market outcomes[edit]
There are two broad reasons for the government to interfere with the economy: the promotion of
efficiency and equality.

 Government policy can be most useful when there is market failure.

o Definition of market failure: a situation in which a market left on its own fails to allocate
resources efficiently.
 Examples of Market Failure
o Definition of externality: the impact of one person’s actions on the well-being of a
bystander. (Ex.: Pollution)
o Definition of market power: the ability of a single economic actor (or small group of
actors) to have a substantial influence on market prices.
o Because a market economy rewards people for their ability to produce things that other
people are willing to pay for, there will be an unequal distribution of economic prosperity.
 Note that the principle states that the government can improve market outcomes. This is not
saying that the government always does improve market outcomes.

The Forces and Trends That Affect How The Economy as a Whole
Works[edit]
A country's standard of living depends on its ability to produce goods and
services[edit]

 Differences in the standard of living from one country to another are quite large.
 Changes in living standards over time are also quite large.
 The explanation for differences in living standards lies in differences in productivity.
 Definition of productivity: the quantity of goods and services produced from each hour of
a worker’s time.
 High productivity implies a high standard of living.
 Thus, policymakers must understand the impact of any policy on our ability to produce goods
and services.
 To boost living standards the policy makers need to raise productivity by ensuring that workers
are well educated, have the tools needed to produce goods and services, and have access to
the best available technology.
 Per capita income of nation
Prices rise when the government prints too much money[edit]

 Definition of inflation: sustained increase in the overall level of prices in the economy.
 When the government creates a large amount of money, the value of money falls.
 Examples: Germany after World War I (in the early 1920s), the United States in the 1970s and
Zimbabwe in the 2000s.
Society faces a short-run trade off between inflation and unemployment[edit]

 Most economists believe that the short-run effect of a monetary injection (injecting/adding
money into the economy) is lower unemployment and higher prices.
o An increase in the amount of money in the economy stimulates spending and increases the
demand of goods and services in the economy.
o Higher demand may over time cause firms to raise their prices but in the meantime, it also
encourages them to increase the quantity of goods and services they produce and to hire
more workers to produce those goods and services. More hiring means lower
unemployment.
 Some economists question whether this relationship still exists.
 The short-run trade-off between inflation and unemployment plays a key role in analysis of the
business cycle.
 Definition of business cycle: fluctuations in economic activity, such as employment and
production.
 Policymakers can exploit this trade-off by using various policy instruments, but the extent and
desirability of these interventions is a subject of continuing debate..

PART 1:
Principle 1: PEOPLE FACE TRADEOFFS: To get something one has to sacrifice other thing.
For example, a country can spend its maximum resources for its defence but at the same
time, it has to sacrifice the maximum spending for the country welfare. A society also
faces tradeoffs between the Efficiency and Equity. The government generally tax rich
people so that it can get the money from them and use it for the welfare of the poor
people; this brings the equity but reduced the efficiency. (Mankiw,2003,p.5)

Principles 2: THE COST OF SOMETHING IS WHAT YOU GIVE UP TO GET IT: Since we do
tradeoffs, the people generally find out the cost and benefits that their action going to
incur. For an action, one has to sacrifice something. For example: I have come here to do
post-graduation but I had to sacrifice my server administrator job. A cost that given up
to get something known as the opportunity cost. My opportunity cost is server
administrator job, money, and time, which I had given up for the post-graduation.
(Mankiw,2003,pp.5&6)

Principle 3: RATIONAL PEOPLE THINK AT THE MARGIN: (Refer appendix (a)) One always
does small changes in their plan of action to achieve maximum benefits from the
process. (Mankiw,2003,p.6) This small change known as the marginal changes as it take
place around edges. For example: A student who is enrolled for 1 year of education, if
he/she add one more year to its study, they will be able to apply for permanent
residency which incur as additional benefits but with this come the additional costs of
college fees, time etc. Comparison of marginal benefits and marginal cost will be able to
help you in taking the decision.

Principle 4: PEOPLE RESPOND TO INCENTIVES: Behaviour of any person or firm changes

according to the environmental variables like benefits or cost changes. For example: If
the cost of the orange increases then the consumer will shift towards apples, as cost of
orange is high. (Mankiw,2003,p.7)

Principle 5: TRADE CAN MAKE EVERYONE BETTER OFF: Trade is taking place between
the products that countries own not between the countries. (Chapter 1,p.4) (Refer
appendix (b)) Trading between parties makes goods cheaper. For example: Trade
between country A and country B will help both the countries to get goods of one
another and help them to expertise in what they are good at producing.

Principle 6: MARKETS ARE USUALLY A GOOD WAY TO ORGANIZE ECONOMIC ACTIVITY:

Market Economy is the concept where a centralise judgment planner is substituted by
judgement of millions of households and firms. The place where the households and
firm can communicate with each other for services and goods is known as market and it
is taken place under the influence of the price and self-interest, which helps them to
take decision. For example: Taxes that impose by the government always change the
goods price and decision of producer and consumers. (Mankiw,2003,p.9)

Principle 7: GOVERNMENTS CAN SOMETIMES IMPROVE MARKET OUTCOMES: When a

market fails to distribute the resources efficiently, it is known as market failure, which
decreases efficiency. Government impose some rules to improve the
market.(Mankiw,2003,p.11) For example: When the Australian government, impose
carbon tax on the emission of the carbon, which will makes the firm to emit less carbon,
which results in less pollution. (Kirk,2010)

Principle 8: A COUNTRY’S STANDARD OF LIVING DEPENDS ON ITS ABILITY TO

PRODUCE GOODS AND SERVICES: The living standard in the country is depends upon
the country producing capacity. In country where, more goods and service are produced
in a unit time there standard of living is high as compared to the people with less
productivity. For example: Living standard of a U.S. citizen is better than living standard
of Mexican and Nigerian citizen as a U.S. citizen earn more than those two citizen. .
(Mankiw,2003,p.12)

Principle 9: PRICES RISE WHEN THE GOVERNMENT PRINTS TOO MUCH MONEY:
Inflation is the state in which the price level increases in the economy. Inflation occurs
when the supply of the money, which is under the hood of government, increased
drastically in compare to the accessibility of services and goods in the markets.(Chapter
1, p.6) When the government produce high quantity of nation’s money, than it has lose
its value. For example: When in Germany the average price of the commodity is tripling
every month so the production of money is also tripling every month.
.(Mankiw,2003,p.14)

Principle 10: SOCIETY FACES A SHORT-RUN TRADEOFF

BETWEEN INFLATION AND UNEMPLOYMENT:
Policy that are making, to reduce the inflation led to increase in unemployment and
policy to reduce unemployment led to increase in inflation this properly describe in
Philip curve. This concept ends in 1970 when inflation and unemployment co-existed at
their maximum peak. (TEN (10),p.3) The relationship between the inflation and
unemployment is temporary. (Mankiw,2003,p.14)

Answer 2: The study, which deals with the choices made by an individual and business,
the way in which this choices are communicate with each other in a market environment
and the effect of the government on them, is known as Microeconomics. Example: Study
of people behaviour of buying more laptops?
The study, which deals with the performance of the global economy and the national
economy, is known as Macroeconomics. Example: Government rule and taxation on
particular goods. (McTaggart,Findlay,andParkin2007,p.4).

Key player, which are present in the market environment, are the producer, consumer
and the government. Decision of the producer to produce goods, entering or exiting the
market comes under the microeconomics, which is the individual decision of
firm.(OECD,p.34) A firm will always take a decision to maximize its profit. Regulations
made by the government, affect firm decision, as unnecessary restriction will increases
firms cost and decreases its productivity, which results in the firm loss comes under
macroeconomics. (Loayza,p.6)

PART 2:

Answer 3:
Supply curve: A supply curve is the curve, which shows the relationship between the
price of the goods and the quantity supplied when all the elements acting on the
producer scheduled sales remains the same. Supply curve is upward sloping.
(McTaggart,Findlay,andParkin2007,p.66). In Figure-1, as the price is increasing the supply
of the apples are also increasing for 0.40 supply was 1,000 and for 0.60 supply was 2000.
This implies that it follows the law of supply.

Price ($ per pound)

Apples per day (pounds) supplied

0.40

1000

0.60

2000

0.80

3000

Figure-1 Source: Collins Karen

Demand curve: A demand curve shows the relationship between the price of the goods
and the quantity demanded when all the elements acting on the consumer’s schedule
buying remain the same. Demand curve is downward sloping.
(McTaggart,Findlay,andParkin2007,p.62). In Figure-2, as the price is decreasing the
demand of the apples are increasing for 0.80 demand was 1,500 and for 0.40 demand
was 2,500. This implies that it follows the law of demand.

Price ($ per pound)

Apples per day (pounds) demanded

0.80

1500

0.60

2000

0.40

2500

Figure-2 Source: Collins Karen

Equilibrium of a market: When two opposite forces balance each other, this state is
known as the Equilibrium state. Market equilibrium is the state when the buyer and
seller both of them are satisfied with the price of the commodity. Condition that satisfies
the equilibrium is that, when the demand of the quantity is equal to the supply of the
quantity. (McTaggart,Findlay,andParkin2007,p.70). In Figure-3, the intersection point of
the demand curve and the supply curve is the equilibrium point where the apples
demanded is equal to the apples supplied.

Price ($ per pound)

Apples per day (pounds) demanded

Apples per day (pounds) supplied

0.80

1500
1000

0.60

2000

2000

0.40

2500

3000

Figure-3 Source: Collins Karen

Answer 4: A chemical equilibrium is the state at which the rate of the forward reaction is
equal to the rate of the reverse reaction. (Refer appendix (c)) This simply tells us that the
rate of forming of the products is equal to the rate of forming of the reactants.
(sparknotes,2009)

For example: N2+3H2 ⇄ 2NH3

The reaction shows us that when hydrogen reacts with nitrogen they form the ammonia
gas, NH3. During the first interaction between the nitrogen and hydrogen in the
chamber, ammonia is generated. When the concentration of ammonia increases the
ammonia gas start to breakdown into the nitrogen and hydrogen. When the rate of
forming of ammonia is equal to the rate of decomposition of the ammonia then that
state is known as the equilibrium state. (Refer appendix (d)) (Chemistry Explained,2010)

When we contrast the concept of the chemical equilibrium to the concept of the
economics they are the same as both the equilibriums need one condition to satisfy
quantity demanded = quantity supplied, (Refer appendix (e)). At the equilibrium, the
forward reaction, which is to equivalent to the quantity demanded in economics, is
satisfied by the reverse reaction, which is equivalent to the quantity supplied in
economics. In economics for quantity demand, there is always supply of goods, which is
never ending process as in chemical reaction at equilibrium state it is also a never-
ending process.

Equilibrium is very important in economics because if there is no equilibrium than there

will be shortage or surplus of the goods which will results higher price for goods or
lower price of goods, which will make both the consumer and producer unhappy as at
the equilibrium stage the price that a seller will be happy to sell its good and a buyer is
happy to pay for it. (McTaggart,Findlay,andParkin2007).

Answer 5:
D’

TCS S=MC

Price

P* E(D=S)

S’ D=MB

TPS

Q*

Quantity

Graph 5(i)
For resource allocation we have to prove MB (marginal benefits)=MC(marginal costs)
and maximum welfare = Consumer surplus + Produces surplus.

In the Graph 5(i), We have supply curve S, which also represent marginal cost, and
demand curve D, which also represent marginal benefits. The intersection of the curve D
and S is the equilibrium that is where demand = supply which also means the marginal
benefits = marginal costs. At this point the P* and the Q* is the price and quantity that
will be our competitive outcome.

In D’ES’, (TCS) for the consumer surplus, P*ED’ represent the total consumer surplus that
is maximum consumer benefits and for the (TPS) producer benefits it is the P*ES’
represent the total producer surplus that is maximum producer benefits. Because P* and
the Q* is the competitive outcome as E is the point of equilibrium. P*ED’ and P*ES’ is
congruent as D’P*=S’P* and angle D’P*E=S’P*E (P* is the mid-point of S’D’)

In Graph 5 (i), we have proven that marginal benefits= marginal cost is the efficient
outcone. Any government intervention like tax or subsidy is harmful to economy
because as Taxes in the economy makes the buyer to pay more and seller to get less.
Therefore, it will make the producer to produce less that is that will lead to the
underproduction of the product. Subsidies that are given to producer by the
government lessen the cost paid by the buyers and seller receives the high price.
Therefore it will lead to produce more so over production.

D’

TCS S=MC

D”

S”

Price

P* E(D=S)

D3

D2

S’ D=MB

TPS

Q1 Q* Q2

Quantity Graph 5 (ii)

In Graph 5 (ii), competitive outcome is P* and Q*. It shows that D2D”E, is the part which we are
losing (Dead weight loss) as Marginal Cost

Rfer

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