micro ECONOMICS

PROCESSES OF BUILDING ECONOMICS MODEL

1. The processes of building economic model Meaning of Economic Model: An economic model is an organised set of relationships that describes the functioning of an economic identity under a set of assumptions from which a conclusion or a set of conclusions is logically derived.

2. Analysis c.b Prediction future Validity Friedman and Samuelson Testable General Simple Equations Nature of Economic model

3. Variables Constant Parameters Functional relationships Equations Concepts

4. Building a Micro-Static Model: Let us construct a micro-static model to determine the price of tea in a perfectly competitive market. Thus the fundamental relationships among the three variables are: Qd = f (P) Qs = f (P) and Qd = Qs Assumptions: (1) The quantity demanded is a decreasing function of price . (2) The quantity supplied is an increasing function of price . But if price does not exceed a minimum, there is no supply. (3) Quantity demanded and quantities supplied are stock variables. (4) The market is in equilibrium when excess demand is zero, i.e., Qd – Qs = 0. In other words, the equilibrium condition is Qd = Qs.

5. Suppose we have the following values of the behavioural equations for the market model. Qd = 36 – 4P – (1) Qs = – 12 + 12P – (2) Qd = Qs – (3) Substituting (1) and (2) in (3), we have 36-4P = -12+ 12P – 4P- 12P = – 12- 36 -16P = – 48 P = 3 Putting the value of P in equations (1) and (2), we obtain Qd = 36-4 x 3 = 24 Qs = -12+12 x 3 = 24 Qd = Qs = 24

6. the quantity demanded increases to 28 tonnes and the quantity supplied falls to 12 tonnes . Less supply of tea in relation to higher demand will raise the price to Rs.3 . As a result, the quantity demanded will fall to 24 tonnes and the quantity supplied will also rise to 24 tonnes so that the equilibrium condition is re-established. On the contrary, with the rise in the price to Rs. 4 per kg., the quantity demanded of tea will fall to 20 tonnes and the quantity supplied will increase to 36 tonnes . At the price higher than the equilibrium price, every seller will try to sell his quantity first. For this, he has to lower his price a little.

7. 1. To Define the Problem: Defining the problem covers three stages. The first is to define the problem about which the model is to be built. It may relate to an individual household, a firm 2. To Formulate Assumptions: 3. To Collect Data: 4. To Derive Logical Deductions: 5.To Test the Model Empirically This is done by observations or by checking the consistency of predictions with related facts with the help of mathematical, statistical or econometric methods. 6. To Accept Reject or Revise the Model: If the predictions of the model are correct, the model is scientifically valid and reliable. Processes of Building economic model

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