Normative Economics

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Definition of Normative Economics:

Normative economics is the approach to economics that emphasizes the way an economy should work under ideal circumstances. Normative economics involves value judgments. 

Detailed Explanation:

All of us have opinions and make value judgments. Hopefully, these judgments are based on facts. Normative statements are subjective. They involve setting goals based on value judgments. "The minimum wage should be increased to $15 per hour." is a normative statement. It is clearly an opinion. Normative economics looks more at how an economy ought to be in an ideal world and employs value judgments. Economists sometimes make value judgments, or decisions based partially on their personal value system. In contrast, positive economics is objective, cause-and-effect statements that do not include a value judgment. A distinction is that positive statements can be tested, where normative statements cannot be tested because they are subjective. For example, "The minimum wage will lead to higher unemployment among low skilled workers." is a positive statement. Positive statements may be false, but they can be tested. (Some economists believe that raising the minimum wage could lead to an increase in employment.)

Both positive and normative economics are important. For example, society and politicians may reach a value judgment that income should be more equally distributed. They reach this conclusion using normative economics. Positive economics tests the ways to achieve efficient income distribution by looking at different tax structures and does not consider value judgments.

Judy's Car Wash offers another example of the difference between positive and normative economics. Sales at Judy's Car Wash increased 9% during the past year. The industry average was only 5%, however, Judy was very disappointed because her aggressive advertising campaign did not generate the 15% increase in sales she expected. "Judy's Car Wash sales increased 9%." is a positive statement. It is a fact. "A 9% increase in sales is disappointing." is a normative statement because it is an opinion. For Judy, the sales increase was disappointing, but her banker found the news encouraging. Below are several examples of normative and positive statements.

 Normative Statements:
  • The rich should pay a much higher income tax.
  • More lenient immigration policies will lower wages.
  • Social security payments should begin at 70.
  • Everyone should have access to medical treatment, no matter what the cost.
  • Companies ought to pay for their pollution.
Positive Statements:
  • Tax revenues would increase if the tax rate for families earning more than $250,000 is raised to 50%.
  • The unemployment rate is currently 5%.
  • If the price of hamburger meat is reduced $0.50 a pound, the quantity demanded at a local grocery store will increase by 600 pounds per month. 
  • Lower mortgage rates will increase home sales.
  • Some companies will go out of business if they are forced to pay for pollution abatement.

Dig Deeper With These Free Lessons:

Fundamental Economic Assumptions
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