ETHIOPIA & PRESIDENTIAL ADVISOR
0358
Teaching with Lipsey
[We didn’t formally teach
Economics to the students in Ethiopia, even though they had asked for that to
happen, since I thought a little knowledge of the subject was potentially a very
dangerous thing for a Third World country! This was the nearest I got to the
subject!]
SOME SUGGESTIONS FOR READING 'POSITIVE ECONOMICS' BY RICHARD LIPSEY
note: this material has nothing to do with the mba, it is only provided as some initial reading for those who said they wanted to study economics as well as the mba. we will teach economics further later in the year - but it will still not count towards your (mba) qualification. so only read/study this material if you really want to learn about the subject!
This is now the text-book most often used on undergraduate economics courses in the UK (having overtaken Samuelson, which used to the leader). It approaches economics in a very traditional way, covering very conventional topics; mainly micro-economic and macro-economic theory - at a very general level and from a very traditional (almost neo-classical) viewpoint. It does not address developmental economics - which is the topic it now seems would best meet your needs. I will look for a good text on developmental economics when I return to the UK.
On the other hand, Lipsey is a very good introduction to basic economics (especially that of monetarism which has been so popular in recent years) - which is why it is so widely used on undergraduate courses. It introduces you to the main concepts behind the more detailed applications, and gives a very good flavour of how most economists think.
Because I have only had a few hours (less than 8 in total) to put together my suggestions for reading the book they are very sketchy (and very very rushed!). Of necessity, they also take the easiest approach, for me but not necessarily for you, of reading the book sequentially. My apologies for this, but I though it better than nothing at all. But, most important, read my comments (which are very rushed and may be wrong!) just as critically as Lipsey itself!
In the 'library' there is one copy of the accompanying workbook; which gives you questions to answer about each chapter. There are also other texts on economics (especially one copy of Samuelson) which give a different perspective.
I have put in bold type the sections I think are most important, and in italics those I think are most difficult.
FOREWORD
You can safely ignore this.
PART 1 - SCOPE AND METHOD
This is a basic introduction to some of the terms, so the whole section can be taken quite fast.
1. ECONOMIC ISSUES
This is a useful chapter to skim through. The diagrams on pages 6 and 7 are a good introduction to a diagrammatic technique which is widely used in economics.
2. ECONOMICS AS A SOCIAL SCIENCE
This is rather theoretical so skin quickly.
3. THE TOOLS OF ECONOMICS
This is very theoretical, some of it will be covered in the MBA but if you really want to understand this read it (and ask me about it when I come in May).
4. BASIC ECONOMIC CONCEPTS
This defines a number of terms, so it needs to be read fairly carefully
PART 2 - THE ELEMENTARY THEORY OF SUPPLY AND DEMAND
This is the basic theory of economics, which all economics courses seem to start with; you need to understand it because it is so often quoted (usually by people who don't understand it - even though it is very easy!)
5. DEMAND, SUPPLY AND PRICE
DEMAND
This is the core of the basic theory. But don't be put off by the 'demand function' on page 61. It looks horrendously scientific and difficult; but all it means is that demand q is some function of (that is it depends upon) the price for it and a number of other goods (and also of income and society!). The problem is, of course, that nobody knows with any mathematical degree of accuracy what these relationships are (what equation connects the demand for a product with society in general!). Modern economics is full of economists who want to be scientists, and thus use mathematics to describe things which are much better said in words - this pseudo-scientific approach will continue throughout the book; as it does in every other student economics text book (Lipsey is rather better than most).
The concept is much better described in words in brown type a third of the way down the right hand column on page 61!
Pages 62-64 convert this concept into graphs. This is the basis of this section, so you must follow the examples through.
Pages 65-67 are also important, since they introduce a basic approach in economics (shifting demand curves) which is widely used - it just means that something not accounted for on the graph (ie. not price but some other external variable) has caused the line to move to the new position.
SUPPLY
Pages 68-70 repeat the whole process for supply, which is the mirror image.
PRICE
Pages 71- 75 the two curves, demand and supply are then simply superimposed to determine the price at which they match (the equilibrium price). When you have completed this chapter you have completed the most important first lesson in Economics.
6. ELASTICITY AND CONSUMER'S SURPLUS
ELASTICITY
This is another basic concept, developed from what you saw in the last chapter. In essence it looks at how sensitive demand is to price increases - and this is shown by the slope of the demand curve (if it is steep then it will be very sensitive, very elastic).
Pages 78-80 these explain the point in terms of the curve.
Pages 80-81 these extend it to the very simple equation which defines it
Pages 82-84 very simply look at some examples at different point in the range. This is a useful section to consolidate your understanding.
Pages 85-86 this explains why elasticity comes about; in terms of substitutes, which are an important concept in economics.
Pages 87-88 take the concept further to look at influences other than price - but the principles are very much the same
CONSUMER SURPLUS
Pages 90-95 this is a very complex way of saying that consumers would pay more for the product than the market price. As usual it is drawn in the form of a very scientific curve, but it is usually impossible to measure. You might think market research would show this, but (because it is a very theoretical question which they find difficult to handle) it is notoriously difficult to actually find out what consumers are willing to pay, let alone what they think it is worth. His very naive approach to the example of attitude surveys shows how he (and most other economists) are out of touch with practical reality (marketing in this case)!
Appendix - as with all of the Appendices (which tend to be very mathematical) you can safely ignore this one; as you should all the later ones - I do not repeat this instruction, please remember it.
7 APPLICATIONS OF PRICE THEORY
These are a range of examples where the work from the previous chapters is put into practice. The chapter is not essential for an understanding of the theory (indeed it may confuse you rather than help) but you may find some of them which interest you . BUT BEWARE - THEY APPLY A VERY SIMPLISTIC SET OF THEORIES TO VERY COMPLEX ISSUES. In each case there are many more factors than price involved, and the issues are very political. The simple answers which emerge may be attractive but they are partial.
8. INDIFFERENCE PREFERENCE THEORY
This is where basic economic theory gets very esoteric, but you may need to be able to understand what is involved at a superficial level because economists may quite earnestly quote this at you.
BUDGET CHOICES
Pages 124-126 this just shows the alternative quantities of two alternative goods (clothing and food) which may be bought for a fixed sum (the budget available to the person); ranging from all clothes to all food.
INDIFFERENCE
Pages 126-127 I find this (single indifference curve) a very confusing introduction. I think it starts to make much more sense when you get half way down the right hand column on page 127, and he describes indifference between two products. This is much easier.
Pages 128-130 this is, I think, easier. In any case this type of diagram is the one you saw in chapter one. There is only problem with all this theory - which typically (for an economist) is not stressed - and that is that nobody (to the best of my knowledge) has ever measured an indifference curve in any practical application (if possible it would require immense resources and would then be subject to change)
Pages 130-131 these are amusing examples, but rather inconsequential.
SHIFTS IN INDIFFERENCE
Pages 132-135 these apply shifts, similar to the ones you looked at earlier - they are very theoretical so can be ignored.
DEMAND CURVE
Pages 135-138 this, again, is very theoretical - but is a justification for indifference theory!
Appendices - again these can safely be ignored.
9. UNCERTAINTY, RISK AND OTHER ISSUES
This chapter seems almost like an apologia. It was not in earlier editions - and seems to be an attempt to answer (justifiable) criticisms of demand theory!
RISK
Pages 145-154 this seems an odd topic to be treated in this way, it will be much better handled in the MBA; you can safely ignore it.
MEASUREMENT OF DEMAND
Pages 154-158 this is unworthy of Lipsey. The main problem, and one which is well known, is that demand curves simply cannot be measured in practice. To push the burden of proof off onto 'econometrics' is a cheap trick - and, as econometrics is subject to just as much criticism (and is essentially based upon the monetarist theory described later in the book), is one which should not fool you. To finish by saying '...economists are far beyond merely wondering if demand curves have negative slopes. We now know....' is again to make claims which are almost certainly untrue (certainly in a general sense)! This section is worth reading, just to see an economist wriggling on the hook of practical justification!
CRITICISMS OF DEMAND THEORY
Pages 159-164 this is, again, unworthy of someone of Lipsey's stature. You should read it in order to see how a critical review should not be carried out. It is defensive, and desperately tries (usually be sleight of hand) to hide from the true criticism.
It is also a very bad justification for demand theory. In terms of prediction, which he implies is the acid test, we are a very long way from being able to use the theory in this way - ask any marketing manager! But the ideas which are covered by the theory are very helpful in providing a framework when more practical pricing policies are considered, and they often give you an insight into what may be happening under the surface in such situations. This is not scientific prediction, as Lipsey would seem to claim, but it justifies the theory; for me at least!
PART 4 THE INTERMEDIATE THEORY OF SUPPLY
Despite its title this is mainly about the theory of firms, and competition.
10. THE FIRM, PRODUCTION AND COST
As these are issues covered at length in the MBA, you can ignore this chapter.
11, COST AND OUTPUT
Page 177 - the production function is just as pseudo-scientific as the demand function!
Page 178 - Short run (only certain factors- labour in particular- can vary), long run (all factors can be varied), very long run (technology too can be changed) are chosen to suit the various models he is going to explain rather than to match any practical considerations.
Pages 178 - 181 these are just a rather complex way of introducing the 'law of diminishing returns'. This a very important law of production in economics; though it seems rather strange where so much emphasis is now placed on economies of scale in management theory!
Pages 182- 187 these pages get even more complex. In the context of an introduction I would avoid them`!
Page 188 - to understand some of the later work, though, you do need to be able to recognise this long run cost curve (as an inverted 'U' ) but not perhaps with much understanding!
The rest of the chapter is just as complex; though you should be able to recognise that 'isoquants' follow much the same theory as indifference curves.
12 PERFECT COMPETITION
Page 199 - these concepts are actually quite simple, and are needed later in the chapter.
Page 200 - 204 - these are also quite simple descriptions of the assumptions; and you need to understand these
Page 204 - 205 - this is the simplest explanation of this subject. The key is the graph on page 205.
The rest of the chapter gets increasingly complex, and you may be excused if you opt out of it (students take weeks to understand these concepts) - even more so when you realise that actual curves (if they could ever be plotted) almost certainly would not look like this!
13 COMPETITION
Again, this is a very complex chapter. It also seems to be poorly written, for Lipsey - so I would ignore it.
14 IMPERFECT COMPETITION
And, needless to say, this is even worse; and, in any case, this an area where honest economists admit defeat (even though it represents almost all of commercial life!).
15 APPLICATIONS
If you find any of these of interest then look at them. The same caveats (of oversimplification) apply; though complexity will probably be the main factor limiting your investigation!
16 CRITICISMS AND TESTS
This is much better than the one on demand. It gives a good coverage of where many of the leading edge economists are working, and does not load the arguments too much. It is well worth reading, since it gives a good feel for the latest developments in the field.
PART 5 THE THEORY OF DISTRIBUTION
I do not understand this title, since this group of chapters are a mixed bag of labour and financial economics. They are fairly superficial (and simplistic), so (as they are a specialist subject) they can be ignored unless you are specially interested in them. On the other hand, much of the material is quite an easy read, if you ignore the complex material in the boxes, and is useful background for some of the MBA work - it also gives a good flavour of the economist's approach to these factors.
17 FACTOR INCOMES IN COMPETITIVE MARKETS
Pages 284-286 - on the other hand these pages offer an easy, and useful introduction. The Lorenz curve on page 285 is often quoted.
Pages 286-293 - these largely repeat the discussions which were in the demand section.
Pages 294-304 - this is largely descriptive, and easy to read
18 THE INCOME OF LABOUR
This again is largely descriptive and relatively easy to read.
19 THE INCOME OF CAPITAL
Surprisingly this is largely labour calculations of interest, and really does not look at financial economics; but it is an easy read - which may be useful for the MBA.
20 CRITICISMS AND TESTS
As little has been introduced which can be criticised this is a chapter which actually broadens the subject; but it is still an easy read and quite useful.
PART 6 INTERNATIONAL TRADE
This is a very short section, but (whilst it is somewhat superficial) it covers many of the important points - and is an easy read (being mostly descriptive).
21 THE GAINS FROM TRADE
Pages 346- 353 - this is about the classical economic view of international trade - comparative advantage. It is well explained, and easy to understand. You should be aware, though, that despite its seeming logic international trade in practice does not seem to follow these lines!
Pages 354-358 - these seem unduly simplistic!
22 BARRIERS TO TRADE
This chapter is a useful summary of tariffs in particular - from an economists point of view.
PART 7 MICROECONOMIC POLICY
This is an important section, and is quite well explained an not too difficult to read.
23 THE CASE FOR THE FREE MARKET
This is a bit of a misnomer, since this chapter contains much of the important theory.
Pages 376-382 - these pages cover many of the points descriptively. They are an easy read and a useful introduction
Pages 383-385 - these may look more complex but they are actually quite easy to understand, and give a very useful feel for the economists' arguments (especially about monopoly - where this explanation is much better than that in the chapter on the subject).
Pages 386-389 these pages are rather complex, so avoid.
Pages 390-397 - again descriptive material which is useful - particularly in the review of Schumpeter and Galbraith (both of whom are important in economic theory).
24 THE CASE FOR GOVERNMENT INTERVENTION
Despite the title, this chapter is something of a polemic against intervention - as you might expect from a neo-classical approach! Even so, the first part is easy to read and gives you an idea of these, rather biased, arguments. Rather surprisingly he only introduces 'transaction costs' in a very narrow way here - though transaction cost theory is probably the most active topic across the whole of economics at the moment - and is occupying the time of many economists, especially in terms of the theory of the firm (where he didn't mention this aspect at all). If you ignore the graphs (except those on income tax, page 409, and efficiency loss on page 411 - which are both relatively easy and important), the chapter is, though, and easy and informative (and important) read.
25 AIMS AND OBJECTIVES OF GOVERNMENT POLICY
This continues in much the same vein, and similar comments apply.
Page 431 - the Laffer curve is well explained and is important.
Page 434 - the diagram shown the case against free goods is easy, and useful - and important (and may even be justifiable!).
PART 8 THE ELEMENTARY THEORY OF NATIONAL INCOME: INTEREST RATES AND PRICE LEVEL ARE FIXED
This is the start of macroeconomics. It offers a good explanation of the basis of this, and of the Keynesian approach.
26 MACROECONOMIC CONCEPTS AND VARIABLES
This is a very easy, descriptive approach to the subject. The four key variables are well introduced, and are usefully defined in some depth - these are important. Particularly important is the description of 'policy instruments' on page 458
27 NATIONAL INCOME IN A TWO SECTOR MODEL
This is the basis of Keynesian economics, so the equations (which are actually quite simple) need to be understood.
Page 468 - the assumptions are important to note. These are (in view of recent developments in national economies) not necessarily justifiable - hence one criticism of Keynes. You should note that the assumption of fixed price levels and interest rates are the opposite of monetarism, as is the hidden assumption that the real national income is variable (though the potential is fixed).
Pages 470 - 471 - this is important, mainly in terms of the outcome (the basic equation E=C+I) which is the start of the whole set of macro economic equations
Pages 472-475 - this may be hard going, but it is important that you understand the basics, so reread it as many times as you need to understand the material - in particular you need to recognise the difference (on page 472) between autonomous/exogenous flows which cannot be controlled and induced/endogenous ones which can be controlled (and hence the economy as a whole controlled)
Pages 475-476 - this leads to the equilibrium condition, which is the starting point for the next set of equations.
Pages 476-478 - I think this may be a bit confusing but try the examples if you can
Pages 478-480 - this development of the equations is important, though you may have some difficulty understanding the details you need to get a feel for what is involved.
Pages 481-483 - this is also complex, and less important (so you can have a rest)
Pages 483- 487 - the multiplier is at the heart of Keynes work. It is his justification for government intervention, by extra spending, to buy your way out of recession. It is important, therefore, that you understand it. It may be unfashionable now but it worked very well for a number of decades - and (possibly) got the US economy out of the Depression.
28 THE CONSUMPTION FUNCTION
This is where he starts to deviate from the basic Keynes model.
The concept of 'permanent income', pages 493-496, was introduced by Milton Friedman and became fashionable (though there is very little evidence to support it - and much to oppose it!).
29 NATIONAL INCOME IN MORE ELABORATE MODELS
This is not quite as difficult as it sounds, since it mainly involves an addition of some extra variables, but the approach is much the same as that of the earlier chapter, and it is important as it builds to the final (Keynesian) macro-economic equation).
Pages 497-504 - this repeats the earlier work with the addition of government flows, so that the basic equation is now expanded to E=C+I+G, and there are a range of accompanying equations.
Pages 505- 506 - this results in the more general form of the multiplier (the one which actually was used)
Pages 506-507 - Withdrawals-Injections just repeats the work in a more confusing way, ignore.
Pages 508-513 - these add the further variables which come from foreign trade (the fourth sector), so that E=C+I+G+(X-M), which is the most general form of the basic equation. If you have survived so far you will now have the whole of the macroeconomic world at your fingertips! Again ignore the Withdrawals-Injections approach (page 511). THE SUMMARY ON PAGES 512-513 IS PARTICULARLY USEFUL, AND MAY ANSWER ANY PROBLEMS YOU HAVE HAD.
PART 9 THE INTERMEDIATE THEORY OF NATIONAL INCOME: INTEREST RATES AND THE PRICE LEVEL ARE VARIABLE
This section covers the basics of Monetarism, and the debates which took place in the 1980s. Again, it is important in the context of the influence those debates have had; though the governments, such as that of the UK, which so strongly supported Monetarism (in its pure form) at the beginning of the 1980s have now discretely abandoned most of its applications.
30 MONEY AND PRICE LEVEL
This, quite descriptively and easily, introduces the underlying concepts and assumptions.
Pages 516-524 - this is a good description of the (UK) banking system, and as such will help with the MBA.
Pages 525-526 - these are the measures which were used by the UK government - under monetarism - to control the economy.
Pages 527-533 - this starts to introduce the concepts of monetarism, or at least of money supply which is the basis of it. The basic equation (we are back to equations!) is on page 530, MV=PY. It leads to the most important equation (at the end of page 532) of P=M*/kY. This is the direct link between prices and money supply - which is at the heart of monetarism. The main assumption is that Y (the real national income) and k (the reciprocal of the Velocity of circulation of money) are held constant while price and money supply varies (which is almost the opposite assumption of Keynesianism). Thus the clash between the two theories originates in their contradictory assumptions.
31 MONETARY EQUILIBRIUM
This is an important chapter, since it deals in the first part with interest rates, but then derives the LM element of the IS-LM model in the next chapter, which was the focus of so much debate in the 1980s.
Pages 534-541 - this explains well, in simple terms, the (economic) theories about interest rates. The comparison with Keynes approach (in the box on page 540) is interesting and informative.
Page 541-544 - this gets to be quite complex; even Lipsey admits as much! The function on page 541 (Md=L(Y,r,W) is another one of these pseudo scientific functions. making a very big assumption that these variable are related linearly (there is no reason to assume this). By the next page (542) this becomes Md=n+dY+er. This, at least according to this theory shows the relationship between the supply of money (M) and the interest rate (r). On page 544 we have another equilibrium equation Md=M* which is then changed to Md=Ms, to eventually change to Md=Ms/P. this apparent sleight of hand takes place because Md has been defined in terms of real purchasing power and Ms in terms of nominal money (really a hidden device to get P into the equation!) .
Page 545-549 - we now get to the LM curve. The equilibrium equation is substituted in the original to get n+dY+er=M*/P. This then is transformed by a process (which you just have to accept) to that at the top of the right hand column on page 545. The next few pages explain what this very esoteric curve means (but in essence the explanation on page 545 - in brown - is the best; as is that on page 548).
32 THE IS-LM MODEL
Now comes the difficult bit!
Pages 550-554 - this is building the basis for the IS component by exploring the relationship between interest and investment - it is well (and easily) explained.
Pages 554-556 - the final equation is derived in much the same manner as that for LM.
Pages 556-558 - explores the shift (which comes from changes in the external expenditure)
Pages 559-566 - this brings everything together to superimpose (in the classic device of the economics) the two curves on top of each other - to give the famous IS-LM Model. The next few pages describe (once more in the brown printing) some of the implications of this. The main (very important) outcome is described on the last page (566), which says that government investment to beat a recession is simply countered by the loss from the private sector - so that this (Keynesian) option is no longer open to government! This was, needless to say, a very important outcome (though it did not explain why Keynesianism had worked so well over previous decades!). Perhaps the most important practical point to note is given in the box on page 565 - and that is that this model is the starting point for most econometric models; which may say a lot about what you can expect from such models!
33 THE AGGREGATE DEMAND, AGGREGATE SUPPLY MODEL
This is very very complex. I would suggest you ignore it until you have learned at lot more about such economics. However, if you look at the graphs as if they are just ordinary demand/supply curves, and do not worry too much about how they are derived, they can begin to make a bit of sense. An important implication is that at the bottom of the first column on page 588 (in brown).
PART 10 MACROECONOMIC ISSUES, POLICIES AND CONTROVERSIES
This occupies the rest of the book, and develops the implications of the various theories further. It is the 'practical' section of the book!
34 INFLATION
Pages 594-599 - this takes as its starting point the previous work, and is (having accepted that (and ignoring any derivations) easy enough to read - and gives a flavour of monetarist thinking.
Pages 600-604 - this describes the very famous Philips Curve. This was (in the 1960s) taken up by the Keynesians. It really had no link to the work of Keynes, since it was derived from observed data. In the 1970s Milton Friedman demolished the whole edifice by simply showing that the data did not practically support the curve - and this shock was probably the one that brought down the whole Keynes school!
Pages 605-608 - the eventual (monetarist) replacement was the 'Rational Expectations' school, which these pages describe.
Pages 608-610 - Milton Friedman, again, postulated that the long term Philips curve was vertical. This meant that short term variations gradually ratcheted up the price level as shown in figure 34.10.
Pages 612-615 - these then explore some of the implications in easier to understand terms (but do not forget the very many - monetarist - assumptions built into these).
35 EMPLOYMENT AND UNEMPLOYMENT
This is quite easy to follow, and does not necessarily all relate to monetarist views. It does contain some general information which is quite useful. The descriptions of frictional and structural employment on page 618 are especially useful; as are the practical comments on cures, on pages 629-631.
36 FLUCTUATIONS AND GROWTH
This is a useful look at cycles in growth.
Pages 634-635 - these are a useful introduction to cycles.
Pages 636-641 - these take explanations from the preceding economic theory.
Pages 641-643 - these look at external explanations of trade cycles - though surprisingly he does not even mention the most famous of all, that of Kondratieff, which is covered on MBA courses!
Pages 643-657 - this is a quite general discussion (which is perhaps typified by the two opposing boxes on pages 655 and 656).
37 DEMAND MANAGEMENT 1: FISCAL POLICY
If you ignore the derivation (which are often as much buried in the text as in boxes) you can get a a useful flavour of his arguments. Of particular interest are; 'discretionary fine tuning' (page 663) and stabilizers (pages 664-665) which is important in terms of evening out impacts on the economy (and was as favoured by Keynes). The 'cyclically balanced' budget is now in favour (not least because it allows governments who would support monetarism to spend recklessly before elections to buy votes - using the justification that they will even it out over the cycle!). The section on Alternative Means of Financing (pages 672-675) as is that on 'debt financing' (pages 675-680) as long as you avoid the derivations, and remember all the assumptions built into the comments.
38 DEMAND MANAGEMENT 2:MONETARY POLICY
Pages 682 - 688 - the first part is a straight derivation from the IS-LM and AD approaches. as such it is quite tough going, and can be skipped.
Pages 689-694 - the description of the (UK) central bank is easy going and interesting.
Pages 695-704 - this is a very useful and very easy to read (well comparatively speaking after4r all the difficulties we have been through) coverage of monetarism - as such it is important.
39 EXCHANGE RATES
This is quite tough going, unless you are fascinated by this topic. In any case, the international money markets have so destabilised the picture (by their speculations) that it is debatable whether any logic can be applied (and the muscle applied by the G7 countries from time to time seems to be the major stabilising factor).
40 MACRO POLICY IN AN OPEN ECONOMY
Pages 721-729 - these are a useful, easy to read, account of history - which is important since it still influences current actions
Pages 729-739 - these are, though, somewhat esoteric and can be ignored.
41 GROWTH IN LESS DEVELOPED COUNTRIES
This very short chapter indulges in a very superficial approach to a topic which is of great importance to you - and hence my switch to searching for Developmental Economics texts and teachers to progress this subject- but it is interesting (and very readable) to see how one economics, at least, looks at the problems!
42 MACROECONOMIC CONTROVERSIES
This is an important, and quite readable, chapter - since it brings together many of the most important debates which are still raging.
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