Why Economic Models that We Study in Theory Fail When Applied to the Real World - Research Proposal Example

Why Economic Models that we study in theory fail when applied to the Real World Introduction The paper focuses on the constraint or the challenges that are faced in implementing the economic theory in the real world. In broader perspective the theories are considered as a base for implementing it in the real world. Sometimes the model is based on assumptions which cannot be applied in the real world. The economic theories do not include the behavior of actual economy rather it includes a set of instructions which is based on assumptions. Therefore the economic theory is not successful in implementing the economic model in the real world. The problem associated with the economic theory is that the theories are generally unrealistic in nature. The economic model is considered as Chameleon since it is built on an assumption which implies that it provides different result when implemented in the real world. The economic phenomena play a critical and complex role in the dynamic system in which the outcomes are determined by the decisions of the agents. The economic theories and models are considered as an intellectual game that is implemented and applied for the general purpose and not for the practical consequences for implementing it in the real world or economy. The statement that economic theory fails to be implemented in the real world can be explained in reference to the neo classical model which is considered as the most effective and well known model in the world of economics. But this model also fails to be applied or implemented in real world. Literature Review The author Ouliaris, in his study has focused on the fact that the model or the economic theory should not be judged or evaluated only on the basis of the assumptions and the predictions. The model or the theory should be accepted that can be applied in the real world. The author has also emphasized that most of the economic models are considered as the combination of the signs such as the model applies the ordinary languages and application of mathematics. But this mathematics cannot always be related to the real world or scenario. The author has explained and justified his view in accordance with the Keynesian model which deals with the theory of employment, money and interest. The Keynes model explains the adjustment of supply and demand factor and it also explains that with the increase in income the extent of savings of the people also increases and the degree of consumption also increases. But when it is applied in the real world it is very difficult to establish relationship between them. Therefore the author in his paper has suggested that the economic models cannot be fully implemented in the society therefore it should be considered as the guideline for its implementation in the real world (Ouliaris, 2012). The researcher Gottheil, in his paper has focused on the economic model which is required to be developed on the basis of both subjective and objective judgment. The economic models are formulated in such a way that it cannot be practically implemented in the real world. The economic models generally fail to depict the future course of event since it is based on presumptions. The application of individual assumptions and characteristics in each model makes the comparison and evaluation of the theory difficult and complex. The researcher has focused on the fact that the economic theory includes certain limitations as it is based on assumptions and therefore the misunderstandings associated with the economic model is required to be avoided. The economic theory is mainly based on assumptions and therefore it must be considered that the economic theory is based on assumptions and it cannot be applied universally in the world (Gottheil, 2013). The researcher Syll, in his paper has explained that the economic models fail to be implemented in the real world. The researcher has focused on neo classical theory which includes very few principles. There is a vast difference between the assumptions of the economic theory and its implications in the modern world. The analysis of the economic models signifies that it includes various important features on the basis of various factors. But the features cannot be applied in the real world. The economic models are generally developed by the economist by considering various internal as well as external factors prevailing in the economy. In spite of considering various assumptions it cannot be implemented in the real world. The researcher has considered the economic models or the theory as the science of thinking and it is considered as the art of selecting the most appropriate features or characteristics which are relevant in the real world. The economic theories and models are based on rational expectations, market clear equilibrium which is very difficult to be applied practically. The theories are formed on the basis of hypothesis that is not justifiable in nature. Economic models and theories do not reflect the actual problems or challenges in the society. Therefore economic models and theories should not be considered as the tool that can be trusted blindly without considering the other important and vital factors that exist in the economy. Therefore the economic models should be considered as the guiding principle. The researcher has also emphasized on the fact that the model or the theory that is formulated in the present date cannot be equally implemented in the future course of time. Since the economic model is designed on the basis of assumptions and by considering the present economic scenario. Therefore it is unable to provide adequate result when the model with same assumptions is applied in the future course of time. Therefore the researcher has emphasized that the economic model cannot be considered as useless or irreverent. It can be considered as the base but it cannot be followed fully in the real world. The economist is required to consider the various factors apart from assumptions before developing a feasible economic model or theory (Syll, 2010). Data Analysis The economic model that has been developed by different economist over the period of time cannot be fully relied upon. Since the economist has developed or introduced the economic model on the basis of various assumptions, facts and figures. The economic model is also influenced by the views and thoughts of the economist. Different economist has perceived different factors influencing the economy in different way (Pfleiderer, 2014). The problem or the challenges faced in implementing the various economic models that has been developed or formulated by the economist over the period of time can be explained with the reference to neo classical theory. The neo classical theory mainly deals with the price, output and distribution of income prevailing in the economy. The main aim or the objective of the neo classical theory is efficient allocation of the scarce resources in the economy. The neo classical theory is based on the assumptions that equilibrium between demand and supply must be developed in an economy. The economist has introduced this model so that it can be implemented in the highly developed institutions and market in the economy. Therefore the government is required to accumulate the capital by minimizing the trade barriers or constraints that exists in the economy by encouraging more foreign direct investment in the country. When the capital is accumulated in the economy it should be transferred from the low productivity economy to the higher productive economy. According to the neo classical model with the increase in per capita productivity of the economy, the growth and development of the economy also increases (Knight, 2000). The neo classical model explained above also faces certain criticism or constraint when implemented in the real world. This model is very difficult to be implemented in the developing countries of the world as compared to the developed countries due to its uncertain assumptions. The implementation of neo classical model leads to the increase in dependence over the capitalistic economy. But it fails to provide adequate benefit to the people of the nation as a whole. The neo classical model has failed to explain various real life issues prevailing in the economy. The barriers towards the growth and development in the economy cannot be measured adequately and properly. With the increase in productivity, the accumulation of capital in the economy does not provide benefit to the population of the nation. The different types of capital are required to be differentiated in the economy and it is required to be categorized as renewable resources and non renewable resources. The important limitation of the neo classical model is that it undervalues the role or importance of the environment. The neo classical model provides misleading information about the growth of the economy. Figure 1: Neo classical theory (Hirschey, 2008) The above figure discusses on the factors which are included in the neo classical theory. The limitations of the neo classical model can be explained with the help of a example such as the developing countries of the world lacks skilled labor , but it possess abundant natural resources. Therefore the developing countries are focusing on exporting their natural resources. The multinational corporations utilize the unskilled laborers and the use of the natural resources for gaining comparative advantages. Therefore foreign direct investment will flow in the economy such as from the mining sector, fishery sector and forestry. But this model fails to provide adequate result in the future course of time. Therefore the assumptions of the neo classical theory do not increase the sustainability position of the developing countries of the world (Collins, 2015). Therefore the neo classical model can be analyzed as the model that identifies and determines the significance of the institutions and the advanced markets towards the economic growth and development. But the disadvantage or the limitations in implementing the concerned model in the real life is it fails to determine the importance of sustainable development and natural resources in the economy (Hirschey, 2008). Another example can be applied for explaining the statement that the economic models cannot be fully applied in the real world. The law of diminishing marginal utility propounded by Prof Alfred Marshall which explains that with the increase in consumption the marginal utility decreases. Orange’s Total Utility Marginal utility 1 10 10 2 12 8 3 14 6 4 16 4 5 18 2 6 20 0 The above example indicates that the satisfaction level decreases with the increase in consumption. The economist has suggested that this concept of law of diminishing marginal utility can be suitably applied in all the fields or sectors of the economy. But in reality it cannot be implemented in all situations. The limitations that are associated with this theory can be explained as this theory is did not consider the desire for money. With the increase in money the consumer wants to purchase more and more. In case of collection of tickets this law is not applicable since the utility increases along with the increase in collection for tickets in the economy (Abel and Ben, 2005). Interpretation The economic theories that are introduced by the economist cannot be applied practically in all the situations in the real world. The main reason behind this constraint or obstacle is that the theories are influenced by the economic condition prevailing in the economy. In order to implement this model in the real life various factors and fluctuations in the economy is required to be considered such as the inflation or economic crisis in the economy are required to be taken into consideration. The most significant and vital hypothesis is based on the set of assumptions that cannot be implemented accurately in the economy. In broader perspective it has been observed that with the increase in significance of the theory, the assumptions of the related theory become unrealistic. Complete realistic theory or model is unattainable. In order to predict and determine whether the economic model is realistic or not it is required to assume that the predictions or the assumptions of the economic theory are preferable and suitable for implementing in the real world (Abeysinghe, 2001). The theories when they are introduced appear that it will fulfill the main purpose. But at the time of implementation of these theories in the real world, all related flaws associated with the theories gets reflected and focused. Therefore a theory cannot be regarded as appropriate or perfect unless it is empirically tested by applying it to the real economy. There exists a thin line difference between the introduction of the theory and its implementation in the real life. Between the economic theory and the real world, one is encountered with various obstacles or constraints. The nature of the theoretical economic models and the nature or features of data is required to be investigated and evaluated. Alfred Marshall has introduced the law of diminishing marginal utility theory which also creates problem or difficulty when it is implemented in the real world. Therefore the hypothesis is required to be developed in such a way that, the firms are divided on the basis of its industry. Since the assumption varies according to the type of industry. The economic models are simply designed on the basis of assumptions and hypothesis about the economic behavior that can be tested and evaluated. The most important feature of the economic model is that it is subjective in nature because there are no objective results of the economic models or theories. Different economist will have different judgment in explaining and interpreting the economic theory. The economic models also consist of mathematical interpretation that cannot be changed according to the situation (Arnold, 2008). The neo classical theory assumes the growth and development of the society by considering the natural resources. But when this theory is applied in the real world it lacks sustainability. Conclusion The economic models cannot always be implemented in the real world. Since various problems and difficulties are being encountered in applying the economic models and principles in the real world. The economic model has been developed on the basis of mathematical equations which lacks flexibility. The neo classical model and the Marshal model that has been discussed in this paper in order to justify the fact that economic models cannot be implemented in the real world. The neo classical model which explains about the economic growth and development of the nation but in reality it is very difficult to be implemented in the developing economies of the world. The law of diminishing marginal utility also faces constraint since it cannot be equally implemented in all the sectors of the economy. Therefore in order to minimize the constraint, the theory is required to be applied on the basis of industry. Generalized assumption for all sectors will not provide effective result and it will create problem in its implementation. The neo classical theory has considered the price, outcome and distribution of income of the people in the economy. But this theory failed to explain the relevance of real problem existing in the economy. Therefore in order to implement the neo classical theory in the real world the price, output and income is required to be considered on the basis of level of income of the particular nation. References Abel, A. and Ben B., (2005). Macroeconomics. London: Pearson Education. Abeysinghe, T. (2001). Estimation of direct and indirect impact of oil price on growth. Economics letters, 73(2), pp. 147-153. Arnold, R.A., (2008). Macroeconomics. Mason: South Western Cengage Learning. Collins, K., (2015). Exploring Business. New York: Flat World Education, Inc. Hirschey, M., (2008). Managerial Economics. OH: Cengage Learning. Gottheil, F. M., (2013). Principles of Microeconomic. Mason, OH: South Western Cengage Learning. Knight, F.H. (2000). Immutable law in economics, The American Economic Review, 36(2), pp. 7-10. Ouliaris, S. (2012). Economic models: simulations of reality, Retrieved from: < http://www.imf.org/external/pubs/ft/fandd/basics/models.htm >. Pfleiderer, P. (2014). The misuse of theoretical models in finance and economics. Retrieved from: < https://www.gsb.stanford.edu/sites/default/files/research/documents/Chameleons%20-The%20Misuse%20of%20Theoretical%20Models%20032614.pdf >. Syll, L.P. (2010). What is (wrong with) economic theory? Real-world economic review, 54(1), pp. 24-28. Read More