Elements of a Theory

Abstract

The demographic state of an economy has such a pervasive influence on the performance of an economy that it may be worthwhile to disentangle the various elements through which demographic changes work and the way in which we evaluate certain allocations that result from such changes. The way in which an economist analyses economic problems shows some resemblance with the everyday practice of a detective. Just as any good detective goes about his work, the economist tries to establish his case by reconstructing the ‘crime’ called economic activity. The motives can often be summarised by pointing to utility and/or profit maximisation. But these motives are merely used as hard-core assumptions, which yield falsifiable predictions. In general, the economic motives in conjunction with preferences, endowments, technology and, last but not least, the rules of the game describe an economic system. But again, the task of an economist does not end here. Histories of economic activity can only be traced in conjunction with fluctuations in relative prices. The difficulty economists encounter in establishing the applicability of a theory beyond a reasonable doubt, is the observational equivalence of theories: different theories can be equivalent in terms of explaining a dataset. At all times, it is therefore of prime importance to choose credible and useful simplifications. The art of choosing good simplifications is often overlooked in the creation of ideas. Successful social scientists are not valued for their mastery of some or other technique but for their contribution in choosing plausible simplifications and building simple models; models that reflect an idea.

“All theory depends on assumptions which are not quite true. That is what makes it theory.”

Robert M. Solow [1956]