Positive vs Normative Economics

Positive vs Normative Economics: Meaning

Positive vs Normative Economics are two branches of modern economics. The first one, Positive economics is built upon facts and figures and the real state of the economy. It gives us the cause-and-effect relationship of events around us. It deals with the “what is” state of the economy, which means that it is non-judgmental and explains various economic phenomena and factors as they are. On the other hand, Normative economics gives us answers and solutions on the “what should be” state of the economy. The basis of normative economics is values and judgments, or what is fair and what is wrong in our present economic surroundings.

Positive economics is built on the basis of data analysis and proper study of the environment. Therefore, we can verify and measure its results as it states whatever is real and is actually happening. We have evidence to prove its validity and hence, there is no question of doubt or misunderstandings with its results.

Normative economics is built on theories that may be far from reality. Further, as it looks into what should be the state, it becomes subjective and outcomes are as per the outlook of the person working on it. Because of this, the concept is subjected to different interpretations by different persons. People have different beliefs, values, and understanding of things. Hence, there are bound to be differences in understanding of what and how things should be because of different perceptions.

Positive vs Normative Economics: Differences

We will discuss the main differences between the two in the following paragraphs:

Meaning

Positive economics is based on actual data, facts, and numbers. The basis of its reports is generally thorough research and development. Hence, it does not give vague and inconclusive interpretations and results.

The basis of normative economics is the opinions and values of the interpreter. It makes statements that indicate “what should be” rather than “what actually is” in the economy.

Verification and Application

The interpretations and results of positive economics can be verified. There are test reports, research reports, and dedicated analytics teams around the world that work round the clock to give us reports on the actual state of the economy. We cannot deny its validity and how it affects individuals and businesses that participate in economic activities. Hence, the application of output of positive economics is safe and beyond doubt and can be proven scientifically.

Verification of the interpretations of normative economics is not possible. Because it is mostly based on a particular type of conditioned data hypothesis. Moreover, at most, it is the extrapolation of a smaller sample. Hence, the interpretations and outcomes do not have the backing of scientific research and backtesting. They are mere judgments and opinions. So there is no way to test their feasibility and applicability in various fields and sectors of the economy.

Scope of Results

The results and statements under positive economics are descriptive and objective in nature. However, they are prescriptive and subjective in nature and scope in the case of normative economics.   

Approach to Problems

Positive economics states things as they are in the real world. It does not intend to solve any of the problems of the economy or its participants. It can just describe or highlight the numbers, economic behavior, and results of the economy, without giving any ideas or making any efforts to make the situation better, no matter how bad the economic crisis may be. Hence, it does not focus on any policy formulation to solve the economic problems around it. Therefore, it is just a fact-finding/post-mortem approach. It does not trigger any action point.

Positive vs Normative Economics

But normative economics has a holistic approach towards identifying the problems of the economy and the individuals and businesses that are a part of it. It applies a “what should be” approach to these problems in order to help the participants to think, brainstorm and find the solution to the problems. Therefore, normative economics is action-oriented. It believes in promoting policy formulation and its implementation. Also, it strives to find solutions to problems rather than just sitting over them.  

Example

Let us look at some examples of statements in positive economics.

  1. “The lowering of interest rates by the Federal Reserve System will result in an increase in money supply and investments in the economy.”
  2. “The abolition of import duties on textiles will flood the market with textile products from other countries.”

The above two statements are self-informative and descriptive in nature. The basis of these statements is actual data from the market and the government. They throw light on the “what is” situation in the economy. It does not look into the good or bad of the statements, their effect on the economy and its participants, or any other related repercussions of the above actions of the Federal Reserve System or the government.

Now let us look at the same two examples in normative economics.

  1. “The Federal Reserve System should not lower the interest rates as it will result in an increase in the money supply that can result in inflation in the economy.”
  2. “The government should not abolish the import duties on textiles as it will flood the market with textile products from other countries and hence, can start a price war in the domestic market.”

The basis of the above two statements is “what should be” in the economy, or what the Federal Reserve System or the government should do. They reflect the opinions and judgments of the individuals or those giving these statements. Also, there is no actual data or research to back the statements. At most, it is the conclusion on the basis of earlier similar events. Therefore, it is not sure that the outcome will be the same or different from what the statement claims.  

Final Words

Positive and normative economics are two sides of the same coin. Positive economics gives statements that are true, verifiable, and objective. Hence, people can make decisions on that basis. Normative economics is useful to elaborate and apply a reformist approach to what is already taking place in the economy. It pushes the participants to think and come with solutions to problems of the economy.

However, we should keep in mind that just identifying the problem is not the key. The economy should have the necessary social and economic resources to eradicate the problems too. This is where normative economics comes into play. It helps to think creatively to remove the obstacles from the path and build a solid path for future growth and development of the economy.

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Sanjay Borad

Sanjay Bulaki Borad

Sanjay Borad is the founder & CEO of eFinanceManagement. He is passionate about keeping and making things simple and easy. Running this blog since 2009 and trying to explain "Financial Management Concepts in Layman's Terms".

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