Methods of Economic Analysis:
An economic theory derives laws
or generalizations through two methods:
(1) Deductive Method and (2) Inductive Method.
These two ways of deriving
economic generalizations are now explained in brief:
(1) Deductive Method of
The deductive method is also
named as analytical, abstract or prior method. The deductive method consists in
deriving conclusions from general truths, takes few general principles and
applies them draw conclusions.
For instance, if we accept the general
proposition that man is entirely motivated by self-interest. In applying
the deductive method of economic analysis, we proceed from general to
The classical and neo-classical
school of economists notably, Ricardo, Senior, Cairnes, J.S. Mill, Malthus,
Marshall, Pigou, applied the deductive method in their economic investigations.
Steps of Deductive Method:
The main steps involved in
deductive logic are as under:
(i) Perception of the
problem to be inquired into: In the process of deriving economic
generalizations, the analyst must have a clear and precise idea of the problem
to be inquired into.
(ii) Defining of terms:
The next step in this direction is to define clearly the
technical terms used analysis. Further,
assumptions made for a theory should also be precise.
(iii) Deducing hypothesis
from the assumptions: The third step in deriving generalizations is
deducing hypothesis from the assumptions taken.
(iv) Testing of hypothesis:
Before establishing laws or generalizations, hypothesis should be verified
through direct observations of events in the
rear world and through statistical methods. (Their inverse relationship between
price and quantity demanded of a good is a well established generalization).
Merits of Deductive Method:
The main merits of deductive method are as under:
(i) This method is near to
reality. It is less time consuming and less expensive.
The use of mathematical
techniques in deducing theories of economics brings exactness and clarity in
(iii) There being limited scope
of experimentation, the method helps in deriving economic theories.
(iv) The method is simple
because it is analytical.
of Deductive Method:
is true that deductive method is simple and precise, underlying
assumptions are valid.
(i) The deductive method is simple and
precise only if the underlying assumptions are valid. More often the
assumptions turn out to be based on half truths or have no relation to
reality. The conclusions drawn from such assumptions will, therefore, be
(ii) Professor Learner describes
the deductive method as ‘armchair’ analysis. According to him, the premises
from which inferences are drawn may not
hold good at all times, and places. As such deductive reasoning is not
(iii) The deductive method is
highly abstract. It require; a great deal of care to avoid bad logic or
faulty economic reasoning.
As the deductive method employed by the classical and neo-classical
economists led to many facile conclusions due to reliance on imperfect and
incorrect assumptions, therefore, under the German Historical School of
economists, a sharp reaction began against this method. They advocated a
more realistic method for economic analysis known as inductive method.
(2) Inductive Method of
Inductive method which also
called empirical method was adopted by the “Historical School of Economists". It
involves the process of reasoning from particular facts to general principle.
This method derives economic generalizations on the basis of (i)
Experimentations (ii) Observations and (iii) Statistical methods.
In this method, data is
collected about a certain economic phenomenon. These are systematically arranged
and the general conclusions are drawn from them.
For example, we observe
200 persons in the market. We find that nearly 195 persons buy from the cheapest
shops, Out of the 5 which remains, 4 persons buy local products even at higher
rate just to patronize their own products, while the fifth is a fool. From this
observation, we can easily draw conclusions that people like to buy from a
cheaper shop unless they are guided by patriotism or they are devoid of
Steps of Inductive Method:
The main steps involved in the
application of inductive method are:
(ii) Formation of hypothesis.
Merits of Inductive Method:
(i) It is based on facts as
such the method is realistic.
(ii) In order to test the
economic principles, method makes statistical techniques. The inductive
method is, therefore, more reliable.
(iii) Inductive method is
dynamic. The changing economic phenomenon are analyzed and on the basis of
collected data, conclusions and solutions are drawn from them.
(iv) Induction method also helps
in future investigations.
The main weaknesses of this
method are as under:
(i) If conclusions drawn from
insufficient data, the generalizations obtained may be faulty.
(ii) The collection of data
itself is not an easy task. The sources and methods employed in the
collection of data differ from investigator to investigator. The results,
therefore, may differ even with the same problem.
(iii) The inductive method is
time-consuming and expensive.
The above analysis reveals that
both the methods have weaknesses. We cannot rely exclusively on any one of them.
Modern economists are of the view that both these methods are complimentary.
They partners and not rivals. Alfred Marshall has rightly remarked:
and Deductive methods are both needed for scientific thought, as the
right and left foot are both needed for walking”.
We can apply any of them or
both as the situation demands.