A certain kind of armchair theorizing about economics resembles some old armchair theorizing about the laws of physics. When one sees a balloon floating up in the air today, it is not often that we gaze intently at it, wrinkle our brow, then pause and then loudly and excitedly proclaim: “Aha! I’ve just found something that refutes the law of gravity!” Of course, the way the good armchair physicist approaches the information at hand is to ask, “how can I reconcile what I am observing with what I know to be true about the world?”
This is not the same as just dismissing the initial proclamation, but rather it enables you to build, step-by-step, a case for why your intuition may be correct. By respecting what we know about how the physical world works, we can systematically ask ourselves what must be true for the phenomena to truly represent a repudiation of the theory.
I urge that the same approach be taken when it comes to the “few” laws of economics that we have. For example if you take snapshot and observe two different people purchasing the same bottle of water, one may pay $1.00 for it and another would be more eager and willing to pay $10.00 for it, does that mean the law of demand has been refuted? It could be the case. But of course, you have to ask if the two cases are completely identical. First is that people have different preferences over water. So it could be that some people like water more than others – no problem with the law of demand. In this case, now I have an empirical test. First I can take steps to determine if indeed their preferences are different. Suppose you find that they are different – then in order to disprove the law of demand you’d have to see how the two of them behaved as the prices of each bottle increased. Would the $10 demander be more likely to purchase it when it is $11? Of course it would not seem likely. Suppose instead that people’s preferences are identical, does this then allow us to disprove the law? Again, that is a first step, but not the whole way there. We have to ask the question, are these two bottles of water identical in every aspect? Perhaps not – is one being sold on a cool day in Rochester and the other in a scorching day in Bryce Canyon? In that case, each bottle of water is not the same and it would be hard to say much about the law of demand from this observation.
Be very wary when you think you have found “proof” of this kind in economics. I do not mean to convince you that you are foolish, but rather that you should first ask how you might reconcile your observation with what we know, before jumping ahead with something else. Too bad I don’t have more readers (well, that would be too costly, or I simply suck, or …) otherwise I’d ask all of you to provide examples of Helium Balloon Economics – it would be fun to compile lists.