Importance of Economic Analysis

October 17, 2017. Jhumri Tilaiya, Jharkhand.

Economic analysis is simple means to evaluate microeconomic and macroeconomic aspects of an economy, whereby analyzing its strength and weakness in various aspects of the economic well-being of a region/country. Economic analysis is a topic of interest to many. Using this tool, a government can take better-informed policy decisions, and companies can invest with greater assurance of profit (and thus lower risk). According to European Central Bank, “The economic analysis surveys the short to medium-term determinants of price changes. The emphasis is on genuine action and budgetary conditions of the economy. The economic analysis assesses the way that value advancements over those skylines are affected to a great extent by the interaction of free market activity in the merchandise, administrations and element markets”.

Economic Analysis is the strategy for surveying the chance of a venture by considering the benefits contrasted with the costs, both components being considered economically. The financial examination utilizes same points of indication as financial analysis, but it considers other extra perspectives also, for example,

  1. Market impacts

  2. Other external components impacts

  3. The social and ecological expenses, and so forth.

Economic analysis is done concerning social well-being. There are various tools for economic analysis, like – inflation tracking, GDP track, etc. The vital point to note is that all these are analysis are “ceteris paribus.”

There are two major mistakes to be avoided when performing an economic analysis – the fallacy of composition and the false‐cause fallacy.

The fallacy of composition is when one individual or firm believes to be benefitted from some action with an underlying assumption that all individuals or all other businesses will not be benefitted from the same action. While this may, in fact, be the case, it is not at all a necessity. For example, suppose a telecom company decides to lower the data/call rates it charges to all of its customers. The telecom expects to benefit from the rates reduction because it believes the lower rates will attract new customers away from other carriers and also trigger more consumption. But, if other telecom companies follow them and lower their rates too, then it is not necessarily true that all carriers will be better off; while more people may choose to use data, each carrier will generate less revenue per customer, and each carrier’s market share is unlikely to change. Hence, the profits of all the carriers could fall.

The false‐cause fallacy usually happens while economic analysis of two correlated events. When one notices two actions or events correlated, it is often concluded that one has caused the other. One could be committing the false‐cause fallacy, which is the simple fact that correlation does not imply causation. For example, suppose that air conditioners prices have steadily increased over some period and air conditioners sales have also increased over the same period. One might then conclude that an increase in the price of air conditioners causes an increase in the air conditioners sales. This conclusion is an example of the false‐cause fallacy; new‐car prices and new‐car sales may be positively correlated, but that correlation does not imply that there is any relation between the two.

Avoiding these almost neglected mistakes, the analysis would not only be fruitful but also be also be genuine.

This was originally submitted to Vskills, Government of India.