it. A good theory is simple enough to understand, while complex enough to capture the key features of the

object or situation you are studying.

Sometimes economists use the term model instead of theory. Strictly speaking, a theory is a more abstract

representation, while a model is a more applied or empirical representation. We use models to test theories,

but for this course we will use the terms interchangeably.

For example, an architect who is planning a major office building will often build a physical model that sits on

a tabletop to show how the entire city block will look after the new building is constructed. Companies often

build models of their new products, which are more rough and unfinished than the final product, but can still

demonstrate how the new product will work.

A good model to start with in economics is the circular flow diagram (Figure 1.7). It pictures the economy as
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