What Is Ceteris Paribus?
Ceteris paribus, literally "holding other things constant," is a Latin phrase that is commonly translated into English as "all else being equal."
A dominant assumption in mainstream economic thinking, it acts as a shorthand indication of the effect of one economic variable on another, provided all other variables remain the same (constant). In the scientific sense, if we claim that one variable influences another, ceteris paribus, we are essentially controlling for the effects of some other variables.
- Ceteris paribus is a Latin phrase that generally means "all other things being equal."
- In economics, it acts as a shorthand indication of the effect one economic variable has on another, provided all other variables remain the same.
- Many economists rely on ceteris paribus to describe relative tendencies in markets and to build and test economic models.
- The difficulty with ceteris paribus is the challenge of holding all other variables constant in an effort to isolate what is driving change.
- In reality, one can never assume "all other things being equal."
Understanding Ceteris Paribus
In the fields of economics and finance, ceteris paribus is often used when making arguments about cause and effect. An economist might say raising the minimum wage increases unemployment, increasing the supply of money causes inflation, reducing marginal costs boosts economic profits for a company, or establishing rent control laws in a city causes the supply of available housing to decrease. Of course, these outcomes can be influenced by a variety of factors, but using ceteris paribus allows all other factors to remain constant, focusing on the impact of only one.
Ceteris paribus assumptions help transform an otherwise deductive social science into a methodologically positive "hard" science. It creates an imaginary system of rules and conditions from which economists can pursue a specific end. Put another way; it helps the economist circumvent human nature and the problems of limited knowledge.
Most, though not all, economists rely on ceteris paribus to build and test economic models. In simple language, it means the economist can hold all variables in the model constant and tinker with them one at a time. Ceteris paribus has its limitations, especially when such arguments are layered on top of one another. Nevertheless, it is an important and useful way to describe relative tendencies in markets.
Applications of Ceteris Paribus
Suppose that you wanted to explain the price of milk. With a little thought, it becomes apparent that milk costs are influenced by numerous things: the availability of cows, their health, the costs of feeding cows, the amount of useful land, the costs of possible milk substitutes, the number of milk suppliers, the level of inflation in the economy, consumer preferences, transportation, and many other variables. So an economist instead applies ceteris paribus, which essentially says if all other factors remain constant, a reduction in the supply of milk-producing cows, for example, causes the price of milk to rise.
Supply and Demand
As an example, take the laws of supply and demand. Economists say the law of demand demonstrates that ceteris paribus, more goods tend to be purchased at lower prices. Or that, if demand for any given product exceeds the product's supply, ceteris paribus, prices will likely rise. In this situation, the price of an item is the only variable that should change. All else should remain ceteris paribus. If only the price were to change, we can appropriately forecast the outcome because of the laws of supply and demand.
In general, economists and other social scientists will report how variables influence one another while holding all else constant. So, if we say that low unemployment is associated with higher inflation, ceteris paribus, it means holding everything else constant like GDP growth, balance of trade, money supply, and so on. However, each of these other factors, among others, also can play into inflation.
We can also say the same thing about the minimum wage: ceteris paribus, raising the minimum wage is thought to lower employment as businesses cut costs. But this also ignores many other social and political factors. For example, employees may work harder and be more productive with higher wages. Or, better-paid workers may spend more and increase aggregate demand.
There is often an inverse relationship between interest rates and the demand for borrowing. This is because higher interest rates cause loans to become more expensive. Therefore, ceteris paribus, higher interest rates cause decreased demand for debt. Of course, other factors (consumer demand, consumer preference, consumer creditworthiness) are all considers that may change the outcome of the statement. However, when all factors regarding the borrower are isolated, higher interest rates mean higher loan costs which decreases demand.
There are a tremendous amount of factors that go into a unit's production. This includes delivery of raw materials, labor hours, equipment availability, ingredient pricing, packing and delivery, or distribution. Therefore, when considering how an item may move throughout the supply chain process, economists may make claims on outcomes assuming all other variables are constant. For example, ceteris paribus, higher raw material prices will decrease manufacturing supply if companies don't increase their production budgets. This claim does not consider labor hours, packaging, or delivery.
Since economic variables can only be isolated in theory and not in practice, ceteris paribus can only ever highlight tendencies, not absolutes.
Ceteris Paribus and Economic Science
Two major publications helped move mainstream economics from a deductive social science based on logical observations and deductions into an empirically positivist natural science. The first was Léon Walras' Elements of Pure Economics, published in 1874, which introduced general equilibrium theory. The second was John Maynard Keynes' The General Theory of Employment, Interest, and Money, first published in 1936, which created modern macroeconomics.
In an attempt to be more like the academically respected "hard sciences" of physics and chemistry, economics became math-intensive. Variable uncertainty, however, was a major problem; economics could not isolate controlled and independent variables for math equations. There was also a problem with applying the scientific method, which isolates specific variables and tests their interrelatedness to prove or disprove a hypothesis.
Economics does not naturally lend itself to scientific hypothesis testing as does physics. In the field of epistemology, scientists can learn through logical thought experiments, also called deduction, or through empirical observation and testing, also called positivism. Geometry is a logically deductive science.
Physics is an empirically positive science. Unfortunately, economics and the scientific method are naturally incompatible. No economist has the power to control all economic actors, hold all of their actions constant, and then run specific tests. No economist can even identify all of the critical variables in a given economy. For any given economic event, there could be dozens or hundreds of potential independent variables.
Enter ceteris paribus. Mainstream economists construct abstract models where they pretend all variables are held constant, except the one they want to test. This style of pretending, called ceteris paribus, is the crux of general equilibrium theory.
As economist Milton Friedman wrote in 1953, "theory is to be judged by its predictive power for the class of phenomena which it is intended to 'explain.'" By imagining all variables save one are held constant, economists can transform relative deductive market tendencies into absolute controllable mathematical progressions. Human nature is replaced with balanced equations.
Ceteris paribus drives supply and demand curve expectations. The relationship between quantity and price can only be determined if the variables in question are influenced and the rest are held constant.
Benefits of Ceteris Paribus
Uses Scientific Method Approach
Suppose an economist wants to prove a minimum wage causes unemployment or that easy money causes inflation. They could not possibly set up two identical test economies and introduce a minimum wage law or start printing dollar bills. So the positive economist, charged with testing their theories, must create a suitable framework for the scientific method, even if this means making very unrealistic assumptions. The economist assumes buyers and sellers are price-takers rather than price-makers.
Leverages Perfect Information
The economist also assumes actors have perfect information about their choices since any indecision or incorrect decision based on incomplete information creates a loophole in the model. If the models produced in ceteris paribus economics appear to make accurate predictions in the real world, the model is considered successful. If the models do not appear to make accurate predictions, they are revised.
Employs Positive Economics
This can make positive economics tricky; circumstances might exist that make one model look correct one day but incorrect a year later. Some economists reject positivism and embrace deduction as the principal mechanism of discovery. The majority, however, accept the limits of ceteris paribus assumptions, to make the field of economics more like chemistry and less like philosophy.
Enables Price Discovery
As economists compile data from various scenarios, static supply and demand charts are formed to devise a strategic plan of pricing, supply, or other economic factors. As a single variable is tweaked, a demand curve should be formed that allows for theoretical pricing application without having to go to market with those actual prices.
Overcomes Impossible Scenarios
Without ceteris paribus, many scenarios that are analyzed simply would not be able to happen. For example, consider the situation where only variable along a supply chain changes and all other variables remain static and unchanged. This situation would not able to occur in real life as so many aspects of the supply chain are uncontrollable. Therefore, ceteris paribus allows for economists and analysts to devise scenarios that would otherwise not be able to exist.
Criticisms of Ceteris Paribus
Overcomes Impossible Scenarios
Ceteris paribus assumptions are at the heart of nearly all mainstream microeconomic and macroeconomic models. Even so, some critics of mainstream economics point out that ceteris paribus gives economists the excuse to bypass real problems about human nature. Though this can be a benefit for theoretical application, these scenarios also may never play out in the real world which contests how applicable some findings may be.
Let's go back to the example of supply and demand, one of the favorite uses of ceteris paribus. Every introductory textbook on microeconomics shows static supply and demand charts where prices are given to both producers and consumers; that is, at a given price, consumers demand and producers supply a certain amount.
This is a necessary step, at least in this framework, so that economics can assume away the difficulties in the price-discovery process. But prices are not a separate entity in the real world of producers and consumers. Rather, consumers and producers themselves determine prices based on how much they subjectively value the good in question versus the quantity of money for which it is traded.
Dilutes Logical Value
Economists admit these assumptions are highly unrealistic, and yet these models lead to concepts such as utility curves, cross elasticity, and monopoly. Antitrust legislation is actually predicated on perfect competition arguments. The Austrian school of economics believes ceteris paribus assumptions have been taken too far, transforming economics from a useful, logical social science into a series of math problems.
May Overshadow What Should Be Analyzed
Financial consultant Frank Shostak wrote that this supply-demand framework is "detached from the facts of reality." Rather than solving equilibrium situations, he argued, students should learn how prices emerge in the first place. He claimed any subsequent conclusions or public policies derived from these abstract graphical representations are necessarily flawed.
Like prices, many other factors that affect the economy or finance are continuously in flux. Independent studies or tests may allow for the use of the ceteris paribus principle. But in reality, with something like the stock market, one can never assume "all other things being equal." There are too many factors affecting stock prices that can and do change constantly; you can't isolate just one.
Ignores Human Nature and Emotions
As nice as a black and white world would be, the truth is there are too many variables tied to human nature. Humans are naturally unpredictable and act in irrational ways. Though economic laws may make sense, there are situations in which people don't do what is theoretically the best for them to do. In these cases, items like the law of supply and the law of demand may be broken, causing any analysis to falter.
Ceteris Paribus Pros and Cons
Employs a scientific method approach to solving for variables
Uses positive economics that can test theories
Is extensively used in both macroeconomics and microeconomics
Allows for otherwise impossible situations to be analyzed
May aid in helping form price discovery or demand charts
May represent impossible situations which may hold little to not analytical value
Often omit the human element as it assumes all actions are rational and follow strict economic law
Does not consider the subjective value consumers may pursue
May detract from focusing on the aspects of a situation that do change in tandem with other variables
Ceteris Paribus vs. Mutatis Mutandis
While somewhat similar in assumption aspects, ceteris paribus is not to be confused with mutatis mutandis, translated as "once necessary changes have been made.” It is used to acknowledge that a comparison, such as the comparison of two variables, requires certain necessary alterations that are left unsaid because of their obviousness.
In contrast, ceteris paribus excludes any and all changes except for those that are explicitly spelled out. More specifically, the phrase mutatis mutandis is largely encountered when talking about counterfactuals, used as a shorthand to indicate initial and derived changes that have been previously discussed or are assumed to be obvious.
The ultimate difference between these two contrasting principles boils down to correlation versus causation. The principle of ceteris paribus facilitates the study of the causal effect of one variable on another. Conversely, the principle of mutatis mutandis facilitates an analysis of the correlation between the effect of one variable on another, while other variables change at will.
What Is Ceteris Paribus in Economics?
Ceteris paribus in economics is a reference to how one isolated variable may change an economic environment assuming all other variables remain the same. In economics, ceteris paribus is often highly hypothetical as national economics and macroeconomic conditions are highly intricate and complex. However, ceteris paribus is the practice of seeing how a single economic concept (i.e. inflation) can impact broader concepts.
What Is an Example of Ceteris Paribus in Economics?
All things being equal, if the price of milk increases, people will buy less milk. This assumption ignores how other substitutes are behaving, how household income is behaving, or non-economic factors such as the health benefits of milk. Ceteris paribus, people will buy less of a product if the price is higher.
Is Ceteris Paribus a Law?
Ceteris paribus is considered natural law. It is not codified by any government; instead, it is thought to naturally occur based on how certain variables interact. For example, if the United States drilled for more oil domestically, there would be more supply for gasoline and the price of gas would drop. There is no law that defines that this would happen; it's simply assumed as the outcome based on how situations naturally flow together.
What Does Ceteris Paribus Help Find?
Ceteris paribus helps determine what variables impact outcomes. By holding one variable constant or assuming that only one variable changes, it is inferred that any corresponding change is directly correlated to that single variable. Ceteris paribus may help drive metrics on customer taste, customer preference, consumer spending, the price of goods, market expectations, or government policy.
The Bottom Line
Ceteris paribus is a broad term that defines what variables are changing or what variables are remaining the same in a given situation. Often, to isolate only one variable, economists cite ceteris paribus to clarify that their assumptions on a given outcome are only valid if all other variables are remaining the same. Though ceteris paribus is truly unlikely due to the complexity of macroeconomic factors, it may still be useful in testing variables and determining what causes outcomes.