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MACROECONOMICS I INTERNATIONAL GROUP Course 2004-2005 Departamento de Análisis Económico Facultad de Economía Universidad de Valencia LECTURER ROOM OFFICE HOURS Professor Javier Andrés 3E07 Monday, 10.30-14.30 Friday, 10.30-12.30 CLASS TEACHER Professor Antonio Zabalza 3A05 Monday Academic Credit Weighting: 6 credits Length: One Semester (15 two-hour lectures) Status: Core for degrees in: Business Administration, Economics Academic year: 2004 – 2005, 1st semester Aims Macroeconomics studies of the determination of the main aggregate variables, such as output, inflation, unemployment, etc. The macroeconomic approach takes these variables as being the result of actions taken by households, firms and governments across all the markets in the economy. These variables are thought of as equilibrium prices and quantities in such markets. This is the general equilibrium nature of macroeconomics. Thus, emphasis will be placed on understanding how these different markets work and how they interact with each other. The way markets work depends on the time perspective with which we look at them. Most macroeconomic phenomena are associated with the passage of time. This is the dynamic feature of macroeconomics. More than in any other field in economics, macroeconomists disagree about the causes of the observed outcomes. These impassioned debates are based on different views of the way markets adjust, as well as on different interpretations of the available evidence. This is important because these different views are the basis of alternative actions taken by governments to tackle economic problems. Controversies are intrinsic to macroeconomics. This course covers the theory of modern macroeconomics in detail. The aim of the course is to equip students with an understanding of how markets work in generating the observed macroeconomic outcomes and to provide them with a grasp of macroeconomic analysis at the intermediate-level using graphical techniques. After an introductory topic, Topics 2 and 3 develop the theory of aggregate supply and demand under price flexibility. The macroeconomics of the long run is a straightforward extension of the topics studied in Intermediate 2 Microeconomics and gives a glimpse of how a market-clearing, frictionless, economy works. In this setting there is a clear separation between the determinants of real and nominal variables: the ‘classical dichotomy’. Basically, output, employment and relative prices, including the real interest rate, are independent of the amount of money, which only determines long-run inflation. In the short run though, the main aggregate variables fluctuate around their long-run values. Topics 4, 5 and 6 lay out the basic tenets of short-run macroeconomics. Labor and product market frictions induce firms to supply more output when nominal demand rises. We study how these frictions destroy the ‘classical dichotomy’ and give a prominent role to demand management (fiscal and monetary) policies. Then, we look in detail into how goods and financial markets interact to generate the aggregate demand curve (IS-LM). Topics 7 and 8 cover the same material but in this case taking into account that modern economies are tightly integrated in international goods and financial markets. In this part we focus on the saving-investment equilibrium as well as on the theory of short-run aggregate demand in open economies. The course combines both lectures and classes. The problems to be discussed in the classes are an integral part of the course. The final exam will contain both theory questions and exercises. Learning Outcomes. By the end of the course students should be able to: 1. Understand what determines output and employment over the long run. 2. Explain why long-run inflation is mostly a monetary phenomenon. 3. Understand what determines saving and investment and the impact on the economy of public debt and deficits, both in the short run and in the long run. 4. Use a simple model to study the impact of fiscal and monetary policies. Discuss why monetary policy may have a significant temporary effect on output and employment, but not a permanent one. 5. Understand the functioning of labor markets as well as the effect of pricing behavior by firms and wage determination on macroeconomic outcomes. 6. Understand the implications of openness and the integration of modern economies with world goods and financial markets. 7. Be able to read press articles and reports by economic institutions, understanding that macroeconomic controversies do not reflect flawed versus accurate views of how economies work, but rather alternative views of how markets operate. 3 Recommended readings: Students may follow the material available at the web page http://aeser.anaeco.uv.es/macroade. Lecture notes provided there must be taken as a useful, but by no means exhaustive, guide to the course. Students are strongly advised to read the recommended readings. The most useful textbook is: Mankiw, N. G.: Macroeconomics, Worth Publishers, Fifth Edition, 2003. Additional material for both lectures and classes will be provided during the course as they become necessary. Further references: Blanchard, O.: Macroeconomics, Prentice Hall, Second Edition, 2000. Abel, A. and B. Bernanke: Macroeconomics, Pearson Education, Fourth Edition, 2003. Dornbusch, R. S. Fisher, and R. Starz: Macroeconomics, McGraw-Hill, Ninth Edition, 2003. 4 COURSE TOPICS 1. Introduction. 1. What macroeconomics is about. 2. General equilibrium: markets and agents, prices and quantities. 3. The short run versus the long run. Mankiw, Chapters 1 and 2 Blanchard, Chapters 1 and 2 2. The Determinants of National Income. The Long Run 1. Long-run aggregate supply. 2. Factor markets and income distribution. 3. Aggregate demand: saving and investment. Mankiw, Chapter 3. 3. Money and Prices. 1. What is money: money supply and money demand. 2. Money and prices in the long run. 3. Money, prices and the interest rate. Mankiw, Chapter 7. 4. Introduction to Economic Fluctuations 1. From the long run to the short run. 2. Aggregate demand and supply. 3. Macroeconomic shocks and fluctuations. Mankiw, Chapter 9. 5. Aggregate Demand: IS-LM. 1. The goods and services market. 2. Financial markets. 3. The aggregate demand function. Mankiw, Chapters 10 and 11. Blanchard, Chapters 3, 4 and 5 5 6. Aggregate Supply. 1. Frictions in the labor market: rigid nominal wages and workers’ imperfect information. 2. Frictions in product markets: price rigidity and firms’ imperfect information. 3. Inflation, output and unemployment in the short run. Mankiw, Chapter 13. Blanchard, Chapter 8 7. Savings and Investment in the Open Economy. 1. The macroeconomics of the (small) open economy. 2. The exchange rate. 3. Savings and investment: the balance of payments. Mankiw, Chapter 8. Blanchard, Chapter 18 8. Aggregate Demand in the Open Economy 1. The goods market in the open economy 2. The money market in the open economy 3. Aggregate demand: flexible versus fixed exchange rates Mankiw, Chapter 12 Blanchard, Chapters 19 and 20 6