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An Introduction to
Macroeconomics
Where the telescope ends, the microscope begins.
Which of the two has the grander view?
VICTOR HUGO
PowerPoint Slides prepared by:
Andreea CHIRITESCU
Eastern Illinois University
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
1
Drawing a Line
• Drawing a line between macroeconomics
and microeconomics
• Microeconomics
– Decisions of individual units
• No matter how large
• Macroeconomics
– Behavior of entire economies
• No matter how small
– Economic aggregates
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
2
Drawing a Line
• Aggregation
– Combine many individual markets into
one overall market
• Composition of demand and supply
– In various markets
– Important for microeconomics issues
– Not important for macroeconomics issues
• During economic fluctuations
– Markets – move up or down together
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
3
Drawing a Line
• Macroeconomics
– Assume most details
• Resource allocation and income distribution
• Relatively unimportant
• Microeconomics
– Ignore macroeconomics issues
– Focus on individual markets
• Allocate resources
• Distribute income
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
4
Macroeconomics
• Aggregate demand curve
– Quantity of domestic product that is
demanded at each possible value of the
price level
• Aggregate supply curve
– Quantity of domestic product that is
supplied at each possible value of the
price level
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
5
Figure 1
D1
S
D
Price
Price
Two interpretations of a shift in the demand curve
S
D0
A
P1
E
E
P0
P0
S
S
D1
D
0
Q0
Quantity
(a)
D0
0
Quantity
(b)
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
6
Macroeconomics
• Inflation
– Sustained increase in the general price
level
• Recession
– A period of time during which the total
output of the economy declines
• Production falls
• People lose jobs
– Leftward shift of aggregate demand curve
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
7
Figure 2
An Economy Slipping into a Recession
S
D0
D2
Price Level
E
P0
B
P2
S
D2
0
Q2
D0
Q0
Domestic Product
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
8
Macroeconomics
• Macroeconomists study
– Inflation
– Recession and unemployment
– Economic growth
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
9
Figure 3
Economic Growth
D1
S0
D0
S1
Price Level
C
E
D1
S0
0
D0
S1
Q0
Q1
Domestic Product
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
10
Gross Domestic Product
• Gross domestic product (GDP)
– Sum of the money values of all final
goods and services
– Produced in the domestic economy and
sold on organized markets
– During a specified period of time, usually
a year
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
11
Gross Domestic Product
• Nominal GDP
– GDP in current dollars
– Calculated by valuing all outputs at
current prices
• Real GDP
– Calculated by valuing outputs of different
years at common prices
– Better measure than nominal GDP of
changes in total production
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
12
Gross Domestic Product
• GDP - particular year
– Add up money value of things
– Goods and services
• Produced within the year
– Final goods and services
– Production: geographic boundaries of U.S.
– Organized markets
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
13
Gross Domestic Product
• Final goods and services
– Purchased by their ultimate users
• Intermediate good - purchased
– For resale
– For use in producing another good
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
14
Gross Domestic Product
• Limitations of GDP
– Not a measure of the nation’s economic
well-being
– Includes only market activity
– Places no value on leisure
– Counted: “Bads” and “Goods”
– Ecological costs are not netted out of the
GDP
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
15
The Economy on a Roller Coaster
• U.S. economy
– Growth – with fluctuations
• Macroeconomic fluctuations
– Business cycles
• Real GDP per capita
– Ratio of real GDP divided by population
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
16
Figure 4
Nominal GDP, Real GDP, and Real GDP per Capita since
1959
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
17
Figure 5
The Growth Rate of U.S. Real Gross Domestic Product
since 1870
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
18
The Economy on a Roller Coaster
• Inflation
– Sustained increase in the general price
level
• Deflation
– Sustained decrease in the general price
level
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
19
Figure 6
The Inflation Rate in the United States since 1870
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
20
The Economy on a Roller Coaster
• The Great Depression, 1929-1933
– Decline in economic activity
– Rapid deflation
– Production declined 30%
– Business investment ceased
– Unemployment rate
• Increased from 3% to 25%
– World-wide event
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
21
The Economy on a Roller Coaster
• The Great Depression, 1929-1933
– Revolution in economic thought
• Before: economy corrects itself
• After: decrease in aggregate demand
– Monetary & fiscal policy
– Ended: early 1940s
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
22
The Economy on a Roller Coaster
• From WWII to 1973
– Increased government spending
• Increased aggregate demand
• Accidental fiscal policy
• Price controls
• Shortage: consumer goods
– 1960s – strong growth
– Vietnam war – increased spending
• Inflation and high unemployment
– Wage and price controls
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
23
The Economy on a Roller Coaster
• Fiscal policy
– Government spending and taxation
– Used to steer aggregate demand
• Stagflation
– Inflation
– While economy
• Growing slowly (“stagnating”)
• Or recession
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
24
The Economy on a Roller Coaster
• The Great Stagflation, 1973-1980
– OPEC – 1973 oil prices quadrupled
– Poor harvests
– Recession
• Inflation rate: 12%
• High unemployment
– Stagflation
– Inward shift of aggregate supply
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25
The Economy on a Roller Coaster
• The Great Stagflation, 1973-1980
– Economy recovered
• Government actions
• Natural economic forces
– 1979 – OPEC soaring oil prices
• Stagflation
• Inflation: 16%
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
26
Figure 7
The Effects of an Adverse Supply Shift
D
S1
S0
Price Level
A
E
S1
D
S0
0
Real GDP
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
27
The Economy on a Roller Coaster
• Reaganomics and its aftermath
– Recovery underway
– High inflation
– Federal Reserve
• Monetary policy, High interest rate
• Monetary policy
– Actions – Federal Reserve
• Change interest rates
• Influence aggregate demand
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
28
The Economy on a Roller Coaster
• Reaganomics and its aftermath
– 1981-1982 recession
– Large budget deficits
– Recovery started 1982-1983
– President Bush
• Inflation
• Deficit-reduction package
• Spike in oil prices
• 1990-1991 recession
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
29
The Economy on a Roller Coaster
• Clintonomics: deficit reduction and the
“New Economy”
– Deficit-reduction package, 1993 & 1997
• Tax increase & spending cuts
– Large surplus
– Economy boomed
– Lower inflation
– Aggregate supply curves
• Pushed outward – rapid pace, 1996 – 1998
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
30
Figure 8
The Effects of a Favorable Supply Shift
D1
S0
D0
S1
S2
Price Level
C
B
E
D1
S0
S1
S2
D0
0
Real GDP
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
31
The Economy on a Roller Coaster
• Tax cuts and the Bush economy
– 2001 recession, the first in 10 years
– Tax cut 2001
– Budget deficit
– Burst of government spending
• War on terror
– Aggregate demand – shift outward
– Federal Reserve
• Lowered interest rate
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
32
The Economy on a Roller Coaster
• Obamanomics and the Great Recession
– January 2009, economy was sinking
• Jobs - disappearing at a rapid pace
– More tax cuts
– A burst of federal spending
– Large-scale aid to state and local
governments
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
33
The Economy on a Roller Coaster
• Obamanomics and the Great Recession
– Bush, Obama administrations, the Fed
• Variety of unprecedented emergency
measures - to rescue the collapsing financial
system
– Summer 2009, the Great Recession was
over
– Economy started growing again
– High unemployment
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
34
Macroeconomic Stabilization
• Stabilization policy
– Government programs designed to
prevent or shorten recessions
– And to counteract inflation
• To stabilize prices
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
35
Macroeconomic Stabilization
• Combating unemployment
– Increase aggregate demand
• Government - Fiscal policy
– Increase spending and / or cut taxes
• Federal Reserve - Monetary policy
– Lower interest rates
– Increase output
– Reduce unemployment
– Raise prices
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
36
Figure 9
Stabilization Policy to Fight Unemployment
D1
S0
D0
Price Level
A
E
D1
S0
D0
Increase in output
0
Real GDP
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
37
Macroeconomic Stabilization
• Combating inflation
– Decrease aggregate demand
• Government - Fiscal policy
– Cut spending and / or increase taxes
• Federal Reserve - Monetary policy
– Increase interest rates
– Decrease inflation (decrease prices)
– Decrease output
– Increase unemployment
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
38
Figure 10
Stabilization Policy to Fight Inflation
S
D0
D2
Price Level
E
B
Decrease
in prices
S
D2
D0
0
Real GDP
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
39
Stabilization policy
• Prewar data
– Fluctuations – unmanaged economy
• Booms & recessions
– “Natural” economic reasons
• Little government intervention
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40
Stabilization policy
• Postwar data
– Economy - managed by government
policy
• Successfully or unsuccessfully
– Recessions - less severe
– More inflation-prone
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41