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Macroeconomics
CHAPTER 6
Macroeconomics: The Big Picture
PowerPoint® Slides
by Can Erbil
© 2006 Worth Publishers, all rights reserved
What you will learn in this chapter:
An overview of macroeconomics, the study of the economy as
a whole, and how it differs from microeconomics
The importance of the business cycle and why policymakers seek to diminish the severity of business cycles
What long-run growth is and how it determines a country’s
standard of living
The meaning of inflation and deflation and why price
stability is preferred
What is special about the macroeconomics of an open
economy, an economy that trades goods, services and
assets with other countries
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Macroeconomics vs. Microeconomics
To understand the scope and sweep of macroeconomics, let’s
begin by looking more carefully at the difference between
microeconomic and macroeconomic questions.
MICROECONOMIC
QUESTION
Go to business school or take
a job?
MACROECONOMIC
QUESTION
How many people are
employed in the economy as a
whole?
What determines the salary
What determines the overall
offered by Citibank to Cherie
salary levels paid to workers
Camajo, a new Columbia MBA? in a given year?
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Macroeconomics vs. Microeconomics
MICROECONOMIC
QUESTION
MACROECONOMIC
QUESTION
What determines the cost to a What determines the overall
university or college of offering level of prices in the economy
a new course?
as a whole?
What government policies
should be adopted to make it
easier for low-income students
to attend college?
What government policies
should be adopted to promote
full employment and growth in
the economy as a whole?
What determines whether
Citibank opens a new office in
Shanghai?
What determines the overall
trade in goods, services and
financial assets between the
US and the rest of the world?
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Macroeconomics vs. Microeconomics
Microeconomics focuses on how decisions are made by
individuals and firms and the consequences of those decisions.

Ex.:
How much it would cost for a university or college to
offer a new course ─ the cost of the instructor’s salary, the
classroom facilities, the class materials, and so on.
Having determined the cost, the school can then decide
whether or not to offer the course by weighing the costs and
benefits.
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Macroeconomics vs. Microeconomics
 Macroeconomics examines the aggregate behavior of the
economy (i.e. how the actions of all the individuals and firms in
the economy interact to produce a particular level of economic
performance as a whole).
Ex.:
Overall level of prices in the economy (how high or how
low they are relative to prices last year) rather than the price
of a particular good or service.
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Four Principal Ways that Macroeconomics
Differs from Microeconomics:
1.In macroeconomics, the behavior of the whole
macroeconomy is, indeed, greater than the
sum of individual actions and market
outcomes.
2.Macroeconomics is widely viewed as providing
a rationale for continual government
intervention to manage short-term
fluctuations and adverse events in the
economy.

monetary policy

fiscal policy
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Four Principal Ways that Macroeconomics
Differs from Microeconomics (cont.):
3.Macroeconomics is the study of long-run
growth: What factors lead to a higher longrun growth rate? And are there government
policies capable of increasing the long-run
growth rate?
4.The theory and policy implementation focus on
economic aggregates -- economic measures
that summarize data across many different
markets for goods, services, workers, and
assets.
8
The Great Depression
The Great Depression precipitated a thorough rethinking of
macroeconomics which gave rise to modern macroeconomics.
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The Business Cycle
The business cycle is the short-run alternation between
economic downturns and economic upturns.
A depression is a very deep and prolonged downturn.
Recessions are periods of economic downturns when output
and employment are falling.
Expansions, sometimes called recoveries, are periods of
economic upturns when output and employment are rising.
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The Unemployment Rate and Recessions
Since 1948
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The Business Cycle
What happens during a business cycle, and what can be done
about it?
the effects of recessions and expansions on unemployment;
the effects on aggregate output; and
the possible role of government policy.
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Employment and Unemployment
Employment is the number of people working in the economy.
Unemployment is the number of people who are actively
looking for work but aren’t currently employed.
The labor force is equal to the sum of employment and
unemployment.
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Employment and Unemployment
Discouraged workers are non-working people who are capable of working but are
not actively looking for a job.
Underemployment is the number of people who work during a recession but receive
lower wages than they would during an expansion due to smaller number of hours
worked, lower-paying jobs, or both.
The unemployment rate is the ratio of the number of people unemployed to the
total number of people in the labor force, either currently working or looking for jobs.
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Underemployment
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The Effects of Recessions and Expansions
on Unemployment and Aggregate Output:
In general, the unemployment rate rises during
recessions and falls during expansions. It moves in the
direction opposite to aggregate output, which falls
during recessions and rises during expansions.
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Growth in Aggregate Output, 1948–2004
Real GDP is a measure of aggregate output, the output of the
economy as a whole.
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Growth in Aggregate Output, 1948–2004
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Taming the Business Cycle
Policy efforts undertaken to reduce the severity of recessions are
called stabilization policy.
One type of stabilization policy is monetary policy,
changes in the quantity of money or the interest rate.
The second type of stabilization policy is fiscal policy,
changes in tax policy or government spending, or both.
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ECONOMICS IN ACTION: Has the Business
Cycle Been Tamed?
Has progress in macroeconomics made the economy more stable?
Answer: “Sort of”
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Long-Run Economic Growth
Secular long-run growth, or long-run growth, is the
sustained upward trend in aggregate output per person over
several decades.
A country can achieve a permanent increase in the standard of
living of its citizens only through long-run growth. So a central
concern of macroeconomics is what determines long-run growth.
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U.S. real gross domestic product per person
from 1900 to 2004
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Aggregate Price Level
A nominal measure is a measure that has not been adjusted
for changes in prices over time.
A real measure is a measure that has been adjusted for
changes in prices over time.
The aggregate price level is the overall level of prices in the
economy.
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Consumer price index from 1913 to 2004
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Inflation and Deflation
A rising aggregate price level is inflation.
A falling aggregate price level is deflation.
The inflation rate is the annual percent change in the
aggregate price level.
The economy has price stability when the aggregate
price level is changing only slowly.
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Inflation and deflation since 1929
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The Open Economy
A closed economy is an economy that does not trade goods,
services, and assets.
Open-economy macroeconomics is the study of those
aspects of macroeconomics that are affected by movements of
goods, services, and assets across national boundaries.
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The Open Economy
One of the main concerns introduced by open-economy
macroeconomics is the exchange rate, the price of one currency
in terms of another.
Exchange rates can affect the aggregate price level.
They can also affect aggregate output through their effect on
the trade balance, the difference between the value of the
goods and services a country sells to other countries and the
value of the goods and services it buys in return.
Economists are also concerned about capital flows,
movements of financial assets across borders.
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Movements of the exchange rate
between the U.S. dollar and the euro
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The End of Chapter 6
coming attraction:
Chapter 7:
Tracking the Macroeconomy
32
Macroeconomics
CHAPTER 7
Tracking the Macroeconomy
PowerPoint® Slides
by Can Erbil
© 2006 Worth Publishers, all rights reserved
What you will learn in this chapter:
How economists use aggregate measures to track the
performance of the economy.
What gross domestic product , or GDP, is and the three
ways of calculating it
The difference between real GDP and nominal GDP and why
real GDP is the appropriate measure of real economic activity
The significance of the unemployment rate and how it
moves over the business cycle
What a price index is and how it is used to calculate the
inflation rate.
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An Expanded Circular-Flow Diagram: The
Flows of Money Through the Economy
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The National Accounts
Almost
all countries calculate a set of numbers known as the
national income and product accounts.
The
national income and product accounts, or national
accounts, keep track of the flows of money between different
parts of the economy.
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The National Accounts
Households earn income via the factor markets from wages,
interest on bonds, dividends on stocks, and rent on land.
In addition, they receive government transfers from the
government.
Disposable income, total household income minus taxes, is
either expended as consumer spending (C) or goes into private
savings.
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The National Accounts
Via the financial markets, private savings is channeled to firms
for investment spending (I).
Government purchases of goods and services (G) is paid for
by tax receipts as well as by government borrowing.
Exports (X) generate an inflow of funds into the country from the
rest of the world, while imports (IM) lead to an outflow of funds to
the rest of the world. Foreigners can also buy stocks and bonds in
the U.S. financial markets.
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Gross Domestic Product
Gross domestic product or GDP measures the value of all
final goods and services produced in the economy. It does not
include the value of intermediate goods.
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Calculating Gross Domestic Product
GDP can be calculated three ways:
add up the value added of all producers;
add up all spending on domestically produced final goods and
services, leading to the equation GDP = C+I+G+X-IM;
add up the all income paid to factors of production.
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Calculating GDP
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Pitfalls: GDP: WHAT’S IN AND WHAT’S OUT
Included
• Domestically produced final goods and services
(including capital goods)
• New construction of structures
• Changes to inventories
Not Included
• Intermediate goods and services
• Inputs
• Used goods
• Financial assets like stocks and bonds
• Foreign-produced goods and services
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U.S. GDP in 2004: Two Methods of Calculating GDP
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Real vs. Nominal GDP
Real GDP is the value of the final goods and services produced
calculated using the prices of some base year.
Except in the base year, real GDP is not the same as nominal
GDP, output valued at current prices.
Real GDP per capita is a measure of average output per
person, but is not by itself an appropriate policy goal.
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Calculating GDP and Real GDP in a Simple
Economy
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Real vs. Nominal GDP
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Real vs. Nominal GDP
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The Unemployment Rate
The
unemployment rate is an indicator of the state of the
labor market, but should not be taken literally as a measure of the
fraction of people who want to work but can’t find jobs.
may overstate the true level of unemployment because a
person typically spends time unemployed while in search of a job
before finding one.
It
also may understate the true level of unemployment because
it does not include discouraged workers.
It
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Unemployment Rate
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Growth and Unemployment
There is a strong relationship between growth in aggregate output
and changes in the unemployment rate: when growth is above
average, the unemployment rate falls, when it is below
average, the unemployment rate rises.
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The Relationship between Real GDP and
Unemployment, 1949-2004
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Price Indexes and the Aggregate Price Level
To measure the aggregate price level, economists calculate the
cost of purchasing a market basket.
A price index is the ratio of the current cost of that market
basket to the cost in a base year, multiplied by 100.
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Calculating the Cost of a Market Basket
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Inflation Rate, CPI and other Indexes
The inflation rate is the yearly percentage change in a price
index, typically based upon Consumer Price Index, or CPI, the
most common measure of the aggregate price level.
The consumer price index, or CPI, measures the cost of the
market basket of a typical urban American family.
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The Makeup of the Consumer Price Index
in 2004
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The CPI, 1913–2004
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Other Price Measures
• A similar index to CPI for goods purchased by firms is the
producer price index.
• Economists also use the GDP deflator, which measures the
price level by calculating the ratio of nominal to real GDP.
• The GDP deflator for a given year is 100 times the ratio of
nominal GDP to real GDP in that year.
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The CPI, the PPI, and the GDP Deflator
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The End of Chapter 7
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