Download Macro3 Summary and Teaching Tips

Macro 3 Summary and Teaching Tips
This module follows up on the lessons of Macro2. Students can employ tools as they did
in Macro2, but determine their short and long run equilibrium effects in an open
economy (Macro1 and Macro2 are closed economies). While students have the ability
to disturb aggregate demand, as in Macro1 and Macro2, in this module they can learn
that many of the effects of such disturbances are eliminated in the long run, due to
adjustments in aggregate supply.

As in the modules in the macroeconomics sequence, the student begins by
choosing either an inflationary or recessionary initial condition. Having made the
choice, the state of the economy is presented: current government spending, taxes,
money supply, GDP and its components -- in this case including net exports, real
interest rates, inflation, the price and wage levels, and the unemployment and
exchange rates.

As in Macro2 the student sets government spending, taxes, and the money
supply.
As in Macro2 fiscal policy results reflect crowding out effects.
Crowding out is more severe in this module than in Macro2, with an effective
multiplier result of about .02. This is only partly due to the choice of the
monetary policy tool. It is also due to the fact that the student does not control the
real value of the monetary policy tool. In this module the student controls the real
values of the fiscal tools, but only the nominal money supply. The reason for this
is to allow the student, in this more advanced module, to see how the impact of
policies on the price level modifies the real impacts observed in earlier modules.
Changing fiscal tools now has smaller real impacts because some of the impact is
diverted by the upward sloping supply curve into an impact on the price level.
Even changing the money supply has both real and price level impacts, modifying
its effectiveness.

All of the above discussion concerns the short run equilibrium effects of policy.
This module, unlike the others, incorporates a long run adjustment process in
which an initial change causes a shift in demand affecting real output and the
price level induces subsequent changes in the nominal wage rate (as the labor
market adjusts), which shifts the supply curve. This means that policy effects in
the long run are quite different that the short run effects. In fact, the policy tools in
this module have no effect on total real GDP or the unemployment and inflation
rates in the long run, but do affect the price level, the real rate of interest, and the
composition of real GDP.

Also in this module the student has the option, not available in the earlier
modules, of having the economy experience demand or supply shocks -- alone or
in combination with changes in the policy tools. Use of these shocks allows the
student to experience the kind of disturbances discussed in textbooks and observe
their effects. The student can run a disturbance and then try re-running it with a
change in policy, with the intention of trying to offset the disturbance. This is
Macro3
Summary and Teaching Tips
possible since, while there are, potentially, an infinite number of disturbances
(with pseudo-random number generation), they are repeated in sequence. In other
words, the first demand disturbance is always the same disturbance, and the
twelfth is always the same twelfth. A student who wants to examine the effects of
a variety of policy variations on a given disturbance can always get back to the
same disturbance. An instructor who wants to assign a given disturbance can
always tell students how to get to it.

The module contains the standard AD-AS graph. However, it presents both the
short run equilibrium results and also shows, over time, the adjustment to the long
run equilibrium. The long run adjustment is indicated by the gradual (animated)
shift of the AS curve until the AD-AS intersection occurs at the indicated full
employment level of real GDP.
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Macro3
Summary and Teaching Tips
Macro3 Module
Initial Conditions
State of the
Short and Long Run Results
Macroeconomy • Real GDP
• Government Spending
• Taxes
• Inflation
• Money Supply
• Recession
• Real GDP
• Consumption
• Investment
• Net Exports
• Inflation Rate
Policy Decisions
• Price Level
• Government Spending
• Wage Level
• Taxes
• Unemployment Rate
• Money Supply
• Exchange Rate
• Real Interest Rate
• Consumption
• Investment
• Net Exports
• Unemployment Rate
• Inflation Rate
• Price Level
• Wage Level
• Real Interest Rate
• Exchange Rate
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