Macroeconomics and Macro Variables

What is macroeconomics?
 It is the study of the economy to understand the behaviour of the whole
economy and the aggregate variables that regulates the entire economy.
 It covers the aggregate indicators taking both a national/regional perspective
(closed economy) and an integrated perspective (open economy)
 Examining many markets (Goods, Financial, Labour, Money), separately
and looking at what is happening in the short run Business cycle and the
long-run trends.
 It covers government policy meant for growth and stabilizing the economy
over time, that is, to reduce fluctuations in the economy.
 It is the study of monetary policy, fiscal policy, and Demand -Supply-side
economics.
Definition of Macroeconomics

 Macroeconomics thus concerns the study of aggregate behaviour in an

economy which are the results of the interactions among the Goods, Labour,
and Assets markets of the economy, and the interactions among national
economies whose residents trade with each other and is a policy-oriented
part of economics.
 According to Dornbusch and Fischer (1994) macroeconomics is concerned
with the behaviour of the economy such as aggregate price level, total output
in the economy, employment and unemployment levels, levels of interest
rates, wage rates, and exchange rates, growth rate of output, inflation rates,
recessions and booms, trade balance, fiscal and monetary policies, and
national debt.
 Macroeconomics thus deals with long-run economic growth and with the
short-run fluctuations that constitute the business cycle.”
Is macroeconomics the same for all Economies?

It is essential to understand the mechanisms which determine the price level,

employment rate and output in the entire economy, the trade balance and foreign
exchange reserves

 The major variables that describe the macro-economy are the same for all
the Economies.
 The quality to which the policies are applied differ from one country to
another.
 The political process from which these policies are developed are unique for
each country.
Main differences between micro- and macroeconomics
 Microeconomics studies individual components, whereas Macroeconomics
studies the economy as a whole.
 Microeconomics treats the economy as a number of separate components,
whereas macroeconomics treats the components of the economy as one unit,
as one aggregate.
 Government involvement in microeconomics is comparatively small, and
relegated to public goods, regulation, and welfare.
 Microeconomics has been around since the mid eighteenth century whereas
macroeconomics began only as a reaction to the Great Depression of the
1930s.
 Government involvement in macroeconomics is rather substantial.
 It is the only government that makes and enforces monetary and fiscal
policy.
Who introduced macroeconomics?

 John Maynard Keynes, an English economist introduced macroeconomics

hence it is also referred to as Keynesianism.
 Keynes argued that, by itself, the market is not able to generate enough
savings (capital) to sustain investment at full employment levels; and this
 could be achieved only with the periodic sharp increase in government
spending and effective intervention. He was the first economist to formally
stamp the role of government in welfare and development of the economy.
 Before Keynes most of the economies were capitalist economies, with
monarchy. Many of them didn’t believe in the role of government for
development and growth.
Central issues on Macroeconomics

 Economic Growth and development are never a smooth and steady process.
There are fluctuations which need to be addressed and monitored by the
government.
 The problem of high and sustained unemployment in the economy. There is
evidence of not just high unemployment but chronic unemployment in many
countries of the world
 Thus, macroeconomics policies focus on finding solutions for high and
persistent unemployment.
 Macroeconomics also studies the factors which cause high inflation rates,
and even hyperinflation and the ways to keep inflation rates low, without
leading to a recession.
 Similarly, there has to be growth in international trade, foreign exchange
rate, foreign exchange reserves which the government needs to maintain.
Policy makers need to balance the regional growth in the economy through
fiscal policy. Manage with instruments of monetary policy for sound
economic conditions.
 Government must give a conducive environment for businesses to flourish
and at the same time take care of the welfare of the citizens too.
The Problem of Inflation- some evidences
 The inflation rate is the percentage increase in the economy’s average price
level. There isevidences in India when the inflation rate rose by more than
10 percent in 1979 and 1980.
  In Russia, prices rose by more than 20 percent, and sometimes even 30
percent in a month during 1992. The Russian economy was very unstable by
then
 In some Latin American countries, prices rose by more than 1000 percent
per year in the 1980s, which led to the hyperinflations. Rising prices become
an even more severe problem for an economy when it is paired with high
unemployment rates.
 During the period of 1970-1984, the US economy has undergone a situation
of high inflation and unemployment rates.
The Problem of economic slowdown

 We classify countries as Developed, Developing and under- developed or

less developed, depending on the pace of their economic growth.
 Why some economies grew at a higher rate than others, what are the factors
that lead to higher growth in some economies, while lower growth in others.
 How the government's investment in infrastructure and technology can give
a boost to the economic growth or is it something else. There is subjectivity
in the economic development of every nation. The macroeconomic policy
adopted by one nation may not exactly fit in for other economy
 The study of macroeconomics provides answers to these questions.
 It helps to understand the operation of a complicated modern economic
system.
Scope of Macroeconomics
 It helps you understand the operation of a complicated modern economic
system. How the aggregate output, price level and unemployment are related
in an economy.
 It analyses the forces which determine economic growth of a country and
explains how to reach the highest state of economic growth and moreover
sustain it.
 It helps bring stability in price level and analyses fluctuations in business
activities.
 It explains the factors that determine international trade, balance of payment
crises, fluctuations in exchange rates, and business cycles.
  It provides policy solutions, both fiscal and monetary policy solutions to
control Inflation/deflation and problems of unemployment, business cycles,
and low economic growth.
 Thus, macroeconomics helps us in understanding the above questions and
their answers, both theoretically as well as empirically.
 Unfortunately, there is no single or universal solution to these questions.

Macroeconomics is a typical public good?

 Public good has a unique feature of non-divisibility and non-exclusivity.
 Product is said to be non-divisible, if a unit consumption of such a product
does not diminish the quality nor the quantity available for other consumers,
for e. g., air, defense, and stabilizing the market.
 Product is said to be nonexclusive, if its lawful owner cannot enjoy it unless
he or she allows equal quality and quantity consumption to non-contributors;
e.g., a lighthouse, information from a weather satellite, the air purifying
effects of the forest.

Public Goods
 Public goods and services do not attribute to the laws of market exchange.
 Their consumption is indivisible, so their consumers don't feel the
responsibility to pay for them, and their lawful owners lack the required
control to charge for and profit from trading them.
 Similarly, stabilizing the economy is a typical public good that produces lots
of positive externalities.
 Gathering, analyzing, and distributing information which are the basis of
making macroeconomic policy is very expensive, a task no single individual
however rich can perform, leaving it to the government and thus
Macroeconomics a typical collective good.
 The effects of a stable economy are enjoyed by everyone, producers: to plan
the production, consumers: to know when to buy, when to demand wage
 increases, and this is irrespective of whether they pay the taxes, or like to
live under government.

Limitations of macroeconomics

 The main defect in macroeconomics is that it regards the aggregates as

homogeneous without being concerned about their structure or the internal
composition.
 The average wage in a particular country is the total of wages in all
occupations. But the volume of aggregate employment is dependent on the
relative structure of wages instead of the average wage. If, for instance,
wages of nurses increase but of typists fall, the average may remain
unchanged. but if the employment of nurses falls a little and of typists rises
much, aggregate employment would increase
 Aggregate economics behaviour is the sum of total individual activities. But
what is true for individuals is not necessarily true for the whole economy .
For instance, savings are a private virtue but a public voice. If total savings
in the economy increase, they may initiate a depression unless they are
invested. Again, if an individual depositor withdraws his money from the
bank there is no danger. But if all depositors do this simultaneously, there
will be a run on the banks and the banking system will be adversely affected.
 Aggregate variables may not be important necessarily. For instance, the
national income of a country is the total of all individual incomes. Increase
in national income does not mean that individual incomes have risen. Prof.
Boulding calls these problems as macroeconomic paradoxes, which are true
when applied to a single individual, but are untrue when applied to the
economic system as a whole.
Stock and Flow Variables
 Flow variables are measured per unit of time (for example, per quarter or per
year). Ex: annual GDP figures measure the economy's production per year;
Balance of payments; government budget deficit etc.
 Stock variables are measured at a certain point of time. Ex: the amount of
money in the bank account on 31 stMarch. Overall value of all houses in
India on January 1, 2020; current Government debt.
 In many applications a flow variable is the rate of change in a stock variable.
 Savings and wealth are related to each other. Wealth is measured in rupees
at a point in time and thus a stock variable. Saving is measured in rupees per
unit of time and thus a flow variable.
 Stock and flow variables are mutually dependent. So for example, the
quantities of savings people have rely heavily on frequency or the rate of
flow of deposits into their savings accounts
 The classification of economic variables into stock and flow variables is
done for the sake of convenience. Actually, it is difficult to set a clear
borderline between these two variables. Depending upon how the analysis is
done, some stock variables can be interpreted as flow variables and vice
versa.
 For instance, national income in 2018 can be interpreted as a stock variable
– as a measure at a point in time – for the year of reference even though it is
a flow variable. Also, money transforms from a stock variable to a flow
variable when it is exchanged for goods and or services.
 Ratios are neither stock nor a flow variable. We have many macroeconomic
variables in the form of ratios like Debt to GDP ratio. By convention we
cannot take one stock and other flow variable in a ratio.