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N. Gregory Mankiw N. Gregory Mankiw
PowerPoint
PowerPoint®®Slides by Ron CronovichSlides by Ron Cronovich Modified by the instructor
Modified by the instructor
MACROECONOMICS MACROECONOMICS
2011/12/6
Topic 1
Introduction:
The Science of Macroeconomics
(Chapter 1)
Instructor: Tuan Khai Vu
ICU, Winter Term 2011
Principles of Macroeconomics
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Learning objectives
Learning objectives
In this chapter, you will learn:
• about the issues macroeconomists study
• the tools macroeconomists use
• some important concepts in macroeconomic analysis
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Important issues in macroeconomics
Macroeconomics is the study of the economy as a whole. It addresses such questions as
• What causes booms and recessions?
• Can the government save the economy from recessions, and if yes, how?
• How can problems in the housing market spread to the rest of the economy?
• How did the recent financial and economic crisis originating in the US affect the rest of the world, including Japan.
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Important issues in macroeconomics
• What is the government budget deficit? How does it affect workers, consumers, businesses, and taxpayers?
• Why does the cost of living keep rising?
• Why are so many countries poor? What policies might help them grow out of poverty?
• What is the trade deficit? How does it affect the country’s well-being?
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U.S. Real GDP per capita
long-run upward trend…
Great Depression
World War II First oil price shock
Second oil price shock 9/11/2001
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U.S. Real GDP growth rate
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U.S. Inflation Rate
(unit: %)8
U.S. Unemployment Rate
(unit: %)9
Japan Real GDP per capita
0 100 200 300 400 500
1950 1960 1970 1980 1990 2000 2010
(unit: 10,000 yen)
long-run upward trend…
Source: System of National Accounts, Cabinet Office, Gov. of JP (http://www.esri.cao.go.jp)
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Japan Real GDP growth rate
-8 -4 0 4 8 12 16
1950 1960 1970 1980 1990 2000 2010
(unit: %)
http://www.esri.cao.go.jp Source: System of National Accounts, Cabinet Office, Gov. of JP ( )
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Japan Inflation Rate
(unit: %)
-20 0 20 40 60 80 100
1950 1960 1970 1980 1990 2000 2010
Source: Statistics Bureau, Ministry of Internal Affairs and Communications, JP (http://www.e-stat.go.jp)
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Japan Unemployment Rate
(unit: %)
1 2 3 4 5 6
1950 1960 1970 1980 1990 2000 2010
Source: OECD.Stat (http://stats.oecd.org/Index.aspx)
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Why learn macroeconomics?
1. The macroeconomy affects society’s well-being.
Social problems like homelessness, domestic violence, crime, and poverty are linked to the state of the economy.
2. The macroeconomy affects your well-being.
In most years, wage growth falls when unemployment is rising.
3. Macroeconomic issues are often at the core of political debates.
The macroeconomy affects election outcomes.
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Why learn macroeconomics?
Since the macroeconomy is an important part of the society we live, and we ourselves participate in it, understanding of it is desirable, if not required.
4. Learning macroeconomics, and economics in general, gives you
a chance to train yourself to think analytically and logically about human beings as well as the society.
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Economic models
…are simplified versions of a more complex
reality
– irrelevant details are stripped away
…are used to
– show relationships between variables – explain the economy’s behavior
– devise policies to improve economic performance
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Example of a model:
Supply & demand for bread
• shows how various events affect price and quantity of bread
• assumes the market is competitive: each buyer and seller is too small to affect the market price Variables
Qd = quantity of bread that buyers demand Qs = quantity that producers supply
P = price of bread
Y = aggregate income
Ps = price of wheat (an input)
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The demand for bread
demand equation: Q d = D (P,Y )
• shows that the quantity of bread consumers demand is related to the price of bread and aggregate income
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Digression: functional notation
• General functional notation
shows only that the variables are related. Q d = D(P,Y )
• A specific functional form shows the precise quantitative relationship.
– Example:
D (P,Y ) = 60 – 10P + 2Y
A list of the variables that affect Q d
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The market for bread: Demand
Q
Quantity of bread
P
Price of bread
D
The demand curve shows the relationship between quantity
demanded and price, other things equal. demand equation:
Qd = D (P,Y )
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The market for bread: Supply
Q
Quantity of bread
P
Price of bread
D S
The supply curve
shows the relationship between quantity
supplied and price, other things equal. supply equation:
Qs = S(P,PS )
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The market for bread: Equilibrium
Q
Quantity of bread
P
Price
of bread S
D equilibrium
price
equilibrium quantity
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The effects of an increase in income
Q
Quantity of bread
P
Price
of bread S
D1 Q1
P1 An increase in income
increases the quantity of bread consumers
demand at each price…
…which increases the equilibrium price and quantity.
P2
Q2
D2
demand equation: Qd = D (P,Y )
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The effects of a steel price increase
Q
Quantity of bread
P
Price
of bread S1
D Q1
P1 An increase in Ps
reduces the quantity of bread producers supply at each price…
…which increases the market price and
reduces the quantity.
P2
Q2
S2
supply equation: Qs = S(P,PS )
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Endogenous vs. exogenous variables
• The values of endogenous variables are determined inside the model.
• The values of exogenous variables are determined outside the model:
the model takes their values & behavior as given.
• In the model of supply & demand for bread, endogenous: P, Qd, Qs
exogenous: Y, Ps
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The use of multiple models
• No one model can address all the issues we care about.
• E.g., a supply-demand model of the U.S. bread market…
– can tell us how a fall in aggregate U.S. income affects price & quantity of bread. – cannot tell us why aggregate income falls.
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The use of multiple models
• So we will learn different models for studying different issues (e.g., unemployment, inflation, long-run growth).
• For each new model, you should keep track of – its assumptions
– which variables are endogenous, which are exogenous
– the questions it can help us understand, those it cannot
– The mechanisms be hind the results predicted
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Prices: flexible vs. sticky
• Market clearing: An assumption that prices are flexible, adjust to equate supply and demand.
• In the short run, many prices are sticky – adjust sluggishly in response to changes in supply or demand. For example:
– many labor contracts fix the nominal wage for a year or longer
– many magazine publishers change prices only once every 3-4 years
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Prices: flexible vs. sticky
• The economy’s behavior depends partly on whether prices are sticky or flexible:
– If prices sticky (short run),
demand may not equal supply, which explains:
• unemployment (excess supply of labor)
• why firms cannot always sell all the goods they produce
– If prices flexible (long run), markets clear and economy behaves very differently
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Outline of the book and of the course
• Introductory material (Chaps. 1 & 2)
• Classical Theory (Chaps. 3-6)
How the economy works in the long run, when prices are flexible
• Growth Theory (Chaps. 7-8)
The standard of living and its growth rate over the very long run
• Business Cycle Theory (Chaps. 9-14)
How the economy works in the short run, when prices are sticky
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Outline of the book and of the course
• Policy debates (Chaps. 15-16)
Should the government try to smooth business cycle fluctuations? Is the government’s debt a problem?
And if time permits we will learn
• Microeconomic foundations (Chaps. 17-19) Insights from looking at the behavior of
consumers, firms, and other issues from a microeconomic perspective
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Chapter Summary
Chapter Summary
• Macroeconomics is the study of the economy as a whole, including
– growth in incomes
– changes in the overall level of prices – the unemployment rate
• Macroeconomists attempt to explain the
economy and to devise policies to improve its performance.
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Chapter Summary
Chapter Summary
• Economists use different models to examine different issues.
• Models with flexible prices describe the
economy in the long run; models with sticky prices describe the economy in the short run.
• Macroeconomic events and performance arise from many microeconomic transactions, so
macroeconomics uses many of the tools of microeconomics.
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More: How economists think of the
economy
• The economy is a system
It is composed by many parts (agents, markets etc) which interact with one another, and at the same time react to exogenous forces hitting from outside.
• It is a dynamic system
Interactions and reactions within the economy often occur over time.
exogenous forces
The economy as a system
intera ction
s
intera
ctions interactions
These points will be clear later,
