21 the realm of macroeconomics where the telescope ends, the microscope begins. which of the two has...

21

The Realm of Macroeconomics

Where the telescope ends, the microscope begins.

Which of the two has the grander view?VICTOR HUGO

● Drawing a Line Between Macroeconomics and Microeconomics

● Supply and Demand in Macroeconomics

● Gross Domestic Product

● The Economy on a Roller Coaster

● The Problem of Macroeconomic Stabilization: A Sneak Preview

● Drawing a Line Between Macroeconomics and Microeconomics

● Supply and Demand in Macroeconomics

● Gross Domestic Product

● The Economy on a Roller Coaster

● The Problem of Macroeconomic Stabilization: A Sneak Preview

ContentsContents

Copyright © 2003 South-Western/Thomson Learning. All rights reserved.

Copyright© 2003 Southwestern/Thomson Learning All rights reserved.

Drawing a Line Between Macro and MicroeconomicsDrawing a Line Between Macro and Microeconomics

● In macroeconomics, we typically assume that most details of resource allocation and income distribution are of secondary importance to the study of the overall rates of inflation and unemployment.

● In macroeconomics, we typically assume that most details of resource allocation and income distribution are of secondary importance to the study of the overall rates of inflation and unemployment.



● Aggregation and Macroeconomics♦ An economic aggregate is nothing but an

abstraction that people use to describe some important feature of economic life, such as total domestic product.

● Aggregation and Macroeconomics♦ An economic aggregate is nothing but an

abstraction that people use to describe some important feature of economic life, such as total domestic product.



● The Foundations of Aggregation♦ The composition of demand and supply in

various markets is of little consequence for the economy-wide issues of growth, inflation, and unemployment.

♦ During economic fluctuations, markets tend to move up or down together.

● The Foundations of Aggregation♦ The composition of demand and supply in

various markets is of little consequence for the economy-wide issues of growth, inflation, and unemployment.

♦ During economic fluctuations, markets tend to move up or down together.


Supply and Demand in MacroeconomicsSupply and Demand in Macroeconomics

● Moving to Macroeconomic Aggregates♦ Aggregate supply and aggregate demand relate

domestic product (on the horizontal axis) to the price level (on the vertical axis).

● Moving to Macroeconomic Aggregates♦ Aggregate supply and aggregate demand relate

domestic product (on the horizontal axis) to the price level (on the vertical axis).

FIGURE 21-1 Two Interpretations of a Shift in the Demand Curve

FIGURE 21-1 Two Interpretations of a Shift in the Demand Curve


Q0

Pri

ce

P0

D1

A

S

D

D

S

E

Quantity(a)

Pri

ce

P0

S

D

D

S

E

Quantity(a)

D1

FIGURE 21-2 An Economy Slipping into a Recession

FIGURE 21-2 An Economy Slipping into a Recession


D2

B

Pri

ce L

evel

S

D0

D0

S

E

Domestic Product

D2

FIGURE 21-3 Economic GrowthFIGURE 21-3 Economic Growth


D1

C

Pri

ce L

evel

S0

D0

D0

S0

E

Domestic Product

D1

S1

S1

Q0 Q1



● Moving to Macroeconomic Aggregates♦ Aggregate demand (AD) = quantity of

domestic product that is demanded at each possible price level

♦ Aggregate supply (AS) = quantity of domestic product that is supplied at each possible price level

● Moving to Macroeconomic Aggregates♦ Aggregate demand (AD) = quantity of

domestic product that is demanded at each possible price level

♦ Aggregate supply (AS) = quantity of domestic product that is supplied at each possible price level


● Inflation♦ Major concerns of macroeconomics

■Inflation■Unemployment■Growth

AD price level

● Inflation♦ Major concerns of macroeconomics

■Inflation■Unemployment■Growth

AD price level



● Recession and Unemployment AD unemployment

♦ Recession = a period of time during which production falls and people lose jobs

● Recession and Unemployment AD unemployment

♦ Recession = a period of time during which production falls and people lose jobs



● Economic Growth♦ Economic growth = GDP AD and/or AS growth

● Economic Growth♦ Economic growth = GDP AD and/or AS growth



● Money as the Measuring Rod: Real Versus Nominal GDP♦ GDP = sum of the money values of all final

goods and services produced in the domestic economy within the year

♦ Nominal GDP (GDP in current dollars) values each good and service at the price at which it was actually sold during the year.

● Money as the Measuring Rod: Real Versus Nominal GDP♦ GDP = sum of the money values of all final

goods and services produced in the domestic economy within the year

♦ Nominal GDP (GDP in current dollars) values each good and service at the price at which it was actually sold during the year.

Gross Domestic ProductGross Domestic Product


♦ Drawback of Nominal GDP: it changes when prices change even if there is no change in actual production.

♦ Solution: calculate real GDP or GDP in constant dollars.

♦ Distinction between Nominal and Real GDP a working definition of a recession as a period in which real GDP declines

♦ Drawback of Nominal GDP: it changes when prices change even if there is no change in actual production.

♦ Solution: calculate real GDP or GDP in constant dollars.

♦ Distinction between Nominal and Real GDP a working definition of a recession as a period in which real GDP declines




● What Gets Counted in GDP?♦ Only goods and services produced within the

year

♦ Only final goods and services

♦ Only production within the geographic boundaries of the United States

● What Gets Counted in GDP?♦ Only goods and services produced within the

year

♦ Only final goods and services

♦ Only production within the geographic boundaries of the United States


● Limitations of the GDP: What GDP Is Not♦ Includes only market activities

♦ Places no value on leisure

♦ Counts “bads” as well as “goods”

♦ Does not deduct ecological costs of economic activity

● Limitations of the GDP: What GDP Is Not♦ Includes only market activities

♦ Places no value on leisure

♦ Counts “bads” as well as “goods”

♦ Does not deduct ecological costs of economic activity



The Economy on a Roller CoasterThe Economy on a Roller Coaster

● Growth, but with Fluctuations♦ The U.S. has seen significant fluctuations in

economic growth, unemployment, and inflation.

♦ Before WWII, the business cycle was particularly strong, the worst episode being the Great Depression of the 1930s.

● Growth, but with Fluctuations♦ The U.S. has seen significant fluctuations in

economic growth, unemployment, and inflation.

♦ Before WWII, the business cycle was particularly strong, the worst episode being the Great Depression of the 1930s.

FIGURE 21-4 Nominal GDP, Real GDP, and Real GDP per Capita

FIGURE 21-4 Nominal GDP, Real GDP, and Real GDP per Capita


1955 1960 1965 1970 1975 1980 1985 1990 2000 1995 Year

Nominal GDP (right scale)

Bill

ion

s o

f

Do

llars

per

Yea

r

$10,000

$9,000

7,000

5,000

3,000

8,000

6,000

4,000

1,000

2,000

0

Per-capita real GDP (left scale)

Do

llars

per

Yea

r

$35,000

25,000

15,000

Real GDP (right scale)

30,000

20,000

5,000

10,000

0

FIGURE 21-5 The Growth Rate of U.S. Real GDP, 1870-2001

FIGURE 21-5 The Growth Rate of U.S. Real GDP, 1870-2001


Boom of 1990s

Expansion of 1980s

1990–91 Recession

Roaring Twenties

1982–83 Recession

1974–75 Recession

Expansion of 1960s

Korean War

World War II

World War I

Postwar recession Great

Depression

Postwar depression

Panic of 1907

Depression of 1890s

Railroad prosperity

Rapid industrialization

Per

cen

tag

e G

row

th R

ate

of

Rea

l GD

P

0

Year

2000 1990 1980 1970 1960 1950 1940 1930 1920 1910 1900 1890 1880 1870

20

15

10

5

–5

–10

–15

–20

Pre–1940

Post–1950



● The Great Depression♦ A worldwide event

♦ Caused a much-needed revolution in economic thinking

♦ Until the 1930s, the prevailing economic theory held that a capitalist economy could cure recessions or inflations by itself.

● The Great Depression♦ A worldwide event

♦ Caused a much-needed revolution in economic thinking

♦ Until the 1930s, the prevailing economic theory held that a capitalist economy could cure recessions or inflations by itself.



● The Great Depression♦ The Great Depression led John Maynard

Keynes, one of the world’s most renowned economists, to write The General Theory of Employment, Interest, and Money (1936).

● The Great Depression♦ The Great Depression led John Maynard

Keynes, one of the world’s most renowned economists, to write The General Theory of Employment, Interest, and Money (1936).



● The Great Depression♦ Keynes believed that:

■The economy did not naturally gravitate toward smooth growth and high levels of employment

■A pessimistic outlook could lead business firms and consumers to curtail their spending plans

■The economy could then be condemned to years of stagnation

● The Great Depression♦ Keynes believed that:

■The economy did not naturally gravitate toward smooth growth and high levels of employment

■A pessimistic outlook could lead business firms and consumers to curtail their spending plans

■The economy could then be condemned to years of stagnation



● The Great Depression♦ In terms of the AD-AS framework, Keynes

suggested that there were times when the AD curve shifted inward by large amounts.

♦ The consequence would be declining output and deflation.

● The Great Depression♦ In terms of the AD-AS framework, Keynes

suggested that there were times when the AD curve shifted inward by large amounts.

♦ The consequence would be declining output and deflation.


● The Great Depression♦ Keynes showed how governments can manage

their economies so that recessions will not turn into depressions and depressions will not last as long as the Great Depression.

● The Great Depression♦ Keynes showed how governments can manage

their economies so that recessions will not turn into depressions and depressions will not last as long as the Great Depression.




● From World War II to 1973♦ During this period, the economy experienced

some fairly mild business cycles, but grew considerably.

♦ By the end of the period, inflation was rising.

● From World War II to 1973♦ During this period, the economy experienced

some fairly mild business cycles, but grew considerably.

♦ By the end of the period, inflation was rising.



● The Great Stagflation, 1973-1980♦ The international price of oil was raised

sharply in 1973 and again in 1979.

♦ For that reason and some others, the period saw the emergence of stagflation, both unemployment and inflation increasing together.

● The Great Stagflation, 1973-1980♦ The international price of oil was raised

sharply in 1973 and again in 1979.

♦ For that reason and some others, the period saw the emergence of stagflation, both unemployment and inflation increasing together.

FIGURE 21-6 The Inflation Rate in the United States, 1870-2001

FIGURE 21-6 The Inflation Rate in the United States, 1870-2001


Disinflation of the 1980s

Vietnam War inflation

Inflation of the 1970s

Postwar adjustment

World War II World

War I

Great Depression

Post-Civil War deflation

Postwar deflation

–5

Year

Per

cen

tag

e In

flat

ion

Rat

e

2000 1990 1980 1970 1960 1950 1940 1930 1920 1910 1900 1890 1880 1870

25

20

15

10

5

0

–10

–15

Pre–1940

Post–1950



● Reaganomics and its Aftermath♦ When Reagan assumed office in 1981, the

economy went into a sharp tailspin, and soon the rate of inflation fell.

♦ This was followed by a period of steady, non-inflationary growth during most of the 1980s. In 1990-91, recession hit.

● Reaganomics and its Aftermath♦ When Reagan assumed office in 1981, the

economy went into a sharp tailspin, and soon the rate of inflation fell.

♦ This was followed by a period of steady, non-inflationary growth during most of the 1980s. In 1990-91, recession hit.



● Clintonomics: Deficit Reduction and “The Best Economy in 30 Years”♦ Clinton’s initial objectives were spurring

growth and increasing public investment.

♦ Soon, however, the overriding goal in Washington became deficit reduction.

● Clintonomics: Deficit Reduction and “The Best Economy in 30 Years”♦ Clinton’s initial objectives were spurring

growth and increasing public investment.

♦ Soon, however, the overriding goal in Washington became deficit reduction.



● Clintonomics: Deficit Reduction and “The Best Economy in 30 Years”♦ A variety of transitory factors pushed the

economy’s AS curve outward at an unusually rapid pace between 1996 and 1999.

♦ Strong economic growth continued through the late 1990s.

♦ Inflation remained low.

● Clintonomics: Deficit Reduction and “The Best Economy in 30 Years”♦ A variety of transitory factors pushed the

economy’s AS curve outward at an unusually rapid pace between 1996 and 1999.

♦ Strong economic growth continued through the late 1990s.

♦ Inflation remained low.



● The First Year of the Bush Economy♦ Real GDP grew very slowly then declined

slightly in 2nd half of 2001■1st recession in 10 years

● The First Year of the Bush Economy♦ Real GDP grew very slowly then declined

slightly in 2nd half of 2001■1st recession in 10 years



● The First Year of the Bush Economy♦ Policies that helped shift AD curve, mitigating

recession■tax cut of 2001■war of terrorism, burst of government spending■consumers spending remained strong, despite Sept

11

♦ As of 2002, debate rages over whether recession already over

● The First Year of the Bush Economy♦ Policies that helped shift AD curve, mitigating

recession■tax cut of 2001■war of terrorism, burst of government spending■consumers spending remained strong, despite Sept

11

♦ As of 2002, debate rages over whether recession already over

FIGURE 21-7 The Effects of an Adverse Supply Shift

FIGURE 21-7 The Effects of an Adverse Supply Shift


S1

S1 D

D S0

S0

Pri

ce L

evel

Real GDP

A

E

FIGURE 21-8 The Effects of a Favorable Supply Shift

FIGURE 21-8 The Effects of a Favorable Supply Shift


Real GDP

Pri

ce L

evel

D0

D0

S0

S0

S1

S1

D1

D1

S2

S2

C

B E


● Combating Unemployment♦ When recessions are caused by too low

aggregate demand, governments can try to stimulate demand.

● Combating Unemployment♦ When recessions are caused by too low

aggregate demand, governments can try to stimulate demand.

The Problem of Macroeconomic StabilizationThe Problem of Macroeconomic Stabilization

FIGURE 21-9 Stabilization Policy to Fight Unemployment

FIGURE 21-9 Stabilization Policy to Fight Unemployment


Increase in output

Pri

ce

Le

ve

l

Real GDP

S

S D0

D0

E

D1

D1

A


● Combating Inflation♦ When inflation is caused by too high aggregate

demand, governments can try to restrain aggregate demand.

● Combating Inflation♦ When inflation is caused by too high aggregate

demand, governments can try to restrain aggregate demand.


FIGURE 21-10 Stabilization Policy to Fight Inflation

FIGURE 21-10 Stabilization Policy to Fight Inflation


Decrease in prices

Pri

ce L

evel

Real GDP

S

S

D0

D0

E

D2

D2

B



● Does It Really Work?♦ Before 1940, the economy endured

pronounced business fluctuations and inflation was rare.

♦ Since World War II the business fluctuations have been much less severe, but inflation has been a common occurrence.

♦ How successful government policy can be is a question to be explored throughout the text.

● Does It Really Work?♦ Before 1940, the economy endured

pronounced business fluctuations and inflation was rare.

♦ Since World War II the business fluctuations have been much less severe, but inflation has been a common occurrence.

♦ How successful government policy can be is a question to be explored throughout the text.

21 the realm of macroeconomics where the telescope ends, the microscope begins. which of the two has...

Documents

aggregate demand

s d d s e quantity

total domestic product

microeconomics supply

realm of macroeconomics

economic growth copyright

demand curve copyright

southwesternthomson