professor cotton spring 2009 economics 212 introductory macroeconomics 1

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Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

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Page 1: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Professor CottonSpring 2009

Economics 212Introductory Macroeconomics

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Page 2: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

What do economists study?Are NBA referees biased in favor of athletes of

their own race? How does going to college affect your lifetime

earnings?Which government policies effectively decrease

smoking or obesity? What do interest groups buy with political

contributions?Why are some countries rich and some countries

poor? What’s the best way to increase employment or

fight a recession?

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Page 3: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

What do economists do?Apply rigorous logical and mathematical

techniques to formally and carefully analyze problems

Economic Theorists develop modelsA simple model can help us better understand an

issueFocusing on only the most important aspects of a

problem, allows us to develop the greatest intuition

Empirical Economists test the modelsUse statistical techniques to test the modelsEconometrics

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Page 4: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Most economics questions fit in 1 of 2 categories:

MICROeconomics MACROeconomicsIndividual behavior

(e.g., firms, people, households)

How many employees will GM lay off?

What characteristics determine if Joe goes to college?

Joe’s income or GM profit

How much of the “pie” do you get?

Aggregate or average behavior (e.g., country)

Total unemployment in the economy?

What policies determine the average level of education?

Gross Domestic Product

How big is the entire “pie”? How do we make it bigger?4

Page 5: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

MacroeconomicsDeals with the classic issues in economics:UnemploymentInflationNational Output & National IncomePopulation GrowthEconomic GrowthBond PricesMoney & Banking

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Page 6: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Which questions are Macro?Are NBA referees biased in favor of athletes of

their own race? How does going to college affect your lifetime

earnings?Which government policies effectively decrease

smoking or obesity? What do interest groups buy with political

contributions?Why are some countries rich and some countries

poor? What’s the best way to increase employment or

fight a recession?

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Page 7: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Consider Econ if you’re interested in:Business including Marketing and FinanceGovernment / Political ScienceLawInternational studiesSociology PsychologyStatistics / Applied Mathematics

Some books to read, if interested: The Logic of Life by Tim HartfordFreakonomics by Steven Levitt and Stephen

DubnerSuper Crunchers by Ian Ayres

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Page 8: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

About MeProf. Christopher CottonPh.D. from Cornell University in 2008B.A. in Economic from Michigan State in 2001Worked as a consultant between undergrad and

grad school

My research is in Microeconomics, not MacroWhy did I want to teach Intro Macro?

The material is essential for understanding current events

The first macro class that I took as an undergraduate student…

I will ignore some of the things typically covered in intro economics and focus on the topics that will help you carry on a conversation about the current state of the US economy8

Page 9: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

What you needA copy of the Case and Fair textbook

Buy a USED copy, it doesn’t even have to be the most current edition (look for edition 7 or 8, edition 6 will work in a pinch)

You must be willing to keep up on the material. It is challenging, and the lectures will help but only if you understand the material from the previous lecture.

Good skills in Algebra, and the ability to draw and interpret graphs given data.

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Page 10: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Topic 1: Basic Economic Principals

Law of Diminishing ReturnsProduction Possibilities FrontierSupply and Demand

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Page 11: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Factors of Production• Factors of production are the inputs used

to create outputs (goods and services) for consumption

1. Natural Resources2. Labor3. Capital Goods (Produced Means of

Production)

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Page 12: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

What if we increase all of the factors of production by the same amount?Question:

Suppose 2 farmers working 4 acres of land with 1 tractor and 1 bag of seeds can produce 1 ton of corn.

Then how many tons of corn can be produced by 4 equally competent farmers working 8 equally productive acres of land with 2 tractors and 2 bags of seeds?

Answer:

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Page 13: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

What if we increase only one of the factors of production? Example 1Question:

Suppose 2 farmers working 4 acres of land with 1 tractor and 1 bag of seeds can produce 1 ton of corn.

Then how many tons of corn can be produced by 4 equally competent farmers working 4 acres of land with 1 tractors and 1 bags of seeds?

Answer:

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Page 14: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

What if we increase only one of the factors of production? Example 2Question:

Suppose 2 farmers working 4 acres of land with 1 tractor and 1 bag of seeds can produce 1 ton of corn.

Then how many tons of corn can be produced by 200 equally competent farmers working 4 acres of land with 1 tractors and 1 bags of seeds?

Answer:

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Page 15: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Law of Diminishing ReturnsIf one factor of production is increased, while

the other factors of production remain unchanged, then eventually, the marginal increase in output from an additional unit of input will be lower than the marginal increase in production from the previous unit of input.

e.g., the benefit of adding the 101st worker is less than the benefit of adding the 100th worker. (Assuming the other factors of production are fixed.)

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Page 16: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Law of Diminishing ReturnsGraph:

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Page 17: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

A scary interpretationThomas Malthus (1798): food production

and population growth

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Page 18: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Malthusian Theory of Pop GrowthThe world cannot support a population

above a certain levelTherefore, world population will be kept in

line through “positive” and “preventative” checks.

Positive checks – Increase the death rate

Preventative checks – Decrease the birth rate

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Page 19: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

World Population – graph itYear Population

10,000 BC 1 million

950 AD 250 million

1600 500 million

1804 1 billion

1927 2 billion

1961 3 billion

1974 4 billion

1987 5 billion

2000 6 billion

2011 7 billion

Note that data and graph are from Wikipedia’s entry on World Population. Just because I use Wikipedia for lecture data, does not mean you should use it as a main source for your papers. However, you should always give credit to your sources, even if it is Wikipedia.

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Page 20: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

World Population – graph it

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Page 21: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

So, what happened?What didn’t Malthus account for?

What happened around the major kink in the graph?

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Page 22: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Another example – US OutputYear Total

Output ($ billions)

Population (millions)

1935 73 127

1950 295 152

1965 719 194

1980 2,784 227

1995 7,265 263

Total output is US Gross Domestic Product, as provided by the BEA. Population figures come from the US Census

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Page 23: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Important Questions:

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Page 24: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Production Possibilities Frontier (PPF)Definition: the maximum level of production in

an economy, given its factors of productionGraph an example for an economy that can

only produce 2 goods (e.g., guns & butter)

If the economy is producing along its PPF, it cannot produce more of one good without giving up some production of another good.

If the economy is inside its PPF, it can do better

Can’t be outside of the PPF24

Page 25: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Royal Colony of South Carolina, 1750You’re the “economic” advisor. Suppose you

have 1000 workers with equal sized farms spread across the colony. Your workers can either farm rice or corn.

If you put all of your inputs into corn production, then you produce 10,000 bushels of corn

If you put all of your inputs into rice production, then you produce 3,000 bushels of rice

What happens if you devote 900 workers and 900 acres to corn production, and the rest to rice production?

What about a 50-50 split?

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Page 26: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Opportunity costsDefinition: The best alternative we forgo, or

give up, when making a decision.

Illustrated by movement along a PPFWhat is the opportunity cost of producing

100 bushels of corn? What is the opportunity cost of producing

100 additional bushels of corn?

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Page 27: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

What happens to the PPF when…A fleet of ships land on the shore with 500 new

farmers looking to settle in South Carolina?Someone invents a more efficient plow?Rice production technology improves?Disease kills off 500 farmers?A hurricane increases flooding throughout the

colony?The royal governor outlaws corn production?Coastal farmers go on strike, refusing to work?

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Page 28: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Where on the PPF?To be on the PPF, need “full employment” of

factors of production.Much of macroeconomics policy is trying to get

production as close to the PPF as possible.

But at which point on the graph does production take place?Depends on what people want or needCommand Economy (government decides,

central planner)Market Economy (individuals decide own actions)

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Page 29: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Supply and Demand, introKey model for analyzing the market economy

Supply– How much of a good or service firms are willing to supply at different prices

Demand– How much of a good or service individuals want to buy at different prices

Equilibrium (“market-clearing”) Price– The price at which the number of goods supplied equals the number of goods demanded.

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Page 30: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Example: Demand for BourbonIndividual Demand for Bourbon

Barak ObamaJohn McCainHillary ClintonMitt Romney

Demand for BourbonSum of individual demand

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Page 31: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Example: Supply for BourbonCalculated in the same fashion

Individual Supply of BourbonJack’s distilleryJim’s distillery

Supply of BourbonSum over all distilleries

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Page 32: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Example: Market for BourbonBring supply and demand together

Equilibrium Price and Quantity

Reality: How do we interview all buyers and sellers?We don’t. Although there are ways to estimate

supply and demand It’s a model that helps us better understand

market interactions

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Page 33: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

The Invisible HandThe “invisible hand”

If the price is above the equilibrium price…If the price is below the equilibrium price…

Price CeilingsRent in NYCGas during crisis

Price FloorsFarm price supports

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Page 34: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Elasticity

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Demand for cigarettesDemand for hamDemand for gasolineDemand for apple juiceSupply for apples

What determines the shape?

Page 35: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Shifts in supply and demand

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Market for CokePrice of Pepsi increases (substitute)Price of pizza decreases (complement)New health reports show it’s bad for youSugar increases in priceTrade reform make it easier to import soda from

MexicoGovernment sends stimulus check to all citizens

Hot dog market when bun price increasesMiller Beer market when Bud price increasesSport coat market when UM requires them in

classMilk market when price of hay increases

Page 36: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Shifts in supply and demand

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Shifts in demandComplement or substitute price changeShifts in tasteShifts in income

Shifts in supplyInput price changeChange in technology

Page 37: Professor Cotton Spring 2009 Economics 212 Introductory Macroeconomics 1

Labor Market

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Supply is made up of individual workersDemand is from firms and organizations

(counterintuitive?)

Minimum wage laws