Lecture 1 Definition And Scope Of Macro Economics PDF

DEFINITION AND SCOPE OF MACRO ECONOMICS: Macroeconomics is the branch of economics that studies the entire economy. A Little History The modern study of macroeconomics can trace its origins to John Maynard Keynes and his book, The General Theory, which was published in 1936 dur...

DEFINITION AND SCOPE OF MACRO ECONOMICS: Macroeconomics is the branch of economics that studies the entire economy. A Little History The modern study of macroeconomics can trace its origins to John Maynard Keynes and his book, The General Theory, which was published in 1936 during the Great Depression. In contrast to the microeconomic theories that pervaded economic thought at the time, Keynes demonstrated that the macro-economy operated according to a set of principles that are not particularly relevant for microeconomic analysis. What is Macroeconomics? The term 'Macro' means large. Macroeconomics looks at the economy as a whole. It examines the factors that determine national output and its growth overtime. It studies the economic aggregates such as the overall level of prices, output and employment in the economy. Therefore, Macroeconomics is the study of the economy as a whole. According to R. G. D. Allen - the term macroeconomics applies to the study of relations between broad economic aggregates such as total employment, income and production". In the words of Edward Shapiro, the major task of macroeconomics is the explanation of what determines the economy's aggregate output of goods and services. It deals with the functioning of the economy as a whole". Professor K. E. Boudling is of the view that macroeconomics is that part of economics which studies the overall averages and aggregates of the economic system. It does not deal with individual incomes but with the I national income, not with individual prices but with the price level, not with individual output, but with national output". Macroeconomics also focuses on the economic behaviour and policies that affect consumption and investment, the naira and trade balance, the determinants of changes in wages and prices, monetary and fiscal policies, the money stock, the federal budget, interest rates and the national debt. Summarily, we can say that macroeconomics deals with the major economic issues and problems and tries to answer questions such as: i. Why are so many countries poor? What policies might help them grow out of poverty? ii. Why are millions of people unemployed and what are the factors inducing Unemployment? iii. How can the problem of inequality and extreme poverty be resolved? iv. Why does the cost of living keep rising? v. Why have some countries experienced rapid growth in incomes while others are stuck in poverty? vi. Why do some countries have high rates of inflation while others maintain stable prices? vii. Why do all countries experience recessions and depressions—recurrent periods of falling incomes and rising unemployment—and 1  viii. How can government policy reduce the frequency and severity of these episodes? To properly understand macroeconomics is to understand the types of issues macroeconomics deals with. Macroeconomics deals with the whole economic system like national income, total savings and investment, total employment, total or aggregate demand and supply, general price level etc. It also explains how these aggregates are determined, what causes fluctuations in them and how to reduce or control the fluctuations to ensure their maximum level in the economy. Therefore, the job of explaining the workings of the economy as a whole fall on macroeconomists who collect data on incomes, prices, unemployment, and many other variables from different time periods and different countries and then attempt to formulate general theories to explain these data. Usually when macroeconomist study the economy, they look out for 3 key variables: a. Output: the level of production in the economy as a whole and its rate of growth b. Inflation: the rate at which the average price level in the economy is increasing overtime. c. Unemployment rate: the proportion of workers in the economy who are not employed and are looking for a job. Macroeconomists study how these variables are determined, why they change over time, and how they interact with one another. This helps to explain the general functioning of the economy because: 1. The macroeconomy affects society’s well-being: When the economy is booming, general standard of living will be high and vice versa. 2. The macroeconomy affects your well-being: Macroeconomics helps students understand forces that will affect their financial well-being. Here’s an example. When the unemployment rate is rising, tens or hundreds of thousands of people are losing their jobs. This affects even those who don’t lose their jobs. Rising unemployment is associated with falling (and often negative) wage growth. So when the economy goes into recession, even if some workers get to keep their jobs, they will find it much harder to get a raise, and may have to accept a real wage cut. Also, when unemployment is rising, the supply of workers is rising faster than demand, so wages grow more slowly or even fall. Conversely, falling unemployment gives workers more bargaining power over wages, as it becomes increasingly hard for employers to replace their workers, and increasingly easy for workers to find good opportunities with other companies. 3. The macroeconomy affects politics: The state of the economy has a huge impact on election outcomes. When the economy is doing poorly, there will be the tendency for people to demand for a change in governance and which party controls Aso Rock. 2 Thus, macroeconomics is also known as the Theory of Income and Employment since its subject matter revolves around the determination of the level of income and employment in an economy. It is often described as Keynesianism since its introduction is often associated with J. M. Keynes, an English economist, at the wake of the Great Depression of the 1930s. It is also described as a Policy Science and as a public good (because the outcome of macroeconomics benefits everyone in the economy at no particular cost). Why the study of Macroeconomics is important. 1. Self-interest: As individuals we are able to better understand the workings of the whole economy. This makes us better participants in the economy. 2. Cultural Literacy: It enables us understand the likely implications of macro issues such as inflation, unemployment etc. thus making us more astute decision makers. 3. Common welfare: As future or prospective leaders, the knowledge of macroeconomics provides the necessary tools for the development of policies that will improve the general wellbeing of the people. 4. Civic responsibility: It is essential for us to understand policy issues and the implications of the different forms of policies adopted in the country. Macroeconomic Sectors The four aggregate sectors of the macro economy are i. household, ii. business, iii. government, and iv. foreign— These sectors are responsible for the four expenditures on gross domestic product (GDP). They are the primary "actors" on the macroeconomic stage. Macroeconomic theories explain macroeconomic phenomena by exploring the interaction among these four sectors. Importance of Macroeconomics Macroeconomics is important for several reasons. 1. It helps us understand the functioning of a complex modern economic system. Macroeconomics gives us a clue on how the economy functions on a whole and how the level of national income and employment is determined on the basis of aggregate demand and aggregate supply. 3 2. It analyses the forces which determine economic growth of a country. Understanding the macroeconomic problems gives a cue on how to reach the highest state of economic growth and sustain it. 3. Macroeconomics helps in suggesting policy measures to control inflation and deflation. Thus it proffers solutions to macroeconomic problems. 4. It explains factors affecting balance of payment. It also identifies causes of deficit in balance of payment. and suggests measures for achieving the same. 5. Its knowledge helps to solve economic problems like poverty, unemployment, inflation, deflation etc. The solution for such macroeconomic problem is possible at macro level only. 6. Better understanding of the macroeconomics of the country helps to formulate correct economic policies and also coordinate with international economic policies 7. It helps in understanding the determination of income and employment. Late J.M. Keynes laid great stress on macroeconomic analysis. He explained the forces or factors which determine the level of aggregate employment and output in the economy. 8. Macroeconomic analysis answers questions as to how the general price level is determined and what is the importance of various factors which influence general price level 9. Macroeconomic models help us to formulate economic policies for achieving long run economic growth with stability. The new developed growth theories explain the causes of poverty in under developed countries and suggest remedies to overcome them. 10. Macroeconomic policies. Fiscal and monetary policies affect the performance of the economy. These two major types of macr0economic policies are central in macroeconomic analysis of the economy. 11. Another important subject of macroeconomics is to analyze the various aspects of international trade in goods, services and balance of payment problems, the effect of exchange rate on balance of payment etc. 12. In macroeconomic analysis, it is emphasized that a nation's economy is a part of a global economic system. A good or weak performance of a nation's economy can affect the performance of the world economy as a whole. 4