Macroecos - Definition, scope, trade cycles, national income concepts

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Lesson briefly describing features of Macro Ecos, trade cycles and national income concepts.

Lesson briefly describing features of Macro Ecos, trade cycles and national income concepts.

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  • 1. Prof. Prabha Panth,Osmania University
  • 2. Definition of Macroeconomics• Macroeconomics is the study of the Aggregate Economy.• It studies the behaviour of the economy as a whole and• The policy measures that the government uses to influence it.• Based on Normative Economics – to correct imbalances and disequilibrium situations.• Macro economics includes the analysis of growth of total output, income, employment, inflation, fiscal measures, banking, and trade. 2 P. Panth
  • 3. • Examines the economy in the short and long run, Short run: movements in the business cycle Long run: economic growth• Macroeconomics and Microeconomics: – Macro examines the aggregate economy, national income, inflation, recession, growth. – Microeconomics examines the behaviour of individual economic units and the determination of prices in individual markets P. Panth 3
  • 4. Components of Macro Economic system1. Households: or consumers – provide the demand, and supply the factors of production to firms. Factors include: Land, Labour, Capital and Organisation (Entrepreneurs).2. Firms: or producers – produce and supply the final products to other sectors in the economy. They use the factors of production in their firms.3. Government: includes government investment, subsidies, taxes, monetary, fiscal and trade policies.4. Trade: or External Sector. Export goods and services from said economy, and imports goods and services from Rest of the World. P. Panth 4
  • 5. Circular Flow• Assuming a closed economy (no international trade), the macro system shows the flow of goods, services and incomes from one sector to another.• The physical flows are matched by money flows in the opposite direction.• All sectors balance out – i.e. Income of one sector = expenditure of another sector. P. Panth 5
  • 6. Two sectorCircular Flow Factors of production Model HH Firms’ Income Factor payment: Expenditure Wages, rent, intere st and profits Households Firms Product payment HH Firms’ Expenditure Income Final products P. Panth 6
  • 7. Five sector circular flows• The two sector flow model shows that Y = C.• Actually all Y is not consumed, some of it is saved,• This constitutes a “leakage” out of the Y stream• Similarly, investment is an input from outside, it is an “injection” in the Y stream.• Also there are other sectors in the economy: the government, the foreign sector, and the financial sector.• These can be included in a Five sector circular flow diagram, showing an “Open Economy” i.e. with international trade. P. Panth 7
  • 8. 1.Households Firms pay HHs taxes, Gov save, bo buys from rrow firms 5. Financial 2.Firms4. Government Sector Firms Government save, borrow, i saves/ nvest Foreign sector borrows/ saves, borrows invests , invests 3. Foreign P. Panth 8
  • 9. National Income Concepts1. Gross Domestic Product: GDP: The total value of all final goods and services accruing to an economy in one accounting year GDP = C+ GI + G + (X – M), where C = Consumption expenditure of HHs. GI = Gross Investment by Firms, G = Government expenditure, X – M = Value of exports – value of imports. It includes the value of all expenditure within the economy regardless of who earns it. P. Panth 9
  • 10. 2. Gross National Product or GNP: GNP = GDP + FAFA is Net foreign income from abroad. Includes income earned by Indians from other countries, and deducts income earned by foreign nationals working in India.3. Net National Product at market prices: NNP = GNP – DepreciationDepreciation = investment to replace and repair wear and tear of capital, buildings and other assets.NNP at market prices, since the value of all goods and services is taken at the ruling price in the market. P. Panth 10
  • 11. 4. NY = NNP at factor cost NY = NNP at market prices – indirect taxes + subsidies. Subsidies reduce the market price, undervalue output. Indirect taxes such as excise duties and sales taxes, increase the market price, over value output.These have to be adjusted to arrive at the cost price of total value of production in the economy. P. Panth 11
  • 12. 5. Personal Income: PY = NY + transfer payments – (SS payments + undistributed profits + corporate taxes)Transfer payments: gifts, bequeaths, bonus, dividends, pensions, sch olarships (income received but not earned).SS payments life insurance, provident fund (income earned but not received)Undistributed profits: Firms do not distribute all their profit to shareholders, but save part of it.Corporate Profit Taxes: Distributed profit is net of corporate profit taxes. P. Panth 12
  • 13. 6. Disposable Income: DY = PY – direct personal taxes Households have to pay income tax, and this has to be deducted, to get DY. DY = C + S7. Per capita income: PCY = NY/Population The size of PCY is taken as an index of the standard of living of the population, and the level of development of an economy.8. Real Income or NY at constant prices = NY at current prices/Price Index Inflation raises the money value of all goods and services. To show real increase in output, NY has to be deflated with the price index. P. Panth 13
  • 14. Business or Trade cycle• The macro system of capitalist economies is seldom in equilibrium.• It has been noticed that NY keeps fluctuating in regular cycles over time,• In some periods of time, prices, employment, and profits increase, and reaches a peak called Boom.• In other times prices, employment, profits all fall, called Recession or Deflation, and reaches a minimum called Depression.• Again there is revival, called Recovery. P. Panth 14
  • 15. Phases of the Business cycleNY Years P. Panth 15
  • 16. Recession• What is a recession? – Generally, 2 or more quarters (6 months) of declining real GDP, negative growth of GDP.• Investment falls, involuntary unemployment increases, incomes fall.• Demand for goods/services falls.• Reduces incomes of those providing them. Reduces profits. Industries start retrenchment and closures.• Again Y and consumption fall.• And it goes on till the entire economy reaches a state of depression. P. Panth 16
  • 17. Unemployment during Depression• During the Great Depression (1929) in USA, unemployment grew from 3 percent before the 1929 stock market crash, to 25 percent in 1933• U. S. GDP fell by nearly half, from $103.8 billion to $55.7 billion.• 2008 collapse due to sub prime lending by investment companies in US, such as Lehman brothers.• Keynes, Lerner and others had said that Government investment must increase to revive the economy. P. Panth 17
  • 18. Inflation• Persistent increase in prices.• Inflation occurs due to disequilibrium in the economy, when D > S.• Rising prices increase costs of production.• Reduces real consumption of the population.• Those with fixed incomes, small traders, farmers, daily wage earners, suffer the most.• Government has to either increase supply (food grain inflation in India), or reduce demand. P. Panth 18
  • 19. Economic GrowthA central concern of macroeconomics is whatdetermines long-run growth.Long-run growth is the sustained increase ofaggregate output or income over several decades. Growth rate = ∆Y/Y,i.e. annual rate of increase in NYThe health of an economy shown by a steady rate ofgrowth of its output.More output, means more employment, moreincomes, and increase in the standard of living of itscitizens. 19
  • 20. Government’s Economic Policy• Imbalances such as inflation, recession, unemployment, poverty – have to be corrected by Government Economic Policy.• Market will not take up such corrections.• Government’s Economic Policy includes: – Planning policy – economic growth, distribution, infrastructure, public sector industries, – Fiscal policy – taxation, public expenditure, public debt – Monetary policy – Central Bank policies – Trade policy - exchange rates, Balance of Trade and P. Panth 20 Balance of Payments, international aid, loans, tariffs.