2. Essentially the study of the behaviour and performance
of the economy as a whole
Deals with the functioning of the economy as a whole,
including how the economy’s total output of goods and
services, the price level of goods and services and the
total employment of resources are determined and
what causes these magnitudes to fluctuate.
Studies the relationship and interaction between the
factors and forces that determine the level and growth
of output and employment, general price level and
balance of payment position of an economy.
MACROECONOMICS
3. Macroeconomics has both theoretical and policy orientations
Theoretical Orientation
Macroeconomic theories use macroeconomic models to
explain the bahaviour of macroeconomic variables and
specify the nature of relationship between them
Policy Orientation
Macroeconomics as a policy science provides a
framework and instruments, i.e., fiscal and monetary policy
etc. for restructuring the economy and guiding it on the path
of growth and stability
MACROECONOMICS
4. Observe of Macroeconomics
Study of the economic actions of individuals and small
groups of individuals
The study of particular firms, particular households,
individual prices, wages, incomes, individual industry,
particular commodities.
In its approach, microeconomics proceeds to examine
how output and employment are allocated among individual
industries and firms with industries and how the prices
of various products of these individual firms are
established assuming the total output, total employment and
spending for all goods and services as given.
MICROECONOMICS
5. MACROECONOMICS &
MICROECONOMICS
Item Given Variable
Total
output
Micro Total output of the economy as a
whole
Distribution of output, employment
and total spending among
particular goods and services of
individual firms and industries
Macro Distribution of output, employment
and total spending among particular
goods and services of individual
firms and industries
Total output of the economy as a
whole
General
price
level
Micro General Price level Relative price or exchange ratios
among individual goods and
services
Macro Relative price or exchange ratios
among individual goods and services
Determination of general price level
6. Macroeconomics and Microeconomics are not separable
Analysis of the economy is not conducted separately in two water
tight compartments
Macroeconomic theory has a foundation in Microeconomic theory
and Microeconomic theory has a foundation in Macroeconomic
theory
Macroeconomics – Nation’s material well-being will be greater,
the closer the economy comes to full-utilisation of its total
resources, given the allocation of resources
Microeconomics – Material well-being will be greater, the closer
the economy comes to optimal allocation of resources, given the
degree of utilisation of total resources, partial to full
Common basic goal – Maximum well-being for the population as a
whole which can only be attained with both full utilisation and
optimum allocation of all available resources
MACROECONOMICS &
MICROECONOMICS
7. Classical Macroeconomics - Before 1930
Had not developed any coherent macroeconomic theory or model
Macroeconomic thoughts were in the form of certain postulates
If market forces of demand and supply are allowed to
have free play then
(i) There will always be full employment in the long-run
(ii) There will neither over-production nor under-
production
(iii) The economy will always be in equilibrium in the
long-run
Government spending crowds our private investment
But the great depression of 1930’s exposed the inadequacy of the
theoretical foundations of the laissez-faire doctrine
GROWTH OF MACROECONOMICS
8. Keynesian Macroeconomics - 1930 –1960
Revolutionary Book – “ General theory of Employment, Interest
and Money” – 1936
Keynesian macroeconomic theories are associated mainly with
employment, growth and stability.
Level of output and employment in an economy is determined by
the aggregate demand.
Unemployment is caused by lack of aggregate demand.
Economic fluctuations are caused by demand fluctuations.
The demand deficiency can be removed through compensatory
government spending.
Started showing signs of its failure during 1970’s - Stagflation
GROWTH OF MACROECONOMICS
9. Post Keynesian Macroeconomics - include growth of
Monetarism – Milton Friedman – A Monetary History of the
United States
Role of money is central to growth and stability of national output
Shift in the emphasis from aggregate demand for real output to money
demand and supply and its policy orientation from demand
management to monetary management
Difference between the monetarists and Keynesians in
Relationship between money supply and inflation
Inflation is caused by rapid expansion of money supply in
the economy and in order to control in inflation there should be
constant growth of money supply
Role of Government
A free market economy is inherently stable
Govt. or its Central bank should not adopt active
discretionary monetary policy, rather it should pursue a policy of
stable rate of growth of money supply
GROWTH OF MACROECONOMICS
10. Supply side Economics – Arthur Laffer
Change in aggregate demand will either increase inflation or
unemployment rate
Emphasised the role of the factors operating in the supply side of the
market
Contraction in supply, given the aggregate demand curve, results in rise in
price level and inflation on one hand and fall in aggregate output and rise in
unemployment on the other
In crease in aggregate supply, given aggregate demand, will lead to
increase in employment and reduction in inflation
More work or labour, and higher investment will lead to increase in
aggregate supply
Reduction in income tax
Encourages more saving, work and investment
In crease in Govt. revenue to reduce budget deficit
GROWTH OF MACROECONOMICS
11. Neo-Classical Macroeconomics – Robert E. Lucus
Consumers, workers and producers behave rationally to promote their interest and
welfare
Emphasises the role of individual’s rational expectations about future economic
events, especially those on the supply side of the economy, and about the future
government policies
People’s expectations about government’s monetary and fiscal policies
determine the behaviour of aggregate supply and aggregate demand
When Govt. makes a deficit budget, people expect that rates of interest will rise
They will attempt to take new loans when rates of interest are lower and
therefore, the interest rates rise immediately rather than in future
If Central bank of a country increases money supply, consumers, workers and
producers will expect rationally a rise in price level
On the basis of rational expectations, workers get their wages raised, producers
raise their profits, lenders and bankers raise interest etc.
As a result, the effect of expansion in money supply on these persons get cancelled
There is no need for the Govt. to intervene in the economy through macroeconomic
policies
GROWTH OF MACROECONOMICS
12. To find a reasonable answer and a feasible solution to the following
Macroeconomic problems
What determines the levels of economic activity and employment
in a country?
How is the equilibrium level of national income determined?
What causes fluctuations in the national output and employment?
What determines the general level of prices in a country?
What causes inflation and unemployment?
What determines the levels of foreign trade and trade balance?
What causes trade deficits and disequilibrium in the balance of
payments of a country?
How do the monetary and fiscal policies of the government affect
the economy?
IMPORTANCE OF
MACROECONOMICS
13. Macroeconomic Paradoxes – (Boulding) Results obtained from
the study of the behaviour of individual firms or industries may lead us to
misleading conclusions about the working of the macroeconomy.
Paradox of Thrift -
Saving is a virtue for an individual but not for the economy as whole.
Efforts to save more, reduces consumption demand and thus national
output and income and also increases unemployment
Wage – Employment Paradox –
Cut in money wages in an individual industry will lead to more
employment in that industry.
But for the society or economy, reduction in money wages will create
more unemployment.
Fall in money wages Decline in aggregate demand Decline in
employment since demand for labour is a derived demand
IMPORTANCE OF
MACROECONOMICS
14. Understanding the Working of the Economy –
Macroeconomics explains the causes of important problems of the
economy such as unemployment, inflation, instability in foreign
exchange rate.
Prescribing Policy Measures –
Working of the macroeconomic concepts is a bare necessity in
bringing solutions to important problems like overpopulation,
inflation, balance pf payments, underproduction etc.
Accelerating Economic Growth –
Economic growth helps in solving the problems of poverty and
unemployment.
Economic growth can be obtained through increase in the rate of
saving and investment and improvement in technology (Harrod-
Domar and Solow growth model)
IMPORTANCE OF
MACROECONOMICS
15. Understanding Business Cycles -
No unanimity in macroeconomic theory about the proper
explanation of business cycle.
However, fluctuations in aggregate demand due to volatile nature
of investment demand together with the interaction of multiplier
and accelerator provides an adequate explanation for business
cycle (Keynes).
Individual Decision Making –
Fall in the demand for an individual product can only be
understood, if the causes of deficiency of aggregate demand are
analysed.
Knowledge about macroeconomics helps an individual to assess
the impact of Government’s economic policy.
IMPORTANCE OF
MACROECONOMICS
16. SOME CONCEPTS USED IN MACROECONOMIC ANALYSIS
Stock
Refer to the quantity of a variable at a point of time
Example
Water stored in a lake
Fixed deposit in a bank
Number of persons employed
Assets like plant, building, machinery etc.
Supply of Money
Accumulated Savings
Flow
Expressed per unit of time
Example
Water flowing in or out per unit of time (per day / per week)
Interest earned on the fixed deposit
Annual return from fixed assets such as plant, building, machinery etc.
Gross National Product
Consumption Expenditure
Change in Inventories
STOCK AND FLOW VARIABLES
17. PARTIAL AND GENERAL EQUILIBRIUM
Equilibrium
Position of rest characterized by absence of change
Position in which forces working in opposite directions are in balance
and there is no in- built tendency to deviate from this position
Partial
Analysis of a part of an economy, isolated and insulated through
assumptions from the influence of the changes in rest of the economy
Based on assumption of ceteris paribus
Concerned with two types of economic problems
Pertaining to only particular aspects economic behavior of a certain
individual , firm or industry
Studies only the first-order consequences of the economic events it
analyses
18. PARTIAL AND GENERAL EQUILIBRIUM
General
Theory of interrelationship among all parts of the economy.
Only if all consumers, all firms, all industries and all factor services
are in equilibrium simultaneously and they are interlinked through
commodity and factor prices
Exists when
• All prices are in equilibrium
• Each consumer gets maximum satisfaction
• All firms in the industry are in equilibrium at all prices and outputs
• Supply and demand for productive resources are equal at equilibrium
prices
Partial equilibrium analysis is encompassed in the general equilibrium
analysis
19. STATIC AND DYNAMIC ANALYSIS
Static
Macro-economic phenomenon studied under static conditions.
Static macro-model assumes no change in the size of the economy, national
output, prices and employment
Basic forces of change like, stock of capital, technology, population, nature of
business organisation, tastes and preferences of the people remain constant
Variables used in this analysis have no time frame - All variables belong to
the same time frame
Abstraction from reality
Dynamic
Macro-economic phenomenon studied under changing or dynamic conditions
Studies the factors and forces that set an economy in motion and lead or do not
lead it to a new equilibrium
Takes into account the time lag involved in the process of adjustment
Studies the nature and magnitude of changes and finds whether they are
oscillatory (convergent or divergent) or dampening.
20. ALTERNATIVE ECONOMIC SYSTEMS
Economic System refers to the mode of production and the distribution of
goods and services within which economic activity takes place.
Broader sense – The way different economic elements., i.e., individuals,
firms and government agencies are linked together to form an organic whole
Market Economy
Private Property
Profit Motive
Price Mechanism – No control by central authority
Consumers sovereignty
Freedom of enterprise
Competition
Limited role of State
21. ALTERNATIVE ECONOMIC SYSTEMS
Command Economy
Public ownership
Central planning-
Definite objectives and price - Authoritarian methods to
determine resource use and price
Mixed Economy
Price mechanism and economic planning working side by side
Public sector
Private sector
Joint sector
Freedom and control
22. THREE PROBLEMS OF ECONOMIC
ORGANISATION
WHAT, HOW and FOR WHOM to produce
What goods and services are to produce and in what quantity
How to produce these goods and services
How these goods and services so produced are distributed
among the households
23. MARKETS SOLVING THE THREE ECONOMIC PROBLEMS
What goods and services are to produce and in what quantity
Solved through price mechanism that works through supply and
demand for goods and services
Problem of nature of commodities and their quantities is decided by
the preferences of the consumers
Price of a commodity reflects the tastes & preference of the consumer
High price – Urgency of desire for certain commodity & vice-versa
Price acts simultaneously as a beacon light and a warning signal for
the producer or the consumer as the case may be.
Consumer sets the price and producers manufacture those
commodities which he wants more
24. MARKETS SOLVING THE THREE ECONOMIC PROBLEMS
How to produce these goods and services
Price also determines the techniques to be used for production
Every producer aims at using the most efficient production process or
producing goods at minimum cost
Choice of production process depends on relative prices of the factor
services and quantity of goods to be produced
Producer uses expensive factor services in less quantities relative to
cheap resources
Capital expensive to labour – Labour intensive technique
Capital relatively cheaper – Capital intensive technique
Production of capital goods in larger outputs – complicated &
expensive machines and techniques
25. MARKETS SOLVING THE THREE ECONOMIC PROBLEMS
For whom to produce these goods and services
Three main activity of the economy- Production, Consumption, & Exchange
Production leads to consumption
Consumption necessitates production
These two flows interrelated
and interdependent through exchange
Households
Firms
Real Flow
Financial Flows
26. Economic Role of Government
Capitalist Economy – Limited role
Maintenance of law & order, Protection from external aggression
Socialist Economy – Owns and regulates the entire consumption and
production process
Mixed Economy – Strengthens market system
Household & Government
Household sector outflows - Taxes
Household sector inflows - Transfer Payments in shape of old age
pension, unemployment relief etc & purchase
of services of household
Firms and Government
Firm sector outflows - Corporate and other taxes
Firm sector inflows – Subsidies and transfer payments to firms and
purchase of goods
29. FIRMS
(suppliers of goods and services,
demanders of factor services)
HOUSEHOLDS
(demanders of goods and services,
suppliers of factor services)
The interdependence of goods and
factor markets
30. Q1
P1
QF2
PF2
Q2
P2
PF1
QF1
D2
D2
The interdependence of goods
and factor markets
P
Q
P
Q
Rs.Rs. RsRs..
RsRs..RsRs..
Factor
services
Goods
Goods
Factor
services
S S
D1 D1
(1)
Consumer
demand
(4)
Factor
supply
(3)
Factor
demand
(2)
Producer
supply
OO