MACRO ECONOMICS- TOPIC 1

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MACRO ECONOMICS
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 Macro-economics is the study of the structure and performance of national
economies, and of the policies that governments use to try to affect economic
performance.
 Macro-economic study the interaction of the economy as a whole.
WHY MACRO-ECONOMICS AND NOT MICRO-ECONOMICS?
1. What is good at the micro level may not be good for the economy as a
whole
2. The macro-economic problems, e.g., inflation, deflation, BOP
disequilibrium and unemployment can be solved only through macro
level programmers.
SCOPE OF MACROECONOMICS
• Macro-economics as a subject has a wider scope than micro-economics. The
study of macroeconomics extends to the following areas:
o Theory of National Income;
o Theory of Employment;
o Theory of Money and Banking;
o Theory of General Price Level;
o Theory of International Trade;
o Theory of Economic Growth.
DIFFERENCE BETWEEN MACRO AND MICRO-ECONOMICS.
1. Scope: Microeconomics focuses on the behavior of individual economic agents
such as households, firms, and industries, while macroeconomics examines the
behavior of the economy as a whole, such as inflation, economic growth, and
unemployment.
2. Aggregation: Microeconomics is concerned with the analysis of individual
markets and prices, whereas macroeconomics aggregates data across multiple
markets and prices to study the behavior of the overall economy.
3. Assumptions: Microeconomics generally assumes that individuals and firms act
rationally to maximize their own self-interest, while macroeconomics, looking at
the behavior of the economy as a whole without assuming that individual agents
always act rationally.
4. Time Horizon: Microeconomics tends to focus on short-term decision-making
by individual agents, while macroeconomics takes a longer-term view, examining
the performance of the economy over time.
5. Policy Implications: Microeconomics is often used to study the impact of
specific policies on individual markets, while macroeconomics is used to study the
impact of policies on the overall economy,
INTERDEPENDENCE BETWEEN MACRO AND MICRO ECONOMICS
The interdependence between macroeconomics and microeconomics can be seen
in the following ways:
1. Macroeconomic factors such as inflation, interest rates, and economic growth
can affect microeconomic variables such as consumer spending, investment
decisions, and production levels.
2. Microeconomic factors such as changes in consumer preferences, technological
innovations, and changes in market structure can also have an impact on
macroeconomic variables such as inflation, employment, and economic growth.
3. Macroeconomic policies such as fiscal and monetary policies can have a
significant impact on microeconomic variables such as consumer spending,
investment decisions, and production levels.
4. Microeconomic decisions made by firms and individuals can have a significant
impact on macroeconomic variables such as aggregate demand, inflation, and
economic growth.
SIGNIFICANCE OF MACROECONOMICS
1. Understanding the overall performance of the economy: Macroeconomics
provides a framework for understanding the overall performance of the economy
by analyzing variables such as GDP, inflation, and unemployment.
2. Policy formulation: Macroeconomics helps policymakers to formulate and
implement policies that can address economic problems such as inflation,
unemployment, and economic growth.
3. Resource allocation: Macroeconomics helps to allocate resources efficiently by
analyzing the overall demand and supply conditions in the economy
4. Business cycle analysis: Macroeconomics helps to analyze the business cycle
and predict future economic trends.
5. International trade and finance: Macroeconomics helps to analyze international
trade and finance, including the exchange rate, balance of payments, and
international capital flows.
Limitations:
1. Aggregation bias: Macroeconomics relies on aggregate data, which can obscure
important differences among individuals and firms
2. Data limitations: Macroeconomics is limited by the availability and accuracy of
data.
3. Simplifying assumptions: Macroeconomics relies on simplifying assumptions
about the behavior of individuals and firms. These assumptions may not always
hold true in the real world,
4. Causality issues: Macroeconomics often deals with complex causal
relationships, making it difficult to establish cause-and-effect relationships.
5. Political influence: Economic policymaking is often influenced by political
considerations, which can lead to policies that are not in the best interest of the
economy.
TOOLS OF MACROECONOMICS
Monetary Policy: relates to the management of money supply and credit to step
up business activities, promote economic growth, and stabilize the price level
Fiscal Policy: Uses of taxation and government expenditure to stabilize the
economy.
Income Policy: through this policy direct control is exercised over prices and
wages (EWURA, LATRA & TASAC)
 Evolutions of Macroeconomics
• Classical Macroeconomic Model
ASSUMPTION
• Price Adjustment: Prices adjust quickly to equilibrate demand and supply.
General equilibrium prevails, as demand equals supply simultaneously in all
markets.
• Full Employment: The economy produces at capacity, on the production
possibility frontier. There is no waste of capital and labor. There is no
unemployment.
• Neutrality of Money: Money is neutral, that is money has no effect on real
variables. Money serves only to set the overall price level.
• Supply: The classical model focuses on supply, in the sense that the
economy produces with full employment of capital and labor.
• Efficient Allocation of Resources: In a general equilibrium with perfect
competition, the allocation of resources is Pareto efficient.

KEYNESSIAN MACROECONOMICS
• John Maynard Keynes rejected the classical model. In 1930s the world was
in depression. The allocation of resources was not efficient, with much idle
capital and labor. Instead the economy was in crisis.
• Aggregate Demand: Keynes introduced the concept of aggregate demand,
the overall demand for goods and services in the economy. Deficient
aggregate demand is the cause of recession.
• Persistent Unemployment: Keynes believed that unemployment might
persist indefinitely.
• Money is Not Neutral: With disequilibrium and unemployment, money is
not neutral. Increasing the nominal money supply will reduce the real
interest rate.
 NEOCLASSICAL MACROECONOMICS
• Neoclassical economic theory believes that markets will naturally restore
themselves. Prices and therefore wages will adjust on their own response
to changes in consumer demand.
• Keynesian economic theory does not believe markets can adjust naturally
to these changes.
• Neoclassical emerged in around 1900s to compete with the earlier theories
of classical macroeconomics.
• Classical economists assume that the most important factor in products’
price is its cost of production.
Assumptions underpin neoclassical model:
1. Rational thinking: people make rational choices between options based on
the value that they identify in each choice.
2. Maximizing: consumers max utility while firms max profits.
3. Information: people act independently based on having all the relevant
information to a choice or action.