PB 202 MACROECONOMICS

CHAPTER 1 INTRODUCTION TO MACROECONOMICS

Chapter objectives
Learn macroeconomic in general To evaluate government policies and tools To know the Aggregate Demand and Aggregate

Supply

Arrow Process

Chapter Sneak Peak

- What is macroeconomics?
- Definition

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-Macroeconomics versus microeconomics -- Macroeconomic goal

-AD curve - AS curve

MACROECONOMICS IN GENERAL

GOVERNMENT POLICIES AND TOOLS Fiscal policy Monetary Policy

AGGREGATE DEMAND & AGGREGATE SUPPLY

EFFECT ON UNEQUAL EQUILIBRIUM OF AD & AS

SUMMARY

-How does it affects price level and real GDP? - Factors that shift AD curve - Factors shift AS curve

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Continuous Assessment
CA Quiz Test Tutorial Case study End of Chapter Total Minimum 3 Minimum 2 Minimum 2 Minimum 1 Minimum 1 Chapter Chapter 1, 4, 7 Chapter 1,2,3 Chapter 5&6 Chapter 2&3 Chapter 6 Chapter 4 or 5 % 20 30 15 25 10

How to Study Economics?

Theory and facts To understand how economic works Facts without theory are useless Theory without facts is unsupported assertion Economic data To help us think about an economic problem Two types:
Time series data Cross-section data

How to Study Economics?

Index numbers is a statistical measure of changes in a representative group of individual data points These data may be derived from any number of sources, including company performance, prices, productivity, and employment Example : Consumer Price Index (CPI), Producer Price Index (PPI).

Why study macroeconomics?

Are you hope to make money? Are you concerned to learn how budget deficits and

inflation will affect you in future? Are you curious to know why it is sometimes hard to find a job? Why are some people rich and others poor? Why foreign like Japan or Korea can produce goods so much cheaply than America? Why countries like Russia and China are moving from plan to a market economy? Are you curious to know how the global marketplace works?

What is macroeconomics?

What is macroeconomics?
Macroeconomics can be best understood in contrast

to microeconomics Macroeconomics considers the larger picture which is the sum of all decision An understanding of microeconomics is crucial to understand macroeconomics "Macroeconomics is the branch of economics concerned with aggregates, such as national income, consumption, and investment "

What is macroeconomics?
The branch of economics that studies decision

making for the economy as a whole (inflation, unemployment, economic growth, money supply, national incomes, business cycle)

Microeconomics versus Macroeconomics

Micro concept Market Demand Supply Price Quantity Macro equivalent National economy Aggregate Demand Aggregate Supply Price Level National output/income GDP

Decrease in demand Decrease in supply Increase in supply Subsidy

Recession and unemployment Supply shock; stagflation Economic growth Government spending

Macroeconomics vs Microeconomics
Microeconomics
Studies individual income Analyzes demand for and supply of labor Deals with households and firms decisions

Macroeconomics
Studies national income Analyzes total employment in the economy Deals with aggregate decisions

Analyzes demand and supply Analyzes aggregate demand of goods and aggregate supply

Micro and Macro aims Goals Macroeconomic aims/goals Full employment Price stability Economic growth Income distribution

Microeconomic aims/goals Firms aim to maximize profits

Consumers aim to maximize utility

Efficient resource allocation in competitive markets The correction of market failure through government intervention

Macroeconomic Goals
Price stability Economic growth Full employment

Distribution of income

Price Stability
A situation in which prices in an economy dont

change much over time This refers NOT to the prices of individual products, BUT to the price level as a whole A RISE in the overall price level is called inflation, a FALL is called deflation Would mean that an economy would not experience inflation or deflation However, it is not common in economy to have price stability

Economic Growth
The most talked about macroeconomic goal Growth occurs when the total amount of goods and

services an economy produces increases from year to year A positive change in the level of production of goods and services by a country over a certain period of time Nominal growth is defined as economic growth including inflation Real growth is nominal growth minus inflation Economic growth is usually brought about by technological innovation and positive external forces

Nominal vs Real GDP Growth

Full Employment
A situation in which all available labor resources are

being used in the most economically efficient way Does NOT mean every single person has a job Means that most people who want to work are working

Headline News

Equitable Distribution of Income

A nations income should be somewhat equally

distributed between the upper and lower classes in society Some tax systems are designed to achieved more equitable income distribution

Distribution of income

Macroeconomics Problems
Undesirable situations that exist in the macro

economy One or more of the macroeconomic goals are not satisfactorily attained The primary problems are unemployment, inflation, and stagnant growth Macroeconomic theories are designed to explain why these problems emerge and to recommend corrective policies

Macroeconomics Problems
Stagflation Inflation Deflation

Hyperinflation
Recession Unemployment

STAGFLATION
Wikipedia - In economics, stagflation is the situation

when both the inflation rate and the unemployment rate are persistently high.

STAGFLATION

STAGFLATION
1970s global stagflation Causes :
Yom Kippur war in 1973 Iranian revolution of 1979

Crude Oil Prices 1947-2009

What is inflation?

Inflation
An increase in the price you pay for goods The rate at which the general level of prices for goods

and services is rising, and, subsequently, purchasing power is falling How do we do when it is inflation?

By using CPI

In Malaysia, Consumer Price Index (CPI) is measured

by Dept of Statistic, Malaysia

Inflation in Malaysia 2011

Inflation is still a concern says Tan Sri Dr Zeti

Akhtar Aziz (The Star; May 24)

BNM estimate inflation 2.5% to 3.5% Fiscal policy cut in government subsidy (gasoline and sugar) Monetary policy

BNM increase Overnight Policy Rate (OPR) at 3% the rest of the year ; and increase statutory reserve requirement to 3%

Inflation 2011
As reported by Malaysian Institute Economic

Research (MIER), inflation is expected to trend upwards due to the

effects of quantitative easing in the U.S., geopolitical tensions in the Middle East and North Africa, and on the reconstruction of Japan.

Time Series Data

Year 1981 1982 1983 1984 1985 Inflation rate % 9.7 5.8 3.7 3.9 0.3

1986 1987 1988 1989

1990 1991 1992

0.7 0.3 2.6 2.8

2.6 4.4 4.8

Time Series Data

Year 1993 1994 1995 1996 1997 Inflation rate % 3.5 3.7 3.5 3.5 2.7

1998 1999 2000 2001

2002 2003

5.3 2.7 1.5 1.4

1.8 1.0

Time Series Data

Year 2004 2005 2006 2007 2008 Inflation rate % 1.5 3.0 3.5 7.4 12.3

2009

4.0

Source: The World Bank Data

Tutorial 1
Find out inflation situation in 2012 What are the factors? Discuss

What is deflation?

Deflation
In general, deflation is when the average price of

goods goes down When the inflation rate falls below zero, showing negative inflation, we know that there has been deflation

What is
hyperinflation?

Hyperinflation
Extremely rapid or out of control inflation Germany after World War I (inflation rate 322) In Hungary after World War II - Between August

1945 and July 1946 the general level of prices rose at the astounding rate of more than 19,000 percent per month, or 19 percent per day Cause war and increase in money supply

Hyperinflation in Hungary
Sweeping up the banknotes from the street after the Hungarian peng was replaced in 1946

Hyperinflation in Germany

Germany, 1923: banknotes had lost so much value that they were used as wallpaper.

What is recession?

Recession
Period of general economic decline, defined usually

as a contraction in the GDP for six months (two consecutive quarters) or longer. In usual dictionary definition is a period of reduce economy activity The NBER define a recession as a significant decline in economic activity lasting more than a few months.

Recession
Marked by high unemployment, stagnant wages,

and fall in retail sales a recession generally does not last longer than one year and is much milder than a depression

Causes of recession
Currency crisis Energy crises Financial crises

Time Series Data

Year (Quarterly) 2008: Q1 2008: Q2 2008: Q3 2008: Q4 2009: Q1 2010: Q2 2010: Q3 GDP growth rate at constant price 7.4 6.6 4.8 0.1 -6.2 -3.9 -1.2 Unemployment rate 3.6 3.7 3.1 3.1 4.0 3.6 3.6

GDP real growth rate

What is Unemployment?

Unemployment
The general economic definition of unemployment is

defined as:

a state in which there are qualified and who do not have jobs.

workers

who are available for work at the current wage rate

Unemployment
as defined by the International Labour Organization

(ILO)

occurs when people are without jobs and they have actively looked for work within the past four weeks

Unemployment Rate
The unemployment rate is a measure of the

prevalence of unemployment it is calculated as a percentage by dividing the number of unemployed individuals by all individuals currently in the labour force.

Malaysia Unemployment Rate 2001-2007

Year 2001 2002 2003 2004 2005 2006 2007 Total 9357 9543 9870 9980 10,045 10,275 10,538 Unemployment rate (%) 3.5 3.5 3.6 3.5 3.5 3.3 3.2 Labor force rate (%) 64.9 64.4 65.2 64.4 63.3 63.1 63.2

Source: Dept of Statistics

Government Policies
In order to stimulate economic growth, price level

and aggregate demand (AD) To combat recession and inflation Two types:

Fiscal Policy (tax and government spending) Monetary Policy (money supply)

Government Policies

Fiscal Policy

Monetary Policy

Contractionary

Expansionary

Contractionary

Expansionary

Tax G Tax G

Money Supply

Money Supply

Fiscal Policy
The use of government spending and taxes to

influence the nations spending, employment and price level Falls in to two types:

Expansionary Fiscal Policy Contractionary Fiscal Policy

Expansionary Fiscal Policy

In order to combat recession To increase aggregate demand Reduce tax, increase government spending or

equally

Contractionary Fiscal Policy

To combat inflation To increase aggregate demand Increase tax, reduce government spending

Monetary Policy
The government tool to control level of money

supply in the economy Changes in money supply can led changes in interest rate How Federal Reserves power to change money supply can also alter the interest rate Two types:

Expansionary Monetary Policy Contractionary Monetary Policy

Expansionary Monetary Policy

To combat recession Increasing money supply leads interest rate to fall How?

Funds will be injected into the banking system to

reduce interest rates Spending and borrowing would increase Resulting increase in consumption and investment to stimulate economic growth

Contractionary Monetary Policy

To combat inflation Decreasing money supply leads an increase in

interest rate How? Withdrawing funds from the banking system and raising interest rates The higher interest rates will encourage people to save more and spend less More expensive for people to borrow money

GDP growth and public expenditure share to GDP (%)

Aggregate Demand
The total amount of goods and services demanded in

the economy at a given time period. Describe relationship between price levels and aggregate output Negative relationship Also known as total spending Formula: AD = C+I+G+(X-M)

Aggregate Supply
A total supply of goods and services produced in the

economy at given overall price level at given time period Positive relationship between price and output Also known as total output

AD AS curve

Shifts in AD
Consumer expect a recessions Foreign income rises Foreign price levels fall

Government spending increases

Shifts in AD
Consumer expect a recessions They will not spend as much money today as to save for a rainy day Thus, if spending has decreased, then AD must decrease Shown shift to the left

Consumer expect a recessions

Shifts in AD
Foreign income rises We would expect that foreigners would spend more money both in their home country and in ours A rise in foreign spending and exports increase AD AD curve shift to the right

Foreign income rises

Shifts in AD
Foreign price levels fall If foreign price fall, then foreign goods become cheaper We expect that consumers in our country are now more likely to buy foreign goods and less likely to buy domestic made goods Thus, fall in AD AD curve shift to the left

Foreign price levels fall

Government spending increases

Shifts in AS
Size and quality of labor Technological innovations Increase in wages

Increase in production costs

Changes in producer taxes and subsidies

Technological improvements

Shift in AS
Workers expect inflation and negotiate higher wages

now

If the cost of hiring workers has gone up, then companies will not want to hire as many workers AS would shrink, and AS curve shift to the left Reduction in real GDP as well as increase in the price level The expectation of future inflation has caused price level to increase today

Workers expect inflation and negotiate higher wages now

Lower costs of input

The end