Methodology of Macroeconomics

Macroeconomists build theories that are based on models, that they test by using data. Therefore the methodology of macroeconomics is similar to the methodology of microeconomics. Some macroeconomists assume that factors that affect aggregate (total) behavior are the same factors that influence individual behavior. An example from microeconomics would be an individuals wage rate should, and most likely will, affect the individuals habits of consumption. Now the same idea applied to aggregate data would show that the average wage rate in an economy should affect the total labor supply and consumption. This theory shows how an idea from microeconomics can be applied to macro economics. There is some reasoning behind the idea of like factors between micro- and macroeconomics. As we know, macroeconomics, in its entirety, is the sum total of microeconomic decisions made by the individual households & firms. The movement of macroeconomics can reflect the decisions made by these individual firms & households. In order to understand the aggregate behavior of unemployment for example, we would need to understand the individual households behavior in the labor market. Aggregate demand & aggregate supply are exactly what they seem to be. Aggregate demand is the total demand for goods & services, while aggregate supple is the total supple of goods & services. The aggregate supply and demand curves show the aggregate output horizontally and vertically shows the overall price level, and just like normal supply & demand curves, the equilibrium is located at the point where the two curves meet. That is where the similarities end between aggregate and simple supply & demand curves. Likewise, even though we look to individual firms & households for an indication on how to analyze aggregate data, there are very paramount distinctions between the individual & aggregate levels. Probably the most important example is demand. Common knowledge shows that when the price of a good increases, the most important consideration to a consumers response is the availability of substitute good. A substitute good is a good that can be used as a replacement for better value. So as the price of one good goes up, the demand for its substitute goes up. Though when the price level changes to an aggregate level shows that there may be no change in relative prices, therefore making availability of substitutes extraneous. In microeconomics, we are taught when all things are held constant, or ceteris paribus, that the quantity demanded of goods falls if its price rises, and vice-versa.

Normal & market demand curves downward to the right. The reasoning for an aggregate demand curve doing the same is much more complex. The financial market is said to be related to the downward slope of the aggregate demand curve. Now for the supply curves, there is a similar difference as between the demand curves. The normal supply curve is under assumptions of all input prices being fixed. So the firms inputs are unchanged, while the outputs do change. If the input prices are always fixed then the only movement that can be made is along the curve. The controversy of the aggregate supply curve in macroeconomics is that you cant assume that input prices stay the same, because all prices are changing causing a shift in the curve instead of a movement along it.