Intermediate

Macroeconomics
Chapter 1 + Intro

Micro vs. Macro

Micro looks at the individual and then the
firm, and then aggregates them together
to get groups.
Macro is the groupThe whole economy
We will actually be looking at the
microfoundations of macro. (since the
group is formed by individuals, we need to
know how the individuals will react to
policies first).

Macro variables
Inflation
Interest rates
Technology
GDP
Exchange Rates
Unemployment

In context

We want to examine these macro variables

in light of the phase of the business cycle
that we are in
AND
We want to be able to recommend and evaluate
the effects of various government policies on
the economy.

GDP

Gross Domestic Product (GDP) is a way of

measuring prodn in the economy during a
specific period of time. It can also be used
to measure aggregate income. If GDP is
rising the economy is growing. If GDP per
capita is rising, living standards are
improving.

Per capita real GDP

We can see sustained growth in per capita real GDP.

Per capita GDP has grown dramatically.
In 1926, average income was approx. $6700 (in 1997
dollars).
In 2001, it was higher than $33,000.
In 2005, it was approx $38,000. Currently it is approx
$52, 000, with a small reduction in 2008. The gap
between median incomes in Canada and the US
almost doubled between 1984 and 2008, but has
since narrowed1
Growth rates of course fluctuate over time.
Great Depression: from 1928-33, a decline of approx
34%.
WWII: from 1933-44, GDP increased by 124%.
More usually, we see deviations at + or 5% of trend.
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Later in the course we will examine the

sources of growth and the sustainability of
growth.
We will look at the causes of business
cycles.
We will examine government policies with
respect to growth and business cycles.

Difference between Growth and Business

Cycles

Economic growth is concerned with long-run

trend issues; it tells us how the standard of
living changes over time in a country; and
why it differs between two countries.

Business Cycles are short-run deviations

from the long run trend and explain why
income, output and employment fluctuate
from period to period.

The current consensus is that long-run

growth and short run fluctuation have
different causes.
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Growth Rates

Two ways to calculate growth rates

1) % in a variable =
new value old value
x 100
old value

2) Using the natural log

log new value log old value growth
rate

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On the previous slide, the slope of the graph

is approx. equal to the growth rate of per
capita GDP. If we ignore the Great
Depression and WWII, the growth rate has
been fairly constant.

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Business Cycles

Business cycles are analyzed by comparing

the actual value of real GDP with the trend
value.

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t 200
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Macro Models
Models are used to try to explain growth,
unemployment, inflation, etc.
They usually are simplified in some way and
are expressed in mathematical and
graphical form.
Once the models are developed, we will try
to solve for the equilibrium. Quite often we
will assume competitive equilibriumfirms
and household are price-takers.

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Micro Principles
The macroeconomy ultimately consists of
many consumers and firms.
Macro behaviour results from many
microeconomic decisions.
Govt policies may affect behaviour in
ways that are virtually impossible to model
at the aggregate level.
We now deal with rational expectations
models, which emphasize micro
foundations.

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Various Theories

Growth models: Solow and endogenous

Keynesian models: sticky wages. Since

wages are slow to adjust, business cycles
arise.

Money Surprise Theory: monetary factors

are the primary causes of business cycles.

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Real Business Cycle Theory: business

cycles are caused by real economic shocks,
such as changes in technology.

Keynesian coordination failure theory:

business cycles can be caused by individual
behaviour/reactions and government policy
can smooth out business cycles.

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Productivity
Total factor productivity (TFP): captures the
level of productivity of all factors of prodn
Growth in TFP leads to growth in living
standards.

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Government Budgets

We want to evaluate the effects of govt

spending and taxation. These will have
effects on the domestic economy as well
as international effects.

The current government had a surplus

meaning that outlays were less than
revenues from 1998-2009. We had a
deficit until the budget of 1998.
Is always having a surplus a good thing?
Or is having a deficit necessarily a bad
thing?

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Inflation
The percentage increase in the average or
general price level.
We can use the Consumer Price Index
(CPI) to measure or the GDP Deflator. The
CPI is more widely used.
Inflation has fluctuated considerably over
the years.
In 1991 the Bank of Canada started
targeting the rate of inflation to between 1
and 3 %, averaging around 2%.
The higher is inflation, the more distortion
there is in the economy.

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Interest Rates
Interest rates affect many decisions such as
borrowing and lending.
The nominal interest rate: interest rate in
money terms.
The real interest rate
= nominal interest rate expected or
actual rate of inflation
Nominal interest rates rise with inflation.

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Trade and the Twin Deficits

Due to falling trade restrictions, the volume
of trade amongst countries has dramatically
increased.
Current Acct Surplus
= exports imports (trade balance) plus
net factor payments received + net
transfers recd.

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Twin Deficits: historically when a country

has a current account deficit, they tend to
have a budget deficit as well.

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Unemployment

Unemployment tends to be countercylical

it moves opposite to GDP.
Factors affecting unemployment
1) Aggregate economic activity
2) The structure of the population
3) Government intervention
4) Sectoral shifts

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Sources
All numbers unless otherwise indicated are
taken from the Williamson text and
instructor resources.
1) source: www.OECD.org and
www.conferenceboard.ca and
www.worldbank.org.

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