Macroeconomics or macroeconomics is a branch of economics that studies the behavior and performance of the economy as a whole. It focuses on aggregate changes in economies such as unemployment, growth rates, gross domestic product and inflation. Macroeconomics analyzes all the aggregate indicators and the microeconomic factors affecting the economy. Governments and companies use macroeconomic models to help formulate economic policies and strategies such as macroeconomic issues and solutions.
Macroeconomic Concept
1. Economic Model
The model is a theory that summarizes the relationship between economic variables. Models are useful because they help us remove irrelevant details and focus on important economic relationships more clearly. The model is a description of reality with some simplifications. To simplify the analysis each model makes some assumptions that should be explicitly stated when the model is formulated. A model can be expressed in terms of equations or diagrams. Of course, the model can also be expressed verbally.
However, diagrams and equations are the most convenient method of expressing relationships between economic variables. The model has two types of variables: exogenous and endogenous variables Exogenous variables come from outside the model and they are input into the model. Endogenous variables come from within the model - they are the output of the model. In other words, exogenous variables persist as they enter the model, whereas endogenous variables are defined in the model. The purpose of the model is to show how exogenous variables influence endogenous variables.
For example, let's see how we can develop a model for bread. We assume that the quantity of bread demanded, Q d, depends on the price of bread, P b and aggregate income Y. This relationship is expressed in the equation Q d = D (P b, Y) where D denotes a demand function such as a macroeconomic goal.
Similarly, we assume that the quantity of bread supplied, Q s, depends on the price of bread, P b, and at the price of flour, Pf, since flour is used to make bread. The relationship is expressed as Q s = S (P b, P f), while S represents the supply function. Finally, we assume that the price of bread adjusts to balance demand and supply: Q d = Q s. These three equations form the market model for bread. The economic relationships involved in the model may be of a different kind. First, relationships can be behavioral. For example, consider the storage function S = S (Y), which states that saving (S) is a function of income (Y).
Second, the relationship between variables can be technical. The technical relationship follows from technological considerations. For example, consider the production function Y = F (K, L) which states that the total output (Y) produced is a function of the total capital used (K) and the amount of labor used (L). This relationship is determined by the technological considerations underlying the production process. Then it is a technical relationship. Third, the relationship may be a definition. Such relationships follow from the definition of variables. For example, if Y m represents money income, Y r represents real income and P represents the price level, then Y m = Y r XP represents the definition equation.
A model must be complete. Mathematically, this means the number of equations must be equal to the number of variables. For example, in our demand and supply models for bread, we have three equations and three equations. Therefore the model is determined. In Simple Keynesian Model our income determination has three equations: (i) C = C (Y) (Consumption function); (ii) I = I (Investment function); (iii) Y = C + I (equilibrium condition) we have three equations. Therefore the model is determined. We need to distinguish between variables and parameters in the model.
Parameters are constants in relation to the variables in the model. For example, in a simple linear consumption function: C = a + bY, C and Y are temporary variables a and b are parameters. When one parameter alters the consumption function shifts its position like a macroeconomic goal.
2. Flexible versus Sticky Prices
One important assumption of the macroeconomic model is the adjustment of wages and prices. Economists usually assume that the price of an item adjusts to balance demand and supply, they assume that, at an ongoing price, suppliers have sold everything they want and prosecutors have bought everything they want.
This assumption is called market clearing. To answer most questions, economists use a market-clearing model. But the assumption of continuous market clearing is not entirely realistic. In order for the market to continue to improve, prices must adjust instantly to changes in demand and supply. However, many wages and prices adjust slowly.
Many employment contracts often set up wages for longer years. Many companies leave their product prices unchanged for long periods of time. Although the market clearing model assumes that all prices and wages are flexible, in the real world, we know, prices and wages are not so flexible.
Macroeconomic Short Theory
A number of macroeconomic theories have been developed for decades. They are often intended to address the urgent economic problems of the day. In the pressing economic problems of unemployment, inflation, or stagnant growth, most macroeconomic theories make a concerted effort to explain these issues.
1. Classic Economics
The ancestors of macroeconomic theory derive from the innovative work of Adam Smith, the father of modern economics. This theory is based on the idea that flexible pricing ensures a market balance so that full employment production is maintained. The main policy implication is that government intervention is not necessary to maintain economic stability.
2. Keynesian Economics
Developed by namesake, John Maynard Keynes, this theory was in response to the massive unemployment problem of the Great Depression in the 1930s. This rests on the notion that aggregate demand for production is a major source of business cycle instability. The main policy implication is that economic instability is rampant without government intervention.
3. Aggregate Market Analysis
This theory is a synthesis between Classical economics and Keynesian economics that was created to help explain the stagflation (high levels of unemployment and inflation) that emerged in the 1970s. It represents current macroeconomic theories. Thus, it illustrates how and why policy implications are found separately in Classical economics and Keynesian economics.
4. IS-LM analysis
This theory is a more advanced version of the Keynesian economy that integrates the product market (the IS-LM section) with money or financial markets of the LM section of IS-LM. Thus, it provides insight into the role of money and interest rates in macroeconomic activities. This is a step along the path between Keynesian economics and the development of aggregate market analysis.
5. Monetarism
Defeated by Nobel Prize winner Milton Friedman, this theory puts the money circulating around the economy at the center of macroeconomic instability. Many of the main features of Monetarism are incorporated in the IS-LM analysis and aggregate market analysis of US-AD.
6. New Classical Economy
This theory emerged in 1970 as the rebirth of Classical economy. He argues that people have rational expectations about the consequences of government policy, which then negates the impact of the policy. Thus, like the Classical economy, the main implication is that the economy maintains full employment without the need for government intervention.
