Macroeconomics

1. Macroeconomics Course Outline

2. Course Goals • You, your teaching assistants and I will collaborate, seeking to make this the most thought-provoking and useful course you will take in economics or any social science. • You will come to appreciatethe science, the art, the politics of macroeconomics. • You will laugh and groan at my occasional feeble humor.

3. Who Wants to be a Millionaire?

4. Course Strategy • Define the important concepts, magnitudes and questionsin the real world • Learn alternative theories suggesting answers and explaining behavior • Evaluate data to test and then choose among theories • Put you in position to have a serious opinion on important topics

5. What is Macro &What is Micro? • Microeconomics examines the economic behavior of individuals--their responses to prices, income, tastes, opportunities. • Macroeconomics examines the sum of microeconomic actions... • ...and then adds the not-necessarily- economics-driven actions of government... • ...to determine how the entire dynamic economic system operates.

6. What is Macro &What is Micro? • Therefore Macro must be fully compatible with Micro in its explanations of behavior: to trust any Macro answer, you must be sure of each of its Micro roots. Usually, this requires common sense and introspection. • The power and elegance of Macro is its ability to confront important questions, resolve paradoxes, and give needed information by creating an understanding of an integrated system of Micro behavior.

7. What is Macro &What is Micro? • Why is there so much controversy about macro theory and policy and so little about micro? • Macro hits us in the pocketbook through its policy prescriptions so we may want certain answers to be true even if not. • Macro gets intimately involved in politically sensitive issues, and only religious arguments are more emotional than than political debates. • The media cares about these issues and wants to find/exaggerate controversy to sell itself.

8. What is Macro &What is Micro? • Why is there so much controversy about macro theory and policy and so little about micro? • Most controversy does not really stem from an absence of testable data but from an absence of open-minded common sense. This as true in economics as in any science.

9. Why are you taking macroeconomics? • Possible reasons: • It’s required for economics majors. • You’ve heard it’s as good a way as any to meet distribution requirements in the social sciences since this will at least involve mathematics. • Economist jokes are better than lawyer or computer nerd jokes. • You want to call in to talk-show radio hosts and sound important.

10. Why do you care about macroeconomics? • Better reasons: • You know that, today or tomorrow, you will really need the information as: • an investor • a political animal • a manager or employee • an intellectually curious person. • You trust or hope that economics, and macroeconomics in particular, can give you this necessary information.

11. The Issues of Macroeconomics • For the investor: • Where are interest rates and profits headed? • Which sectors of the economy will do best and worst during the next quarter, year, and decade? • What will be the distinguishing differences across countries? • Can any of this be predicted with useful accuracy?

12. The Issues of Macroeconomics • For the political animal--the citizen and government policy maker: • What determines interest rates and what are appropriate monetary targets? • What are the appropriate taxes to raise or lower? • How will the level and composition of the budget affect family incomes? • How will international trade impact jobs, inflation, and credit?

13. The Issues of Macroeconomics • For the business manager: • What growth will my current markets provide if I maintain my share? • Can I raise my prices as rapidly as my costs? • What opportunities are emerging in the developing nations? • All of the questions posed by investors.

14. The Issues of Macroeconomics • For the intellectually curious person • Why do cycles exist/persist in all economies? • Are macro relationships stable? • Can nonlinear mathematics and chaos physics help to understand economics? • How can growth and environmental concerns be reconciled?

15. The Central Model of a Macroeconomy • A system of logical equations with behavioral (endogenous) and fixed (exogenous) variables producing a unique dynamic solution through time. • “N” equations for “N” behavioral variables. • As many exogenous variables as the modeler needs to adequately represent the external influences on behavior.

16. The Central Model • The Key Behavioral Actors: • Domestic Households, buying consumer goods and housing • Domestic Businesses, buying machines or building factories & offices or stocking goods in inventory • Foreign buyers and suppliers • Some Government Agencies Whose Behavior is “Regular”

17. The Central Model • The Key Exogenous Influences • Domestic Government tax, transfer and purchasing decisions (that change on an irregular basis) • Domestic Central Bank “control” of the money supply and interest rates • The International Counterparts to these • International Commodity Markets and Cartel Behavior

18. A First Model • 7 Endogenous/ Behavioral Variables (Including ID’s) and 7 Equations • Consumer Spending : C=f ( YD, i ) • Business Spending : I = f ( d GNP, i) • Imports : M = f ( C, I , i ) • Exports : X = f ( GNPW, i ) • Total Output=Spending : • GNP = C+I+X-M+G • After-tax Income : YD = GNP - T • Inflation : d P = f ( GNP )

19. A First Model • 4 Exogenous/Policy Variables • Government Purchases : G • Taxes (Net of Transfers) : T • Interest Rate : i • Rest-of-World Demand : GNPW • Omitted Variables • Wealth • Supply Capacity

20. A Pure “Forecaster’s “Use of the Model • A “forecaster” hopes to be given or to be able to estimate the exogenous variable values in order to solve for the endogenous variables • In a proper model, given values for each of the 4 exogenous variables, there should be a unique solution for the 7 endogenous variables

21. A Pure Policy-Maker’s Use of the Model • A policy-maker really wants to invert the model, to solve for the policy choices (exogenous variables) that will produce favored economy-wide (endogenous variable) outcomes • Could an omniscient and omnipotent policy maker in control of all four policy variables hit targets for all seven behavioral variables? If he/she controlled only 2 policies, could he/she hit 2 targets?