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Simon Fraser University
ECON 105
Gulriz Barkin

Chapter 6 ▯ What You Will Learn in This Chapter ▯ An overview of macroeconomics, the study of the economy as a whole, and how it differs from microeconomics ▯ The importance of thebusiness cycle and why policy-makers seek to diminish the severity of business cycles ▯ What long-run growth is and how it determines a country’s standard of living ▯ The meaning ofinflation and deflation and why price stability is preferred ▯ What is special about the macroeconomics of anopen economy, an economy that trades goods, services, and assets with other countries Macroeconomics vs. Microeconomics Let’s begin by looking more carefully at the difference between microeconomic and macroeconomic questions. MICROECONOMIC MACROECONOMIC QUESTIONS QUESTIONS Go to business school or take a How many people are employed job? in the economy as a whole? What determines the salary offeredWhat determines the overall by Citibank to Cherie Camajo, a salary levels paid to workers in a new Columbia MBA? given year? ▯ Microeconomics focuses on how decisions are made by individuals and firms and the consequences of those decisions. ▯ Example: How much it would cost for a university or collegeto offer a new course ─ the cost of the instructor’s salary, the classroom facilities, the class materials, and so on. Having determined the cost, the school can then decide whether or not to offer the course by weighing the costs and benefits. ▯ Macroeconomics examines the aggregate behavior of the economy (i.e. how the actions of all the individuals and firms in the economy interact to produce a particular level of economic performance as a whole). 1 Chapter 6 ▯ Example: Overall level of prices in the economy (how high or how low they are relative to prices last year) rather than the price of a particular good or service. Macroeconomics: The Whole is Greater Than the Sum of Its Parts ▯ Example: Paradox of thrift: when families and businesses are worried about the possibility of economic hard times, they prepare by cutting their spending. ▯ This reduction in spending depresses the economy asconsumers spend less and businesses react by laying off workers. ▯ As a result, families and businesses may end up worse off than if they hadn’t tried to act responsibly by cutting their sp ending. Macroeconomics: Theory and Policy ▯ In a self-regulating economy, problems such as unemployment are resolved without government intervention, through the working of the invisible hand. ▯ According to Keynesian economics, economic slumps are caused by inadequate spending and they can be mitigated by government intervention. ▯ Monetary policy uses changes in the quantity of money to alter interest rates and affect overall spending. ▯ Fiscal policy uses changes in government spending and taxes to affect overall spending. ECONOMICS IN ACTION FENDING OFF DEPRESSION • In 2008, the world economy experienced a severe financial crisis that was all too reminiscent of the early days of the Great Depression. • In the spring of 2009, the economic historians Barry Eichengreen and Kevin O’Rourke, reviewing the available data, pointed out that “globally, we are tracking or even doing worse than the Great Depression.” • But the worst did not come to pass. Why? • During the Great Depression, it was widely argued that the slump should simply be allowed to run its course. 2 Chapter 6 • In the early 1930s, some countries’ monetary authorities actually raised interest rates in the face of the slump, while governments cut spending and raised taxes—actions that deepened the recession. • In the aftermath of the 2008 crisis, by contrast, interest rates were slashed, and a number of countries, the United States included, used temporary increases in spending and reductions in taxes in an attempt to sustain spending. The Business Cycle ▯The business cycle is the short-run alternation between economic downturns and economic upturns. ▯A depression is a very deep and prolonged downturn. ▯Recessions are periods of economic downturns when output and employment are falling. ▯Expansions, sometimes called recoveries, are periods of economic upturns when output and employment are rising. Charting theBusiness Cycle ▯The point at which the economy turns from expansionto recession is a business-cycle peak. ▯The point at which the economy turns from recessionto expansion is a business-cycle trough. 3 Chapter 6 Defining Recessions and Expansions ▯ There is no exact way of defining recessions and expansions. But in Canada and many other countries adopt the rule that a recession is a period of at least two consecutive quarters during which the total output shrinks. ▯ In the U.S., the task of determining when a recession begins and ends is assigned to an independent panel of experts at the National Bureau of Economic Research (NBER). They look at a number of economic indicators, with the main focus on employment and production, but ultimately the panel makes a judgment call. ▯ In Canada, no one person or group has the official responsibility for dating and measuring business cycles. However, Statistics Canada partially fills this gap by publishing periodic ass essments. 4 Chapter 6 The Pain of Recession The unemployment rate, a measure of joblessness, rises sharply during recessions and usually falls during expansions. Taming the Business Cycle ▯Policy efforts undertaken to reduce the severity of recessions are called stabilization policy. ▯One type of stabilization policy ismonetary policy : changes in the quantity of money or the interest rate. ▯The second type of stabilization policy isfiscal policy: changes in tax policy, government spending, government transfers or a combination Long-run Economic Growth • Long-run economic growth is the sustained upward trend in the economy’s output over time. • A country can achieve a permanent increase in the standard of living of its citizens only through long-run growth. • A central concern of macroeconomics is what determines long-run economic growth. 5 Chapter 6 When Did Long-Run Growth Start? ▯Long-run growth is a relatively modern phenomenon. ▯From 1000 to 1800, real aggregate output around the world grew less than 0.2% per year, with population rising at about the same rate. ▯Economic stagnation meant unchanging living standards. For example, information on prices and wages from such sources as monastery records shows that workers in England weren’t significantly better off in the early eighteenth century than they had been five centuries earlier. ▯However, long-run economic growth has increased significantly since 1800. ▯In the last 50 years or so, real GDP per capita has grown about 2.1% per year. Aggregate Price Level The aggregate price levelis the overall level of prices in the economy Inflation and Deflation ▯A rising aggregate price level isinflation ▯A falling aggregate price level isdeflation ▯The inflation rate is the annual percent change in the aggregate prie c level ▯The economy has price stability when the aggregate price level is changing only sl
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