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902mit01.ppt

Macroeconomics

Course Outline

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902mit01.ppt

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 appreciate the science, the art, the politics of macroeconomics.

You will laugh and groan at my occasional feeble humor.

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902mit01.pptWho Wants to be a Millionaire?

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902mit01.ppt

Course Strategy

Define the important concepts, magnitudes and questions in 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

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902mit01.pptWhat 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.

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902mit01.pptWhat 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.

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902mit01.pptWhat 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.

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902mit01.pptWhat 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.

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902mit01.pptWhy 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.

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902mit01.pptWhy 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.

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902mit01.pptThe 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?

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902mit01.pptThe 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?

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902mit01.pptThe 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.

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902mit01.pptThe 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?

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902mit01.pptThe 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.

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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”

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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

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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 )

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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

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902mit01.pptA 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

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902mit01.pptA 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?