Macro Economics

By

Muruganantham.GMBA, M.Phil, UGC-NET, Ph.D

Asst Professor - DOMS - NITT.

Applicability and uses of Economics

Economics covers almost every important aspect of human life – the past, the present and the future.

A sound knowledge will help to analyse the problems like poverty, unemployment, inflation, deflation, low std of living, rural backwardness, etc.

It helps the government, the businessmen, the industrialists to make decisions on the pattern of production… decision making..what to produce?, how to produce?, for whom to produce?

Planning the resources, Theories of economics guide the gn to formulate policies.

MACRO ECONOMICS Differences between Micro and Macro Economic concepts - National

Income concepts - National Income and Business cycles - Keynisian Theory of employment - Marginal efficiency of the capital - Multiplier and Accelerator concepts.

Inflation, Type of inflation - Fiscal and Monetary policies - Function of Central Bank and Commercial Banks - Credit creation by the Commercial Banks - Recent reforms in banking function.

Planning in India - Economic Globalisation - India’s Foreign trade - Trade Regulation and promotion - Intellectual Property Rights.

Balance of payment - Foreign Exchange Market - FEMA - Convertibility of Rupee - WTO.

International Financial Institution - Euro Market and developments.

MACRO ECONOMICS

Text/Reference Books:

1. Dewat. K.K., Modem Economic Theory, S. Chand & Co, New Delhi, 2005.

2. Ahuja.H.L., Economic Environment of Business, S. Chand & Co, New Delhi, 2005.

3. Franchis Chernilam., Business Environment, Himalaya Publishing, New Delhi, 2005.

4. Franchis Chernilam., International Economics, Tata McGraw Hill, New Delhi, 2008.

 

EconomicsGreek word Oikos means a House nemein means to manage “House hold management”

Definitions:1) Adam Smith (1723-1790) ..Father of EconomicsSeparated economics from politics An Enquiry into the nature and causes of wealth of

nations – 1776.………… “Science of Wealth”…..

It deals with acquisition, accumulation and expenditure of wealth(-) Too materialistic, neglect welfare………………

2) Prof .Alfred Marshall (1842-1924)

Economics is a study of mankind in the ordinary Business of life, it examines that part of individual and social action which is most closely connected with the attainment and with use of material requisites of well-being.

Welfare definition…attainment of welfare is the end of all economic activities.

(-)Concept of welfare is very vague, subjective, variable from persons to person.

Welfare is psychological feeling – can’t be measured and compared.……..

3)Robbins’ Scarcity Definition:

Economics is a science which studies human behaviour as a relationship between ends and scarce means which have alternative uses

Ends-Unlimited human wants, innumerable, recurring in natureScarce -scarcity of resources or inadequacy of resources

(+) more analytical and scientific.(-) economic growth, problem of unemployment, income generation,

stability of price1930’s great depression was not due to any scarcity…over production or

abundance of goods in the USA.……………..4)Samuelson’s Growth Definition:Economics is the study as to how societies use scarce resources to

produce valuable commodities and distribute them among different people.

Rationale, dynamic, comprehensive and generally acceptable definitionIncorporated all the ideas of fore runners.

Divisions of Economicsa. Consumption

using up of goods and services to satisfy human wants. Total Q of goods bought and consumed by consumers during a

period Human want or desire necessitates consumption and

consumption in turn necessitates production. Consumption is the first economic activity. Higher the consumption levels indicates higher levels of standard

of living of the people of a country.

Divisions of Economics..b. Production: Provision of G&S that satisfy human wants. Production warrants the employment of four factors of

production, viz., land, labour, capital and organisation Level of production of G&S in a country determines the

quantum of its National income. Aim of production is to increase the economic welfare. Division of labour, specialisation, economies of scale.

c. ExchangeConnects consumption and production

Divisions of Economics cont..d. Distribution: By distribution in economics mean pricing of factors land, labour,

capital and organisation Analysing how wealth produced by combination of factors Under distribution theories of rent, wages, interest and profit are

analysed.

e. Public finance: Branch of economics deals with the revenue and expenditure of all

types of governmental authorities. GN undertakes public expenditure to increase the welfare of the

people. Focuses public revenue, expenditure, debt, taxation, budgets.

Managerial Decision Problems

Economic theoryMicroeconomicsMacroeconomics

Decision SciencesMathematical Economics

Econometrics

MANAGERIAL ECONOMICSApplication of economic theory

and decision science tools to solvemanagerial decision problems

OPTIMAL SOLUTIONS TOMANAGERIAL DECISION PROBLEMS

Types of Economic system

Economic System

Sum of various individuals and economic institutionsWhat to produce?, How to produce?, For whom to produce?"economic systems" refers to the organizational arrangements and

process through which a society makes its production and consumption decisions.

a. Traditional Economy: “Tradition and cultures”

a. Capitalism or Market Economy: Private Individuals own the property “Profit is the Motive for production”

Economic System cont..c. Socialist Economy or Command Economy:GN plays a dominant role. Collective ownership of all means of

production. Role of Markets and competition are eliminated by law. Opposite to capitalism.

d. Mixed Economy: GN and private sector Economic system combining the features of socialism and capitalism

Karl Marx ..Communist..all resources are publicly owned with an intent of minimizing inequalities of wealth among other social objectives.

a branch of the broader socialist movement

Economic System cont..

• Marxism version of socialism, with some important modifications, adopted by

the Soviet Union under Stalin. It shaped the Soviet Union and influenced Communist Parties

worldwide.

possibility of building communism via a massive program of industrialization.

Introduction to Macro Economics

The Term Micro and Macro Economics-coined –Norwegian Economist … Ragnar Fricsh in 1933Separate Branch came into existence in 1936

Book – The General Theory of employment, interest, and money-laid foundation of macro economics.

Studies the behaviour of not one particular unit, but of all the units combined together….study of aggregates……often called Aggregative Economics

Study of overall conditions of an economy- (total) production, consumption, consumption, savings and investments.

Macro Economics

Theory of economic growth….long run growth of income, output, employment

Popularity- formulation and successful execution of governmental economic policies…policy science….provides framework and instruments for restructuring the economy for growth and stability

National income Internationally some countries are wealthy, some countries are not wealthy and some

countries are in-between.

Under such circumstances, it would be difficult to evaluate the performance of an economy. Performance of an economy is directly proportionate to the amount of goods and services produced in an economy.

Measuring national income is also important to chalk out the future course of the economy. It also broadly indicates people’s standard of living.Income can be measured by Gross National Product (GNP), Gross Domestic Product (GDP), Net National Product (NNP) and Net National Income (NNI).

GDP Refers to the value of the goods and services produced within the nation’s geographical territory, irrespective of the ownership of the resources.

In the production process a country may use machines and equipments. When there is depreciation, we have to repair or replace machines and equipments. The expenses incurred for this is called the depreciation

expenditure. Net National Product is calculated by deducting depreciation expense from

gross national product.

NNP = GNP – Depreciation……………..

NI = NNP - Indirect Taxes + Subsidies

Handloom and Khadar products were given rebate during festival seasons like Onam, Christmas and Bakrid. Say 20% rebate is given for handloom products. What do you mean by this? Goods worth Rs.100/- is given to the consumer for Rs.80/- The balance of Rs.20/- is given by the Government as subsidy. If you want to know the original price of handloom products sold during the festival seasons, naturally you have to add the subsidy given to the sale price of the product.

Calculating National Income As per National Income Accounting there are 3 ways to compute GDP:Or There are various methods for calculating the national income such as

production method, income method and expenditure method.

Production Method (Calculating the total production)

The production method gives us national income or national product based on the final value of the produce and the origin of the produce in terms of the industry. All producing units are classified sector wise.

Primary sector is divided into 1)agriculture, 2)Forestry and fisheries, 3)MiningSecondary sector consists of 4) manufacturing, 5) Electricity, Gas and water

supply, 6)constructionTertiary sector is divided into 7) trade,hotels and restaurants, 8) transport,

storage and communication, 9)banking and insurance 10) Real estate11) Public administration 12) other services.

Income Method:

Calculating the total incomes received by factors of production – labour & capital

Different factors of production are paid for their productive services rendered to an organization.

GNI = Rent + Wage + Interest + Profit

Expenditure Method:

The various sectors – the household sector, the government sector, the business sector.

Calculating the total expenditure of all the entities

GNI = Individual Expenditure + Government Expenditure.

• So, which ever way you take it, each of the estimates, should provide you the same GDP.

• Amol Agrawal ………..But all these calculations have errors and in reality we never have one figure.

• In India, for all these years we have been getting GDP Product-wise i.e. Now, for the first time, CSO has released GDP based on expenditure.

(2007)

• The method of Calculating India GDP is the expenditure method, which is, GDP = consumption + investment + (government spending) + (exports-imports)

and the formula is GDP = C + I + G + (X-M)

• Where, C - stands for consumption which includes personal expenditures pertaining to food, households, medical expenses, rent, etc

• I - stands for business investment as capital which includes construction of a new mine, purchase of machinery and equipment for a factory, purchase of software, expenditure on new houses, buying goods and services but investments on financial products is not included as it falls under savings

• G- stands for the total government expenditures on final goods and services which includes investment expenditure by the government, purchase of weapons for the military, and salaries of public servants

• X - stands for gross exports which includes all goods and services produced for overseas consumption

• M - stands for gross imports which includes any goods or services imported for consumption and it should be deducted to prevent from calculating foreign supply as domestic supply.

(http://business.mapsofindia.com/india-gdp/calculating.html)

Significance

Per Capita Income (PCI)This is the average annual income of the people of a country. It is obtained by dividing national income by the population.

The India Gross Domestic Product is worth 1217 billion dollars or 1.96% of the world economy, according to the World Bank.

Services are the major source of economic growth, accounting for more than half of India's output with less than one third of its labor force.

The economy has posted an average growth rate of more than 7% in the decade since 1997, reducing poverty by about 10 percentage points.

SOURCE: http://www.tradingeconomics.com/Economics/

GDP growth 6.7% (2008/2009) GDP per capita $1,032 (2009)GDP by sector - agriculture: 17.5%, industry: 20% and services: 62.6% (2009 est.)

Central Statistical Organisation (CSO; http://mospi.gov.in/cso_test1.htm) collects data on GDP from which GDP growth rate is calculated. CSO is a body which comes under Ministry of Statistics and Programme Implementation (www.mospi.gov.in)

Some economists have felt that GNP has a measure of national income has limitation, since they exclude poverty, literacy, public health, gender equity and other measures of human prosperity.

An exception is that illegal goods and services are often excluded even if they are sold at economically significant prices.

Windfall gains –Prizes won, lottery

Difficulties in Calculation of National Income

The first attempt to calculate National Income of India was made by Dadabhai Naroji in 1867 -68. The first official attempt was made by Prof.P.C.Mahalnobis in 1948-49, who submitted his report in 1954.

In India there are various difficulties in calculating the national incomes. The most severe one is the finding of reliable data. Most of the time, it is based on assumptions.

The two major problems which remain in the calculation of National Income are:

• Most of the data is not from the current year. • Even if current data are available then values are underreported.

Obstacles in High Growth of National Income of India

Obstacles in High Growth of National Income of India

• Slow growth of agricultural sector• Defect in planning• Rapid growth of population.• Under-utilisation of the productive capacity of machines• Poverty• In terms of higher education it has achieved tremendous success, but its

unsatisfactory performance in primary education and secondary education has been a major obstacle to growth.

• Similarly India’s healthcare system is in a less than desirable state. • Governments’ spending on public health has not been up to the required

levels.

Business Cycle

Theory of Employment

Classical view …..Modern viewClassical economist assumed that the prevalence of full

employmentAssumptions:Full employment of labour and other productive resources.Flexibility of prices and wages to bring about full Employment.Wage cut will increase – full employment……cost

If any time unemployment persists for a long time-interference by

the gn or private monopoly.General over production - general unemployment will not happen.

Say’s Law……“Supply creates its own demand”…..

Supply creates income in the form of wages, interest and profit.Foundation of classical economicsAcc to the law …there will always be a sufficient rate of total

spendingConsumption is co-existence with production

Basic assumption of say’s law1. Law can operate only in a free-exchange economy-perfect

freedom for the buyers to buy and sellers to sell.2. there is free flow of money incomes-incomes are spent

immediately

3.Savings are equal to investment and this equality is brought about by flexible interest rate.

4.The gn follows the policy of laissez-faire….doesn’t interfere in any manner with the operation of the market

forces.( no expenditure, tax, subsidies, price control, etc…closed economy)

5. The size of the market is limited by the vol of production-only then demand equal supply or supply create its own demand.

Criticism:1.Supply may not create its own demand-part of the income is

saved2.Employment can’t be increased….wage cut. unionsLow income, less effective demand and less vol of employmentDemand determines employment and employment determinesMarginal productivity – employment can’t be increased by

manipulating wages -

3. Assumption of free and perfect competition is not realistic4.can’t explain the occurrence of trade cycles5.Not explain how the level of employment is determined.

Keynesian Theory of employment

“Volume of employment depends on the level of National Income and output”

Increase in national income ->increase in employmentLarger the volume of employment, larger the NI and vice versa……………..Basic idea or starting point of Keynesian theory of employment is

the principle of effective demandThe level of employment in the short run will depend on

aggregate effective demand for goods in the country.

Greater the aggregate demand- greater will be the volume of employment.

Effective demand represents the total money spent on consumption and investment

Total national expenditure is equal to total national income which is equal to national output.

Effective demand = national income=national output.Deficiency of effective demand is due to the gap between income

and consumptionThe gap must be filled up by increasing investment.

KEYNESIAN THEORY HAS GREATER RELAVANCE TO THE WORLD OF REALITY.

…….Keynes theory relates to macro economics – dominated

economic thinking for nearly 50 yearsStarted the macro-approach to the study of economicsCompletely demolished the idea of full employmentIncrease in Investment………..>Increase in employmentTheory applies to all economic situations, whether full

employment or under employment.

Practical Importance: Government intervention is important Deficit budgeting required – creating new money Emphasized fiscal policy for checking inflation, monetary policy

to control cyclical fluctuations.

Marginal efficiency of capital

Investment, in the theory of income and employment, means an addition to the nations physical stock of capital like building of new factories, new machines as well as any addition to the stock of finished goods or the goods in the pipeline of production.

Net addition to the capital over a period of time. year Investment has to create income and employment.

Types of investment:

1.Gross vs Net ( Gross Investment – depreciation)In the theory of income and employment, investment means only net 2.Ex-ante vs ex-postInvestment may be Ex-ante or planned or anticipated or intended investmentEx-post : not planned

3. Private investment vs public investment:Private investment: private individual or entrepreneursInfluenced by

Marginal efficiency of capital (Profit expectations)

public investment by the government – social good and not for private gain

4. Autonomous investment vs induced investment:Autonomous investment – independent of the level of income. Not vary with

level of income.Investment which varies with the changes in national income is called

induced investment. NI increases , aggregate demand too increases.

Factors affecting investment1. Marginal efficiency of capital 2. Rate of interestEx: Man borrows money to invest.

Keynes: the yield expected from a new unit of capital is called.

MEC must never fall below the current rate of interest, if investment is to be worthwhile.

Marginal efficiency of investment is the highest expected rate of profit which is likely to be had by a marginal increase in the rate of investment.

Investment Demand curve

Marginal efficiency of capital falls as investment increase.Reasons: Installation of a larger number of similar machines leads to a reduction in

their prospective yields. Prices of such machines will go up as their demand increases.

Multiplier

Keynes income or investment multiplierConsumption- amount spend on consumption at a given level of income.Consumption function - propensity to consume ( tendency or inclination)

shows consumption expenditure at various levels of income.

Factors influencing consumption: The real income of individual His past savings rate of interest

Higher the propensity to consume the higher will be the level of income and employment in the country.

MultiplierWhen investment is increased then level of income and employment rises.

How much or how many times income increases as investment is done.

Keynes multiplier theory attaches great importance to increase in public investment and government expenditure for raising the level of Income and employment.

Keynes multiplier is known as Keynes investment multiplier or keynes income multiplier

The multiplier describes the relationship between investment and income.The effect of investment on income.

AcceleratorThe principle of acceleration dates back to 1914 and beyond.J,M.Clark mainly responsible for popularising it.It has proved to be a useful tool of economic analysis, keynes entirely ignored.

When income increases, people's spending power increases Their consumption increases and consequently demand for consumer

goods increases. In order to meet this enhanced demand, investment must increase to raise

the productivity capacity of the community. All this leads to increase in profits which will induce entrepreneurs to

expand their plants by increasing their investments. Thus , a rise in income leads to a further induced investment. The accelerator is the numerical value of the relation between an increase

in income and resulting increase in investment.

Multiplier vs accelerator

The multiplier shows the effect of a change in investment on income whereas the accelerator shows the effect of increase in income on investment.

Multiplier ultimately depends on psychology. Accelerator depends on technology. – given amount of capital( machine)

is required to produce a given amount of final product.

Inflation

InflationIncrease in the general level of price in the economy that is sustained over a

period of time.Economic condition where there is a rise in prices resulting fall in the

purchasing power of money.

a) Unmanageable demand - beyond the output capacity due to Increase in money supply Increase in disposable income, Increase in salary and wages Increase in population

b) No corresponding increase in output Scarcity of factors of production, Infrastructure, Increase in exports, deficiency of capital equipment, natural calamities, industrial sickness.

Agricultural products.. Due to monsoon failureOil imports (Imported inflation)., Black money,

Cost push inflation Demand pull inflation

Effect of inflation on economic growtha) Low rate of inflation – High rate of growth (West Germany)b) High rate of inflation - High rate of growth ( Japan)c) High rate of inflation – Low rate of growth (UK)d) Low rate of inflation – low rate of growth (India)

Stagflation: Inflation and stagnation.

WPIIndex of the average price of all commodities produced and transacted in

the economy at the wholesale price level.

Base : 1970-71 = 100, 1993-94 .. 435 items

Manufactured products – 63.74 %

Primary products – 22.02 %

Fuel and energy – 14.22 %

Computational ease and availability of data.

CONSUMER PRICE INDEX (CPI)

(Base : 1960 = 100)

Industrial workers. Urban non-manual employees. Agricultural labourers.

Inflation control measures

Monetary policy Fiscal policy

Monetary PolicyOperates thro availability of credit.Modern economy - credit economy

Measures taken by RBI1. Open Market operations (OMO) RBI sells and buys bonds.

2. Cash Reserve Ratio (CRR) Percentage of deposits that every bank has to keep with RBI.

3. Statutory Liquidity Ratio (SLR) Percentage of deposits that banks have to deploy in government securities.

4. Repo Rate Rate at which RBI releases funds into the system.

Fiscal PolicyGovernment policy which is concerned with raising revenue thro taxation and

deciding on the level and pattern of expenditure.

Objectives: Economic Growth Promotion of employment Stabilisation of economy Economic equity

Objectives vary from country to country.. E,P,S conditions vary

Fiscal policy operates thro the budget (Budgetary Policy)

Revenue…….Investment

Banking Sector Reforms

one of the major objectives of banking sector reforms has been to enhance efficiency and productivity through competition.

Since 1993, twelve new private sector banks have been set up. A reduction in the Government shareholding in public sector banks to 51

per cent.

As a major step towards enhancing competition in the banking sector, foreign direct investment in the private sector banks is now allowed up to 74 per cent, subject to conformity with the guidelines issued from time to time.

Unemployment

Situation in which people are able and willing to work at the prevailing wage rate do not find job.

Unemployment = labour force – No of Employedlabour force (age 15 to 65 yrs)= No of Employed + No of unemployedNot include…Full time students, Full time house wives, Retired.. No of EmployedUnemployment Rate = …………………………………………. X 100 Labour Force

271 days of work is considered as Full Employment.

LPG

THE INDUSTRIAL POLICY - 1991

On July 24, 1991, union Government - New Industrial Policy - liberalize Indian Economy.

OBJECTIVES

To attain technological dynamism and international competitiveness.

To maintain a sustained growth in productivity and gainful employment.

To accelerate the Industrial growth, by removing administrative controls.

Liberalisation

L - Liberalization - Trade barriers

Removing license raj

Freeing Economy From Government Control

350 %.............20%

Liberalisation aided competition in the market, by increasing the basket of goods and services with better quality and lower prices.

WTO.... LIC, FDI....CAR

Significance LPG – World

L - Liberalization - Trade barriersP - Privatization - Reducing Government stake

G – Globalization

Competition

Indian economy/Market

“One world – One Market”

Globalisation

• Globalisation - Integrating the economy of a country with the world economy.

• Increased mobility of persons, goods, capital, data and ideas but also infections, diseases and pollution.

• "let's stay home, let's copy or imitate, and let's compete on price".

• Single Market - Borderless World.

Chinese technology major Huawei has filed for over 200 patents from its India R&D centre and continues to expand its operations with an accent on localisation. The India R&D centre, its largest outside China, is part of the $16-billion Huawei Technologies’ - 12 globally-dispersed research centres, seven of them located in China.

The India’s Opportunity

More than 1 billion consumersGrowing Disposable Income

Young Population 54% less than 25 years

Strong GDP growth

Focus on Rural and InfrastructureWell developed capital marketStrong hub for manufacturing.

Indian MNC’s – Investing overseas

Ranbaxy - sold 100, mfu - 7, cor.off - 34

Delhi - Moser Baer - 20% CD

Adhiya Birla group - 10 countries

Sundaram Fasteners - mfu unit in china

Asian paints - 24 countries.

Globalization

AdvantageGDP - Growth

India can attract huge FDIWide Choice of quality goods

Employment opportunity.

Disadvantages

Local players severely affected.

India is becoming production base

Hyundai, Ford, BMW..NOKIA, Ericssion

Fifty percent of Fortune 500 companies have moved to India for outsourcing

R&D Center

Globalisation and HRM

• Human resources as a function have undergone dramatic changes in the last decade.

• Today we have a new employment arrangement, a new relationship between employers and employees, a new meaning to work, all designed and influenced by market forces.

• Globalisation opened the talent Search

• Demand and Supply

• Employee Turn over Rate

• Reverse Brain Drain.