Introduction toTopics in Macroeconomics 2
Chapter 1
Topics in Macroeconomics 2
Economics DivisionUniversity of Southampton
February 1 & 5, 2010
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Course Outline
Topics in Macroeconomics 2
Alice Schoonbroodt
◮ E-mail:
[email protected]◮ Web site:
http://www.economics.soton.ac.uk/staff/alicesch/Teaching.htm◮ Office Hours:
Wednesdays from 14:00 to 16:00 or by appointment
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Course Outline
Topics in Macroeconomics 2
Textbook
◮ Williamson, Stephen D., “Macroeconomics” Pearson /Addison Wesley.
Meetings (see Timetable.pdf)
◮ 20 Lectures: Weeks 18 to 23; Weeks 29 to 32
Note 1: Independent study week: Week 24 but...
Note 2: February 26: cancelled, recup March 15 (Week 24)
Note 3: May 3: Bank Holiday, recup May 17 (Week 33)
◮ 8 Master Classes: Weeks 20 to 23; Weeks 29 to 32
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Course Outline
Topics in Macroeconomics 2
Assessment
Weight Date
Quiz I 5% March 8, 2010during Lecture
Quiz II 5% May 14, 2010during Lecture
Exam 90% During the final exam period
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Course Outline
Macroeconomics
What Do We Study in Macroeconomics?
◮ The behaviour of large collections of economic agents◮ The behaviour of governments◮ The overall level of economic activity◮ The economic interaction among nations◮ The effects of fiscal and monetary policy
Main Issues in Macroeconomics
◮ Long-run growth◮ Business Cycles
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Course Outline
Course Outline
Part I: Intro and Measurement Issues
1. Introduction
2. Measurement
3. Business Cycles Measurement
Part II: A One-period Model of the Macroeconomy
4. Consumer and Firm behaviour
5. A Closed-Economy One-Period Macroeconomic Model
Part III: Economic Growth (independent study week)
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Course Outline
Course Outline (cont.)
Part IV: Savings, Government Deficits and Investment
8. A Two-Period Model: The Consumption-Savings Decision
9. A Real Intertemporal Model with Investment
Part V: Money and Business Cycles
10. A Monetary Intertemporal Model: The Neutrality of Money
11. Market-Clearing Models of the Business Cycle
12. Keynesian Business Cycle Theory: The Sticky WageModel (if time allows)
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Macroeconomics
What Do We Study in Macroeconomics?
◮ The behaviour of large collections of economic agents◮ The behaviour of governments◮ The overall level of economic activity◮ The economic interaction among nations◮ The effects of fiscal and monetary policy
Main Issues in Macroeconomics
◮ Long-run growth◮ Business Cycles
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Aggregate Production
Gross Domestic Product (GDP)Monetary value of final output produced during a given periodof time within the borders of a country
Real GDP per capita(adjusts for inflation and population growth)One measure of a country’s standard of living
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Figure 1: Real GDP per capita since 1900(year 2003 pounds)
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Source: Lawrence H. Officer, "What Was the U.K. GDP Then?", MeasuringWorth.Com, 2007.
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Some Observations
◮ There has been sustained economic growth in per capitaGDP during the 20th century
◮ In 1900 the average income for a Brit was approx. £4,000(2003 pounds)
◮ In 2006 it was almost £20,000
◮ Average Brit became almost 5 times richer in real terms in100 years
◮ Although growth was sustained it was not constant
◮ These fluctuations are called business cycles
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Unusual Business Cycle Events
◮ The Inter War and Great depression (1919–1937)◮ In 1918, Real GDP was 20% higher than in 1921 and 10%
higher than in 1932!
◮ The Second World War◮ From 1932 to 1943, real GDP per capita increased by 52%!
◮ Current events???
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Questions raised by Figure 1Motivation for this Course
◮ What causes sustained economic growth?◮ Could economic growth continue indefinitely, or is there
some limit to growth?◮ Is there anything that governments can or should do to
alter the rate of economic growth?◮ What causes business cycles?◮ Could the dramatic decreases and increases in economic
growth that occurred during the Great Depression andWWII be repeated?
◮ Should governments act to smooth business cycles?
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A Useful Transformation for Growing Time SeriesThe Natural Logarithm and the Rate of Growth
FactIf x is small, log(1 + x) ≈ x
Consider a time series yt , t = 1928, 1929, . . .Let gt denote the growth rate from period t − 1 to period t :
gt =yt
yt−1− 1
If gt is small, log(yt/yt−1) = log(1 + gt) ≈ gt
If we plot the natural log of GDP, the slope is the growth rate:log(yt ) − log(yt−1) = log(yt/yt−1) ≈ gt
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Figure 2: Natural Logarithm of Per Capita Real GDP
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Some Observations
◮ Growth was very low (negative) during the GreatDepression
◮ Growth was very high during WWII
◮ Other than these “unusual” events, log GDP is almost astraight line
◮ That means growth is fairly constant, around 2% per year
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Other Useful Transformations
Time series can be decomposed into two components:
◮ A growth or trend componentFor the most part, close to 2% per year for GDP
◮ A cyclical or business cycle componentThese are fluctuations around trend GDP
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Figure 3: Natural Logarithm of RGDP pc and Trend
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a Log RGDP per capita
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Figure 4: Percent Deviations from Trend in RGDP pc
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Macroeconomic Models
◮ Simplification of reality
◮ We want to keep models as simple as possible
◮ Capture the relevant features of the actual economy for thequestion one is trying to address
◮ Models are specific to the economic problem we want tostudy
◮ Abstracts from other features, even realistic ones
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Basic Structure of Macroeconomic Models I
◮ The consumers and firms that interact in the economy
◮ The set of goods that consumers wish to consume
◮ Consumers’ preferences over goods
◮ The technology available to firms for producing goods
◮ The resources available
Note: Models usually have a mathematical representation,which we will try to analyze in graphical terms
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Basic Structure of Macroeconomic Models II
◮ The behaviour of economic agents◮ We will assume that consumers and firms optimize
◮ How is consistency achieved between consumers andfirms?
◮ The economy must be in equilibrium
◮ We will use the competitive equilibrium concept◮ Goods are bought and sold on markets where consumers
and firms are price takers◮ Equilibrium is achieved when prices are such that supply
equals demand for all markets
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What Are Macroeconomic Models Used for?
◮ Before using the model for any purpose
◮ We want to make sure that the model makes sense for theparticular problem we want to study
◮ For example: if you study growth, there better be growth inthe model to start with
◮ This can be done analytically, graphically, or numerically
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What Are Macroeconomic Models Used for?
◮ Use the model to answer questions of interest
◮ Unlike the test above, we now want to answer questions forwhich we don’t know the answer!
◮ Example 1: how fast would the UK have grown in the lastcentury if capital income taxes had remained zerothroughout the century?
◮ Example 2: how should government expenditures befinanced in order to maximize growth (or welfare)?
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Microeconomic Principles
◮ The macroeconomy ultimately consists of manyconsumers and firms
◮ Macroeconomic behaviour results from manymicroeconomic decisions
◮ Government policies may affect behaviour in ways that arevirtually impossible to model at the aggregate level
◮ This is generally known as the Lucas Critique
◮ We now deal with rational expectations models, whichemphasize microeconomic foundations
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What Are we Going to Learn?
◮ What is produced and consumed in the economy isdetermined jointly by the economy’s productive capacityand the preferences of consumers
◮ In free market economies, there are strong forces that tendto produce socially efficient economic outcomes (AdamSmith’s invisible hand)
◮ There is no such thing as a free lunch — In particular, taxcuts are not free, nor are taxes in general
◮ What consumers and firms anticipate for the future willhave an important bearing on current macroeconomicevents
◮ Improvements in a country’s standard of living are broughtabout in the long run by technological progress
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Figure 5: Interest Rates and Inflation Rate
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Figure 6: Unemployment Rate
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Figure 1: UK Unemployment Rate, 1870-1999
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Figure 7: Deviations from Trend for Unemploymentand GDP (U.S.)
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To do:
◮ Read Chapter 1 in Williamson’s book
◮ Make sure you know the definitions and understand the“KEY TERMS” from this chapter (p. 32–34)
◮ Practice your knowledge by attempting to answer thequestions for review and solving (at least some of) theproblems (p.34–35)
◮ Let me know if you have any problems understanding earlyon!!!
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