Macroeconomics-1Macroeconomics-1

Overview of Macroeconomics and Overview of Macroeconomics and National IncomeNational Income

Microeconomics Vs MacroeconomicsMicroeconomics Vs Macroeconomics

Microeconomics is concerned with parts of the Microeconomics is concerned with parts of the economy rather than with the economy as a wholeeconomy rather than with the economy as a whole

Microeconomics is the economics of individual units, Microeconomics is the economics of individual units, households and business firms, as they carry on their households and business firms, as they carry on their activities.activities.

The pricing and output of the goods and services that The pricing and output of the goods and services that make up the flow from firms to households are also make up the flow from firms to households are also the concern of microeconomics, as are the pricing and the concern of microeconomics, as are the pricing and employment of each of the many resources that employment of each of the many resources that constitute the flow from households to firmsconstitute the flow from households to firms

Microeconomics Vs MacroeconomicsMicroeconomics Vs Macroeconomics

Macroeconomics is the study of the behaviour of the Macroeconomics is the study of the behaviour of the economy as a whole, rather than in terms of individual economy as a whole, rather than in terms of individual economic units or specific products, resources and prices.economic units or specific products, resources and prices.

It examines the forces that affect many firms, consumers and It examines the forces that affect many firms, consumers and workers at the same timeworkers at the same time

As such it is the aggregate flows that are more important As such it is the aggregate flows that are more important rather than the items that make up each flow.rather than the items that make up each flow.

Macroeconomics is particularly concerned with problems of Macroeconomics is particularly concerned with problems of 1.1. Economic stabilityEconomic stability2.2. Causes and control of inflation and depressionCauses and control of inflation and depression3.3. Aggregate level of employmentAggregate level of employment4.4. Problems of economic growth and developmentProblems of economic growth and development

Major concerns of Macroeconomics Major concerns of Macroeconomics Output and EmploymentOutput and Employment

Why do output and employment sometimes fall and Why do output and employment sometimes fall and how can unemployment be reduced?how can unemployment be reduced?

All market economies show patterns of expansion All market economies show patterns of expansion and contraction known as business cycles. One key and contraction known as business cycles. One key goal of macroeconomics is to use monetary and fiscal goal of macroeconomics is to use monetary and fiscal policy to reduce the severity of business cycle policy to reduce the severity of business cycle downturns and unemploymentdownturns and unemployment

Macroeconomics examines the sources of persistent Macroeconomics examines the sources of persistent unemployment and also suggests possible remedies, unemployment and also suggests possible remedies, such as increasing aggregate demand or reforming such as increasing aggregate demand or reforming labour market institutionslabour market institutions

Major concerns of MacroeconomicsMajor concerns of MacroeconomicsInflationInflation

What are the sources of inflation and how can it be What are the sources of inflation and how can it be kept under control?kept under control?

Macroeconomic policy has increasingly emphasised Macroeconomic policy has increasingly emphasised price stability as a key goalprice stability as a key goal

When prices are rapidly rising we experience When prices are rapidly rising we experience inflation, where prices as a means to measure inflation, where prices as a means to measure economic values and do business loses its value.economic values and do business loses its value.

Macroeconomics can suggest the proper role of Macroeconomics can suggest the proper role of monetary and fiscal policies, exchange rate systems monetary and fiscal policies, exchange rate systems and also central bank in containing inflationand also central bank in containing inflation

Major concerns of MacroeconomicsMajor concerns of MacroeconomicsEconomic GrowthEconomic Growth

Macroeconomics is concerned with economic Macroeconomics is concerned with economic growth, which refers to the growth in the growth, which refers to the growth in the productive potential of an economy.productive potential of an economy.

An economy’s productive potential is the An economy’s productive potential is the central factor in determining the growth in its central factor in determining the growth in its real wages and living standardsreal wages and living standards

Rapid economic growth requires free markets, Rapid economic growth requires free markets, high rates of saving and investment, low trade high rates of saving and investment, low trade barriers and honest government.barriers and honest government.

Objectives of MacroeconomicsObjectives of MacroeconomicsEmploymentEmployment

High level of employment with low High level of employment with low involuntary unemployment is one of the most involuntary unemployment is one of the most important goals of macroeconomics important goals of macroeconomics

The unemployment rate tends to reflect the The unemployment rate tends to reflect the state of the business cycle: when output is state of the business cycle: when output is falling the demand for labour falls and falling the demand for labour falls and unemployment rate risesunemployment rate rises

Objectives of MacroeconomicsObjectives of MacroeconomicsPrice Stability-1Price Stability-1

Price stability means that the overall price level is Price stability means that the overall price level is either unchanged or rising very slowly (low rates of either unchanged or rising very slowly (low rates of inflation)inflation)

Inflation is considered to be undesirable because of Inflation is considered to be undesirable because of its adverse effects on income distribution, lending and its adverse effects on income distribution, lending and borrowing, speculation and international trade borrowing, speculation and international trade competetivenesscompetetiveness

(people with fixed incomes suffer, there is (people with fixed incomes suffer, there is speculation which drives away resources from speculation which drives away resources from industry into property and commodity speculation, industry into property and commodity speculation, exports become relatively more expensive and exports become relatively more expensive and exports cheaperexports cheaper

Objectives of MacroeconomicsObjectives of MacroeconomicsPrice Stability-2Price Stability-2

Hyperinflation or galloping inflation:- is very Hyperinflation or galloping inflation:- is very serious because people lose confidence in the serious because people lose confidence in the use of money for exchange purposes and the use of money for exchange purposes and the economic system might collapseeconomic system might collapse

Inflation occurs mainly due toInflation occurs mainly due to 1) demand pull inflation:- caused by excess 1) demand pull inflation:- caused by excess

supply of money andsupply of money and 2) cost-push inflation mainly due to 2) cost-push inflation mainly due to

excessive rise in wage ratesexcessive rise in wage rates

Objectives of MacroeconomicsObjectives of MacroeconomicsPrice Stability-3Price Stability-3

Deflation is a reduction in the level of Deflation is a reduction in the level of national income and output usually national income and output usually accompanied by a fall in the general price accompanied by a fall in the general price levellevel

A deflation is often deliberately brought about A deflation is often deliberately brought about by the authorities in order to reduce inflation by the authorities in order to reduce inflation and to improve the balance of payments by and to improve the balance of payments by reducing import demand.reducing import demand.

Objectives of Macroeconomics Objectives of Macroeconomics OutputOutput

The most comprehensive measure of the total output The most comprehensive measure of the total output in an economy is the in an economy is the Gross Domestic Product (GDP)Gross Domestic Product (GDP)

GDP is the measure of the market value of all final GDP is the measure of the market value of all final goods and services produced in a country in a yeargoods and services produced in a country in a year

Nominal GDP :- is measured in actual market pricesNominal GDP :- is measured in actual market prices Real GDP :- is calculated in constant or invariant Real GDP :- is calculated in constant or invariant

pricesprices

Instruments of Macroeconomics Instruments of Macroeconomics

1.1. Fiscal Policy denotes the use of taxes and Fiscal Policy denotes the use of taxes and government expenditure government expenditure

2.2. Monetary Policy acts through managing the Monetary Policy acts through managing the nation’s money credit and banking system. nation’s money credit and banking system. This acts primarily through various interest This acts primarily through various interest rates.rates.

Aggregate DemandAggregate Demand Aggregate demand refers to the total amount that Aggregate demand refers to the total amount that

different in the economy willingly spend in a given different in the economy willingly spend in a given periodperiod

Aggregate demand is the sum of spending by Aggregate demand is the sum of spending by consumers, businesses and governmentsconsumers, businesses and governments

The components of aggregate demand include The components of aggregate demand include consumption goods bought by consumers, factories consumption goods bought by consumers, factories and equipment bought by businesses, government, and equipment bought by businesses, government, expenditure (equipment etc) and exportsexpenditure (equipment etc) and exports

Aggregate demand depends on the level of prices, Aggregate demand depends on the level of prices, monetary policy, fiscal policy and other factors monetary policy, fiscal policy and other factors

Aggregate SupplyAggregate Supply

Aggregate supply refers to the total quantity of Aggregate supply refers to the total quantity of goods and services that the nation’s businesses goods and services that the nation’s businesses willingly produce and sell in a given period.willingly produce and sell in a given period.

Aggregate supply depends on the price level, Aggregate supply depends on the price level, the productive capacity of the economy and the productive capacity of the economy and the level of costs. the level of costs.

Gross National ProductGross National Product Gross National Product (GNP) is the value of all final Gross National Product (GNP) is the value of all final

goods and services produced by domestically owned goods and services produced by domestically owned factors of production within a given period.factors of production within a given period.

GNP is the value of final goods and services GNP is the value of final goods and services produced. The insistence on final is simply to make produced. The insistence on final is simply to make sure that we do not double count.sure that we do not double count.

GNP consists of the value of output currently GNP consists of the value of output currently produced. It thus excludes transaction in commodities produced. It thus excludes transaction in commodities which are already in existencewhich are already in existence

GNP values goods at market prices. The market price GNP values goods at market prices. The market price includes indirect taxes, such as sales tax, excise tax includes indirect taxes, such as sales tax, excise tax etc. (Market price- taxes= factor cost)etc. (Market price- taxes= factor cost)

Net National Product or National Net National Product or National IncomeIncome

Net National Product (NNP) is defined as GNP less Net National Product (NNP) is defined as GNP less depreciationdepreciation

NNP = GNP – DepreciationNNP = GNP – Depreciation Depreciation is that part of total productive assets Depreciation is that part of total productive assets

which is used to replace the capital worn –out in the which is used to replace the capital worn –out in the process of creating national outputprocess of creating national output

The net output gives the measure of net output The net output gives the measure of net output available for consumption by the societyavailable for consumption by the society

Since the NNP is the measure of the market value of Since the NNP is the measure of the market value of all goods and services minus depreciation, it is also all goods and services minus depreciation, it is also called National Income at Market Pricescalled National Income at Market Prices

National Income at Factor Cost or National Income at Factor Cost or National IncomeNational Income

The value of output measured at factor cost is The value of output measured at factor cost is referred to as National Income at Factor Cost.referred to as National Income at Factor Cost.

It is the sum of all incomes earned by factor It is the sum of all incomes earned by factor owners for their contribution of factor services, owners for their contribution of factor services, viz., land, labour, capital and enterprise in the viz., land, labour, capital and enterprise in the form of rent, wages, interest and profitform of rent, wages, interest and profit

It shows the quantum of economic resources It shows the quantum of economic resources required to produce the net output.required to produce the net output.

NI = NNP – Indirect Taxes + SubsidiesNI = NNP – Indirect Taxes + Subsidies

Gross Domestic ProductGross Domestic Product

Gross Domestic Product (GDP) is the value of final Gross Domestic Product (GDP) is the value of final goods produced within the countrygoods produced within the country

The difference between GNP and GDP:- Part of GNP The difference between GNP and GDP:- Part of GNP is earned abroad, e.g. income of Indians working is earned abroad, e.g. income of Indians working abroad is part of GNP but not GDPabroad is part of GNP but not GDP

But on the other hand income of a foreign national But on the other hand income of a foreign national working in India is part of Indian GDP but not Indian working in India is part of Indian GDP but not Indian GNP, because it is earned in India. It is part of GNP GNP, because it is earned in India. It is part of GNP of that countryof that country

Gross Domestic Product at Market Gross Domestic Product at Market PricesPrices

GDP at market price refers to the total value of goods GDP at market price refers to the total value of goods and services, produced inside the country in a given and services, produced inside the country in a given year.year.

GDPmp = C + I + G + (X – M)GDPmp = C + I + G + (X – M) C - ConsumptionC - Consumption I - Investment or capital goodsI - Investment or capital goods G – Government ExpenditureG – Government Expenditure X- ExportsX- Exports M- ImportsM- Imports

Gross Domestic Product at Factor Gross Domestic Product at Factor Cost Cost

GDPfc = GDPmp- IT + SGDPfc = GDPmp- IT + S GDPfc - Gross Domestic Product at Factor GDPfc - Gross Domestic Product at Factor

Cost Cost GDPmp - Gross Domestic Product at Market GDPmp - Gross Domestic Product at Market

PricesPrices IT – Indirect TaxesIT – Indirect Taxes S- SubsidiesS- Subsidies

National Income at Current PricesNational Income at Current Prices

When goods and services produced in a given year When goods and services produced in a given year are multiplied with their current market prices, we get are multiplied with their current market prices, we get national income at current prices.national income at current prices.

The value of national income at current prices The value of national income at current prices changes according to the changes in priceschanges according to the changes in prices

When we measure, national income at current prices, When we measure, national income at current prices, what we get is the what we get is the nominal national income nominal national income

Thus during a period of price rise, the nominal Thus during a period of price rise, the nominal national Income would rise even when the physical national Income would rise even when the physical quantity of output produced remains constantquantity of output produced remains constant

National Income at Constant PricesNational Income at Constant Prices

National Income at Constant Prices or the Real National Income at Constant Prices or the Real National Income measures changes in Physical output National Income measures changes in Physical output in the economy between different time periods by in the economy between different time periods by valuing all goods produced in the two periods at the valuing all goods produced in the two periods at the same prices or constant prices.same prices or constant prices.

In order to find out the real rise in national income, In order to find out the real rise in national income, the physical quantity of output should be multiplied the physical quantity of output should be multiplied with constant prices or base year prices.with constant prices or base year prices.

This process is called deflating the national income This process is called deflating the national income figures for the change in prices that have taken place figures for the change in prices that have taken place during a period.during a period.

Deflating the NIDeflating the NI

The national income at current prices is The national income at current prices is deflated by price index numbers to obtain deflated by price index numbers to obtain national income at constant prices.national income at constant prices.

NI at Constant Prices = (NI at Current Prices/ NI at Constant Prices = (NI at Current Prices/ Price Index Number) * 100Price Index Number) * 100

Estimationg NI at Constant PricesEstimationg NI at Constant Prices

YearYear NI at NI at Current Current prices Rs. prices Rs. CroresCrores

WPI (1981-WPI (1981-82 prices)82 prices)

NI at NI at Constant Constant Prices (Rs. Prices (Rs. Crores) Crores)

1990-911990-91 477.8477.8 191.8191.8 249.1249.1

1991-921991-92 552.8552.8 217.8217.8 253.8253.8

1992-931992-93 630.2630.2 233.1233.1 270.3270.3

1993-941993-94 723.1723.1 258.3258.3 279.9279.9

1994-951994-95 854.1854.1 285.2285.2 299.5299.5

Price IndicesPrice Indices

A price index is a measure of the average level of A price index is a measure of the average level of prices.prices.

It is a weighted average of the prices of selected It is a weighted average of the prices of selected goods, services, commodities or financial assets goods, services, commodities or financial assets measured over timemeasured over time

Inflation denotes a rise in the general level of pricesInflation denotes a rise in the general level of prices Deflation is the opposite of inflation and occurs when Deflation is the opposite of inflation and occurs when

the general level of prices is falling.the general level of prices is falling.

Consumer Price Index-1Consumer Price Index-1

The Consumer Price Index (CPI) compares the total The Consumer Price Index (CPI) compares the total money that is required to purchase a given basket of money that is required to purchase a given basket of consumption goods and services, over a period of consumption goods and services, over a period of time, in percentage termstime, in percentage terms

The basket represents the actual consumption pattern The basket represents the actual consumption pattern of a typical family from a specific group, for which of a typical family from a specific group, for which CPI is being constructed.CPI is being constructed.

Some such groupings are urban industrial workers, Some such groupings are urban industrial workers, agricultural labourers, urban non-manual employees agricultural labourers, urban non-manual employees etc.etc.

Consumer Price Index-2Consumer Price Index-2

In order to construct the index for a given In order to construct the index for a given year with reference to a base year, the year with reference to a base year, the following information is requiredfollowing information is required

1.1. Consumption basket in the base yearConsumption basket in the base year

2.2. Prices of the items in the basket in the base Prices of the items in the basket in the base yearyear

3.3. Respective prices for each item in the given Respective prices for each item in the given yearyear

Wholesale Price Index-1Wholesale Price Index-1 The construction method of the Wholesale Price Index The construction method of the Wholesale Price Index

(WPI) is similar to that of CPI. But there are some (WPI) is similar to that of CPI. But there are some differences, they are as followsdifferences, they are as follows

1.1. The items included in WPI are different from that of the The items included in WPI are different from that of the CPI. The WPI includes items like industrial raw materials, CPI. The WPI includes items like industrial raw materials, semi finished goods, minerals, fertilizers, machinery, semi finished goods, minerals, fertilizers, machinery, equipment etc. in addition to items from food, fuel, and equipment etc. in addition to items from food, fuel, and powerpower

2.2. The WPI can be considered as an index of prices paid by The WPI can be considered as an index of prices paid by producers for their inputs.producers for their inputs.

3.3. Prices are whole sale pricesPrices are whole sale prices4.4. Weights are based on the value of transaction in the various Weights are based on the value of transaction in the various

items in the base year.items in the base year.

Wholesale Price Index-2Wholesale Price Index-2

The main groups of items are:The main groups of items are: Primary Articles:- food grains like rice, wheat, Primary Articles:- food grains like rice, wheat,

non food items like raw cotton, jute, minerals non food items like raw cotton, jute, minerals like iron ore, manganese ore. (in all there are like iron ore, manganese ore. (in all there are 80 primary articles)80 primary articles)

Manufactured articles- 270 itemsManufactured articles- 270 items Fuel, power, lubricants- 10 itemsFuel, power, lubricants- 10 items

Measurement of National IncomeMeasurement of National Income

In NI estimates all goods and services produced and In NI estimates all goods and services produced and exchanged for money during a year are taken into exchanged for money during a year are taken into account.account.

NI can be estimated at three different levels, viz., NI can be estimated at three different levels, viz., production, distribution and expenditureproduction, distribution and expenditure

Thus there are three methods of measuring national Thus there are three methods of measuring national income, they areincome, they are

1.1. The Census of Products method or output methodThe Census of Products method or output method2.2. The Census of Income Method or Factor Income The Census of Income Method or Factor Income 3.3. The Expenditure MethodThe Expenditure Method

The Census of Products MethodThe Census of Products Method

This method is used in USA, where it is also This method is used in USA, where it is also known as Total Product Method or Goods known as Total Product Method or Goods Flow MethodFlow Method

According to this method, the economy is According to this method, the economy is classified into three sectors, viz., industry, classified into three sectors, viz., industry, services and external sectorservices and external sector

Census of Income MethodCensus of Income Method

This method is also known as Factor Income This method is also known as Factor Income MethodMethod

This method looks at income from the This method looks at income from the distribution point of viewdistribution point of view

The NI is obtained by adding up the incomes The NI is obtained by adding up the incomes of all individuals of the country in the form of of all individuals of the country in the form of rent, wages, interests, profits and incomes of rent, wages, interests, profits and incomes of self employed personsself employed persons

The Expenditure Method The Expenditure Method This method is also known as the ‘Consumption and This method is also known as the ‘Consumption and

Investment Method’Investment Method’ NI from expenditure point of view is the sum of NI from expenditure point of view is the sum of

consumption expenditure and investment expenditure consumption expenditure and investment expenditure According to this method NI is computed in the following According to this method NI is computed in the following

mannermanner1.1. Estimate private and public consumption expenditureEstimate private and public consumption expenditure2.2. Add the value of investment in fixed capital and stocksAdd the value of investment in fixed capital and stocks3.3. Add the value of net exports and net receiptsAdd the value of net exports and net receipts