C h a p t e r
4 A FIRST LOOK AT
MACROECONOMICS*
Key Concepts The most recent recession began in the first quarter of
2001 and ended in the third quarter of 2001. This
recession was milder than previous recessions.
Origins and Issues of Macroeconomics∗ ♦ Between 1972 and 2002, the growth rate of real
Modern macroeconomics began during the Great De- GDP in the United States was about equal to that
pression, 1929–1939. The Great Depression was a of the rest of the world but was more variable.
decade of high unemployment and stagnant produc- ♦ Between 1992 and 2002, of the advanced econo-
tion throughout the world. Macroeconomics initially mies Japan grew the slowest and the newly industri-
focused on short-term problems, such as high unem- alized nations of Asia grew the fastest.
ployment. Recently long-term problems, such as eco- The Lucas wedge is the accumulated loss of output that
nomic growth, are also considered vital. results from a slowdown in the growth rate of real GDP
per person. The productivity growth slowdown of the
Economic Growth 1970s has created a Lucas wedge of $48 trillion. The
Economic growth is the expansion of the economy’s Okun gap (the output gap) is the gap between real GDP
production possibilities. It is measured by the increase and potential GDP. The recessions since 1973 have
in real gross domestic product, also called real GDP. created an accumulated Okun gap of $2.5 trillion.
Real GDP is the value of the total production of all the Economic growth expands future consumption possi-
nation’s farms, factories, shops, and offices measured in bilities. However, economic growth allows less current
the prices of a single year. consumption as resources must be devoted to capital
Potential GDP is the quantity of real GDP that is accumulation and might lead to more rapid depletion
produced when all the economy’s labor, capital, land, of resources and more pollution.
and entrepreneurial ability are fully employed.
♦ The productivity growth slowdown was the slow-
Jobs and Unemployment
ing of the growth rate of output per person that oc-
curred during the 1970s. In 2003, 137 million people had jobs. More new jobs
The periodic but irregular up-and-down movement in are created during expansions and jobs are lost during
production is the business cycle. It occurs as real GDP recessions.
fluctuates irregularly around potential GDP. A business A person is unemployed if he or she does not have a job
cycle has four parts: but is looking for work. The unemployment rate is
♦ Trough — the lower turning point, when a reces- the number of unemployed workers as a percentage of
sion ends and an expansion begins. all the people who have jobs or are looking for one.
♦ Expansion — a period of time during which real ♦ Unemployment increases during a recession and
GDP increases. decreases during an expansion.
♦ Peak — the upper turning point, when an expan- ♦ The average unemployment rate in the United
sion ends and a recession begins. States is higher than in Japan, but lower than in
Canada and Europe.
♦ Recession — a period during which real GDP de-
creases for at least two successive quarters. Unemployment is a serious problem because unem-
ployed workers lose income and can find their future
job prospects limited.
∗
This is Chapter 20 in Economics.
67
, 68 CHAPTER 4 (20)
Inflation Achieving these challenges will help the economy.
The two general macroeconomic policy tools the gov-
The price level is the average level of prices. Inflation
ernment has at hand to help attain the five goals are:
occurs when prices rise. The inflation rate is the per-
centage change in the price level. Deflation occurs ♦ Fiscal policy — setting and changing tax rates and
when the inflation rate is negative so that the price level the amount of government spending. The federal
falls. In recent years, deflation has been rare in the government can use fiscal policy in efforts to ac-
United States. complish some of the policy challenges.
Inflation was high in the 1970s and early 1980s, but ♦ Monetary policy — changes in the interest rate
has been lower since then. The U.S. experience with and the amount of money in the economy. Mone-
inflation has been similar to that of other industrialized tary policy is under the control of the Federal Re-
nations. serve, or Fed. The Federal Reserve can use monetary
Inflation reduces the value of money, so unpredictable policy in order to meet some of the policy chal-
inflation makes transactions spread over time more lenges.
difficult to carry out. In times of high inflation, people
use resources to predict inflation rather than to produce
goods and services. A hyperinflation is a period when Helpful Hints
the inflation rate exceeds 50 percent per month. At
such rates, inflation causes economic chaos. 1. THE MACROECONOMIC CHALLENGES : The chap-
ter discusses five widely agreed upon macroeco-
Surpluses and Deficits nomic challenges. As you study the forthcoming
chapters, keep these challenges in mind because ul-
A government budget surplus occurs when the gov- timately we return to see what policies, if any, the
ernment collects more in taxes than it spends; a gov- government might adopt to help meet these goals.
ernment budget deficit occurs when the government While these challenges are widely agreed upon,
spends more than it collects in taxes. The U.S. federal there is dispute among economists about ranking
government had a surplus between 1998 to 2000 and a their importance as well as dispute about the
deficit after 2001. proper polices necessary to attain some of them.
The current account balance equals exports minus The first disagreement matters because at times the
imports plus interest income minus interest expense. goals collide, so that achieving one causes setbacks
Payments greater than (less than) receipts create a cur- in others. In this case, the decision whether attain-
rent account deficit (surplus). The United States has ing the first goal is worth the cost of falling behind
had a current account deficit since 1980. in others will differ from person to person. The sec-
Deficits used to finance investment are not necessarily ond area of contention can arise even with agree-
harmful; deficits used to finance consumption may be ment on the ranking of the goals. You will see in
troublesome because such deficits do not create the future chapters that there is disagreement amongst
income necessary to repay the debt incurred. macroeconomists about how to meet the macro-
economic challenges and that this can lead to dif-
ferent policy advice.
Macroeconomic Policy Challenges
and Tools
Five widely agreed upon challenges for macroeconomic Questions
policy are:
♦ Boost economic growth True/False and Explain
♦ Keep inflation low Origins and Issues of Macroeconomics
♦ Stabilize the business cycle 11. Modern macroeconomics was developed during the
♦ Reduce unemployment decade of the Great Depression.
♦ Reduce the government and international deficits 12. All macroeconomic goals are long-term goals.
4 A FIRST LOOK AT
MACROECONOMICS*
Key Concepts The most recent recession began in the first quarter of
2001 and ended in the third quarter of 2001. This
recession was milder than previous recessions.
Origins and Issues of Macroeconomics∗ ♦ Between 1972 and 2002, the growth rate of real
Modern macroeconomics began during the Great De- GDP in the United States was about equal to that
pression, 1929–1939. The Great Depression was a of the rest of the world but was more variable.
decade of high unemployment and stagnant produc- ♦ Between 1992 and 2002, of the advanced econo-
tion throughout the world. Macroeconomics initially mies Japan grew the slowest and the newly industri-
focused on short-term problems, such as high unem- alized nations of Asia grew the fastest.
ployment. Recently long-term problems, such as eco- The Lucas wedge is the accumulated loss of output that
nomic growth, are also considered vital. results from a slowdown in the growth rate of real GDP
per person. The productivity growth slowdown of the
Economic Growth 1970s has created a Lucas wedge of $48 trillion. The
Economic growth is the expansion of the economy’s Okun gap (the output gap) is the gap between real GDP
production possibilities. It is measured by the increase and potential GDP. The recessions since 1973 have
in real gross domestic product, also called real GDP. created an accumulated Okun gap of $2.5 trillion.
Real GDP is the value of the total production of all the Economic growth expands future consumption possi-
nation’s farms, factories, shops, and offices measured in bilities. However, economic growth allows less current
the prices of a single year. consumption as resources must be devoted to capital
Potential GDP is the quantity of real GDP that is accumulation and might lead to more rapid depletion
produced when all the economy’s labor, capital, land, of resources and more pollution.
and entrepreneurial ability are fully employed.
♦ The productivity growth slowdown was the slow-
Jobs and Unemployment
ing of the growth rate of output per person that oc-
curred during the 1970s. In 2003, 137 million people had jobs. More new jobs
The periodic but irregular up-and-down movement in are created during expansions and jobs are lost during
production is the business cycle. It occurs as real GDP recessions.
fluctuates irregularly around potential GDP. A business A person is unemployed if he or she does not have a job
cycle has four parts: but is looking for work. The unemployment rate is
♦ Trough — the lower turning point, when a reces- the number of unemployed workers as a percentage of
sion ends and an expansion begins. all the people who have jobs or are looking for one.
♦ Expansion — a period of time during which real ♦ Unemployment increases during a recession and
GDP increases. decreases during an expansion.
♦ Peak — the upper turning point, when an expan- ♦ The average unemployment rate in the United
sion ends and a recession begins. States is higher than in Japan, but lower than in
Canada and Europe.
♦ Recession — a period during which real GDP de-
creases for at least two successive quarters. Unemployment is a serious problem because unem-
ployed workers lose income and can find their future
job prospects limited.
∗
This is Chapter 20 in Economics.
67
, 68 CHAPTER 4 (20)
Inflation Achieving these challenges will help the economy.
The two general macroeconomic policy tools the gov-
The price level is the average level of prices. Inflation
ernment has at hand to help attain the five goals are:
occurs when prices rise. The inflation rate is the per-
centage change in the price level. Deflation occurs ♦ Fiscal policy — setting and changing tax rates and
when the inflation rate is negative so that the price level the amount of government spending. The federal
falls. In recent years, deflation has been rare in the government can use fiscal policy in efforts to ac-
United States. complish some of the policy challenges.
Inflation was high in the 1970s and early 1980s, but ♦ Monetary policy — changes in the interest rate
has been lower since then. The U.S. experience with and the amount of money in the economy. Mone-
inflation has been similar to that of other industrialized tary policy is under the control of the Federal Re-
nations. serve, or Fed. The Federal Reserve can use monetary
Inflation reduces the value of money, so unpredictable policy in order to meet some of the policy chal-
inflation makes transactions spread over time more lenges.
difficult to carry out. In times of high inflation, people
use resources to predict inflation rather than to produce
goods and services. A hyperinflation is a period when Helpful Hints
the inflation rate exceeds 50 percent per month. At
such rates, inflation causes economic chaos. 1. THE MACROECONOMIC CHALLENGES : The chap-
ter discusses five widely agreed upon macroeco-
Surpluses and Deficits nomic challenges. As you study the forthcoming
chapters, keep these challenges in mind because ul-
A government budget surplus occurs when the gov- timately we return to see what policies, if any, the
ernment collects more in taxes than it spends; a gov- government might adopt to help meet these goals.
ernment budget deficit occurs when the government While these challenges are widely agreed upon,
spends more than it collects in taxes. The U.S. federal there is dispute among economists about ranking
government had a surplus between 1998 to 2000 and a their importance as well as dispute about the
deficit after 2001. proper polices necessary to attain some of them.
The current account balance equals exports minus The first disagreement matters because at times the
imports plus interest income minus interest expense. goals collide, so that achieving one causes setbacks
Payments greater than (less than) receipts create a cur- in others. In this case, the decision whether attain-
rent account deficit (surplus). The United States has ing the first goal is worth the cost of falling behind
had a current account deficit since 1980. in others will differ from person to person. The sec-
Deficits used to finance investment are not necessarily ond area of contention can arise even with agree-
harmful; deficits used to finance consumption may be ment on the ranking of the goals. You will see in
troublesome because such deficits do not create the future chapters that there is disagreement amongst
income necessary to repay the debt incurred. macroeconomists about how to meet the macro-
economic challenges and that this can lead to dif-
ferent policy advice.
Macroeconomic Policy Challenges
and Tools
Five widely agreed upon challenges for macroeconomic Questions
policy are:
♦ Boost economic growth True/False and Explain
♦ Keep inflation low Origins and Issues of Macroeconomics
♦ Stabilize the business cycle 11. Modern macroeconomics was developed during the
♦ Reduce unemployment decade of the Great Depression.
♦ Reduce the government and international deficits 12. All macroeconomic goals are long-term goals.
