CHAPTER 1
Introduction
KEY IDEAS IN THIS CHAPTER
1. The primary questions of interest in macroeconomics involve the causes of long-run
growth and business cycles and the appropriate role for government policy in
influencing the economic performance of a nation.
2. Modern macroeconomics analyzes issues associated with long-run growth and
business cycles, using models that are based on microeconomic principles.
3. Macroeconomists rely primarily on abstract models to draw conclusions about how
the macroeconomy works because it is usually very costly or impossible to
experiment with the real world economy.
4. There is relatively little disagreement among macroeconomists concerning
approaches to modeling economic growth, but there are contentious issues in
modeling business cycles.
NEW IN THE SEVENTH EDITION
1. Charts and tables have been updated.
2. Revisions were required to include information on the Global Pandemic.
TEACHING GOALS
Macroeconomics is a field of economics that primarily studies economic growth and
business cycles. Over time, there has been an upward trend in the standard of living.
However, such growth can be erratic. There are some periods of rapid growth, some
periods of rather anemic growth, and also some periods of temporary economic decline.
Explanations for the overall upward trend in standards of living are the subject
of economic growth analysis. Explanations of variations in growth over shorter time
horizons are the subject of business cycle analysis. Students should be able to distinguish
between microeconomic topics and macroeconomic topics. Students should understand
the distinction between growth analysis and business cycle analysis.
Although microeconomics and macroeconomics are separate branches of study, both
branches are guided by the same set of economic principles. Standard economic theory is
guided by the assumption of maximizing behaviour. As a first approximation, we
therefore view the macroeconomy as a collection of markets with maximizing
Copyright © 2026 1–1
,Instructor’s Manual for Macroeconomics, Seventh Canadian Edition
participants. These participants are price-taking agents and the economy is closely
approximated by a competitive equilibrium.
Because the economy as a whole is extremely complex, macroeconomists must rely on
abstract models. Although the structure of such models does not include all the details of
life in a complex society, these models offer the best hope of providing simple, yet
accurate, descriptions of how the macroeconomy works, and how government policies
may affect macroeconomic outcomes.
Economists are in broad consensus about the mechanisms of economic growth. There is
less agreement about the causes and consequences of business cycles. Careful study
concludes that most business cycles are very similar in many ways. Therefore,
macroeconomists are in search of a logically consistent paradigm for the typical business
cycle. Currently popular explanations of the “typical” business cycle include New
Keynesian sticky-price models, and real business cycle models.
CLASSROOM DISCUSSION TOPICS
One good way to get the ball rolling is to list some macroeconomic concerns like stagnant
economic growth, unemployment, inflation, government budget deficits, tax burdens,
trade deficits, financing of government entitlement programs, and the like. Ask students
whether they are personally concerned about such problems and what ideas they might
have about causes and effects. Sometimes students express concerns about topics such as
inequality in the distribution of income and environmental concerns. Emphasize that the
purpose of the course is to develop a set of basic macroeconomic models and tools, and
that we can adapt these models to deal with a wide array of problems.
It would be worthwhile to take a little time to review the definition of macroeconomics
and review the distinction between microeconomics and macroeconomics. Take
care to point out that their understanding of how the demand and supply model of
microeconomics works is the key to the understanding how markets in macroeconomics
work. This approach should help retain students’ motivation as they switch from
microeconomics to macroeconomics.
Students often have conflicting ideas about the current state of the economy. Sometimes
their perspectives may be governed by their individual circumstances and by what they
read in the media. Ask them whether they believe that times are currently good or bad.
Ask them why they think the way they do. Ask them how they can more objectively back
up or check out their casual impressions about the current state of the economy.
Students are interested in economic growth, unemployment, inflation, government budget
deficits, and trade deficits. An effective way to motivate this chapter and attract students’
attention would be to cast these topics in terms of what the economy will be like when
they graduate. The quantity of goods and services produced per capita has expanded more
than a factor of 16 since 1870. Ask them whether they expect this to continue. Ask them
if they think the economy will be booming or in a recession when they graduate. Will
1–2 Copyright © 2026
, Chapter 1: Introduction
jobs be plentiful or scarce when they graduate? Ask them what observations led them to
their forecasts. Present a selection of published forecasts to show students the range of
what economists are forecasting for the upcoming years. Emphasize that economists
forecast the path of the economy but they cannot do so with certainty.
Students may be particularly interested in the Global Pandemic, and how to explain its
effects on the economy. They may also be interested in the response of the government
and the Bank of Canada to the pandemic, and recent Canadian experience with inflation.
Growth has on average been lower over that period than was the case before the financial
crisis. Why? Is there an impending recession? Why or why not? Emphasize that there is
plenty of off-the-shelf theory that can be brought to bear to organize our thinking about
these issues.
OUTLINE
1. What Is Macroeconomics?
2. Gross Domestic Product, Economic Growth, and Business Cycles
a) Adjustments for Inflation and Population Growth
b) Historical Per Capita Real GDP Growth Perspectives
c) The Great Depression and World War II: Business Cycles
d) Growth Measurement
e) Trend and Cyclical Components
3. Macroeconomic Models
a) Modelling in General
b) Rational Behaviour
c) Competitive Equilibrium
4. Microeconomic Principles
a) When Do Microeconomic Reactions Affect Macroeconomic Outcomes?
b) Rational Expectations and the Lucas Critique
5. Disagreement in Macroeconomics
a) Solow Growth Model and Endogenous Growth Models
b) Keynesian and non-Keynesian Models
c) Real Business Cycle Theory
d) Sticky Price Model
Copyright © 2026 1–3
,Instructor’s Manual for Macroeconomics, Seventh Canadian Edition
6. What Do We Learn from Macroeconomic Analysis?
a) Fundamentals: Preferences and Productive Capacity
b) The Efficiency of Economic Outcomes
c) The Role of Unemployment
d) Technological Progress and the Standard of Living
e) Tax Policy
f) Expectations
g) Inflation: Phillips Curves and Fisher Relations
h) Causes of Business Cycles
i) Gains from International Trade and Effects on Business Cycles
j) Inflation and Money Growth
7. Understanding Recent and Current Macroeconomic Events
a) Productivity
b) Government Income, Government Outlays, and the Government Deficit
c) Unemployment
d) Inflation
e) Interest Rates
f) International Trade
g) Business Cycles
TEXTBOOK PROBLEM SOLUTIONS
1. Calculating Growth Rates Data:
a) Actual Percentage Growth Rates, 2019–2021
2019 0.43492
2020 -6.0875
2021 4.40805
b) Approximate Percentage Growth Rates, 2019–2021
2019 0.43398
2020 -6.28067
2021 4.31366
The approximation is close. The approximation works well for small growth rates.
1–4 Copyright © 2026
, Chapter 1: Introduction
c) Actual Percentage Growth Rates for Decades, 1950–2010
1960 21.00106
1970 37.11574
1980 29.17544
1990 14.85149
2000 19.60446
2010 8.524124
Approximate Percentage Growth Rates, 1950–2010
1960 19.06291
1970 31.56552
1980 25.60013
1990 13.84697
2000 17.90200
2010 8.746056
The approximation errors are larger because the growth rates are larger. Note that
the approximation formula actually calculates the continuously compounded
growth rate.
d) Growth is highest in the 1970s. Growth is lowest for 2000–2010.
2. The variability of real GDP per capita was larger before World War II than after, even
if we ignore the Great Depression and World War II. This could just be a
measurement issue, as the national income accounts data were not collected in a
systematic way until the 1920s. Also, it is possible that the lower variability after
World War II was due to the sound judgment of macroeconomic policymakers, who
took appropriate action at the right times. Finally, it is possible that the lower
variability in post-World War II times was just a happy accident.
3. A problem with controlled experiments in economics is that we may cause irreparable
harm. However, it would be hard to imagine a policy change that would make the
Copyright © 2026 1–5
, Instructor’s Manual for Macroeconomics, Seventh Canadian Edition
Great Depression any worse than it actually was. Though the Great Depression was
largely imported from other countries—the United States in particular—possibly a
strong response from the Canadian federal government may have helped. Note that
Canada did not have a central bank before 1935, so the Bank of Canada was not in a
position to do anything early in the Great Depression, as it did not exist.
4. Newton’s model of falling bodies:
Ignores air resistance.
Works well for most dense objects and does not work well for feathers.
Diagrams of plays in football and basketball:
Ignore the characteristics of individual players and the reactions of opponents.
Work well for evenly matched teams.
Scale models of new aircraft designs:
Ignore working engines and interior contents.
Wind tunnel testing approximates aerodynamics of actual aircraft.
5. During the Global Pandemic, tax revenue for the government fell, as a large fraction
of the population was not working, and some businesses were fully or partially shut
down. As well, the government was spending more, through such programs as CERB.
So, falling tax revenue and increased government spending both acted to reduce the
government surplus.
6. The long run level of unemployment depends on demographic factors and on
government intervention. For example, young people tend to have high
unemployment rates, and more generous unemployment insurance tends to increase
the unemployment rate, as this makes unemployment less costly, so the unemployed
tend to search longer for a job. The Canadian population has aged on average since
the 1970s and unemployment insurance is less generous. So both factors have caused
a long run decline in the unemployment rate in Canada.
7. Inflation and nominal interest rates certainly move together––they are positively
correlated. But do movements in the nominal interest rate cause movements in the
inflation rate, or vice versa? This is hard to determine just from looking at the data,
but there appears to be a pattern of increases (decreases) in the nominal interest rate
leading increases (decreases) in the inflation rate, perhaps indicating that the former is
causing the latter.
8. If the average nominal interest rate consistent with 2% inflation falls, and if the Bank
of Canada pursues a policy of cutting nominal interest rates when a recession occurs,
this can lead to a problem, in that the nominal interest rate cannot go below zero. That
is, the Bank of Canada could more frequently be setting interest rates to zero, and not
be able to decrease interest rates further.
1–6 Copyright © 2026
Introduction
KEY IDEAS IN THIS CHAPTER
1. The primary questions of interest in macroeconomics involve the causes of long-run
growth and business cycles and the appropriate role for government policy in
influencing the economic performance of a nation.
2. Modern macroeconomics analyzes issues associated with long-run growth and
business cycles, using models that are based on microeconomic principles.
3. Macroeconomists rely primarily on abstract models to draw conclusions about how
the macroeconomy works because it is usually very costly or impossible to
experiment with the real world economy.
4. There is relatively little disagreement among macroeconomists concerning
approaches to modeling economic growth, but there are contentious issues in
modeling business cycles.
NEW IN THE SEVENTH EDITION
1. Charts and tables have been updated.
2. Revisions were required to include information on the Global Pandemic.
TEACHING GOALS
Macroeconomics is a field of economics that primarily studies economic growth and
business cycles. Over time, there has been an upward trend in the standard of living.
However, such growth can be erratic. There are some periods of rapid growth, some
periods of rather anemic growth, and also some periods of temporary economic decline.
Explanations for the overall upward trend in standards of living are the subject
of economic growth analysis. Explanations of variations in growth over shorter time
horizons are the subject of business cycle analysis. Students should be able to distinguish
between microeconomic topics and macroeconomic topics. Students should understand
the distinction between growth analysis and business cycle analysis.
Although microeconomics and macroeconomics are separate branches of study, both
branches are guided by the same set of economic principles. Standard economic theory is
guided by the assumption of maximizing behaviour. As a first approximation, we
therefore view the macroeconomy as a collection of markets with maximizing
Copyright © 2026 1–1
,Instructor’s Manual for Macroeconomics, Seventh Canadian Edition
participants. These participants are price-taking agents and the economy is closely
approximated by a competitive equilibrium.
Because the economy as a whole is extremely complex, macroeconomists must rely on
abstract models. Although the structure of such models does not include all the details of
life in a complex society, these models offer the best hope of providing simple, yet
accurate, descriptions of how the macroeconomy works, and how government policies
may affect macroeconomic outcomes.
Economists are in broad consensus about the mechanisms of economic growth. There is
less agreement about the causes and consequences of business cycles. Careful study
concludes that most business cycles are very similar in many ways. Therefore,
macroeconomists are in search of a logically consistent paradigm for the typical business
cycle. Currently popular explanations of the “typical” business cycle include New
Keynesian sticky-price models, and real business cycle models.
CLASSROOM DISCUSSION TOPICS
One good way to get the ball rolling is to list some macroeconomic concerns like stagnant
economic growth, unemployment, inflation, government budget deficits, tax burdens,
trade deficits, financing of government entitlement programs, and the like. Ask students
whether they are personally concerned about such problems and what ideas they might
have about causes and effects. Sometimes students express concerns about topics such as
inequality in the distribution of income and environmental concerns. Emphasize that the
purpose of the course is to develop a set of basic macroeconomic models and tools, and
that we can adapt these models to deal with a wide array of problems.
It would be worthwhile to take a little time to review the definition of macroeconomics
and review the distinction between microeconomics and macroeconomics. Take
care to point out that their understanding of how the demand and supply model of
microeconomics works is the key to the understanding how markets in macroeconomics
work. This approach should help retain students’ motivation as they switch from
microeconomics to macroeconomics.
Students often have conflicting ideas about the current state of the economy. Sometimes
their perspectives may be governed by their individual circumstances and by what they
read in the media. Ask them whether they believe that times are currently good or bad.
Ask them why they think the way they do. Ask them how they can more objectively back
up or check out their casual impressions about the current state of the economy.
Students are interested in economic growth, unemployment, inflation, government budget
deficits, and trade deficits. An effective way to motivate this chapter and attract students’
attention would be to cast these topics in terms of what the economy will be like when
they graduate. The quantity of goods and services produced per capita has expanded more
than a factor of 16 since 1870. Ask them whether they expect this to continue. Ask them
if they think the economy will be booming or in a recession when they graduate. Will
1–2 Copyright © 2026
, Chapter 1: Introduction
jobs be plentiful or scarce when they graduate? Ask them what observations led them to
their forecasts. Present a selection of published forecasts to show students the range of
what economists are forecasting for the upcoming years. Emphasize that economists
forecast the path of the economy but they cannot do so with certainty.
Students may be particularly interested in the Global Pandemic, and how to explain its
effects on the economy. They may also be interested in the response of the government
and the Bank of Canada to the pandemic, and recent Canadian experience with inflation.
Growth has on average been lower over that period than was the case before the financial
crisis. Why? Is there an impending recession? Why or why not? Emphasize that there is
plenty of off-the-shelf theory that can be brought to bear to organize our thinking about
these issues.
OUTLINE
1. What Is Macroeconomics?
2. Gross Domestic Product, Economic Growth, and Business Cycles
a) Adjustments for Inflation and Population Growth
b) Historical Per Capita Real GDP Growth Perspectives
c) The Great Depression and World War II: Business Cycles
d) Growth Measurement
e) Trend and Cyclical Components
3. Macroeconomic Models
a) Modelling in General
b) Rational Behaviour
c) Competitive Equilibrium
4. Microeconomic Principles
a) When Do Microeconomic Reactions Affect Macroeconomic Outcomes?
b) Rational Expectations and the Lucas Critique
5. Disagreement in Macroeconomics
a) Solow Growth Model and Endogenous Growth Models
b) Keynesian and non-Keynesian Models
c) Real Business Cycle Theory
d) Sticky Price Model
Copyright © 2026 1–3
,Instructor’s Manual for Macroeconomics, Seventh Canadian Edition
6. What Do We Learn from Macroeconomic Analysis?
a) Fundamentals: Preferences and Productive Capacity
b) The Efficiency of Economic Outcomes
c) The Role of Unemployment
d) Technological Progress and the Standard of Living
e) Tax Policy
f) Expectations
g) Inflation: Phillips Curves and Fisher Relations
h) Causes of Business Cycles
i) Gains from International Trade and Effects on Business Cycles
j) Inflation and Money Growth
7. Understanding Recent and Current Macroeconomic Events
a) Productivity
b) Government Income, Government Outlays, and the Government Deficit
c) Unemployment
d) Inflation
e) Interest Rates
f) International Trade
g) Business Cycles
TEXTBOOK PROBLEM SOLUTIONS
1. Calculating Growth Rates Data:
a) Actual Percentage Growth Rates, 2019–2021
2019 0.43492
2020 -6.0875
2021 4.40805
b) Approximate Percentage Growth Rates, 2019–2021
2019 0.43398
2020 -6.28067
2021 4.31366
The approximation is close. The approximation works well for small growth rates.
1–4 Copyright © 2026
, Chapter 1: Introduction
c) Actual Percentage Growth Rates for Decades, 1950–2010
1960 21.00106
1970 37.11574
1980 29.17544
1990 14.85149
2000 19.60446
2010 8.524124
Approximate Percentage Growth Rates, 1950–2010
1960 19.06291
1970 31.56552
1980 25.60013
1990 13.84697
2000 17.90200
2010 8.746056
The approximation errors are larger because the growth rates are larger. Note that
the approximation formula actually calculates the continuously compounded
growth rate.
d) Growth is highest in the 1970s. Growth is lowest for 2000–2010.
2. The variability of real GDP per capita was larger before World War II than after, even
if we ignore the Great Depression and World War II. This could just be a
measurement issue, as the national income accounts data were not collected in a
systematic way until the 1920s. Also, it is possible that the lower variability after
World War II was due to the sound judgment of macroeconomic policymakers, who
took appropriate action at the right times. Finally, it is possible that the lower
variability in post-World War II times was just a happy accident.
3. A problem with controlled experiments in economics is that we may cause irreparable
harm. However, it would be hard to imagine a policy change that would make the
Copyright © 2026 1–5
, Instructor’s Manual for Macroeconomics, Seventh Canadian Edition
Great Depression any worse than it actually was. Though the Great Depression was
largely imported from other countries—the United States in particular—possibly a
strong response from the Canadian federal government may have helped. Note that
Canada did not have a central bank before 1935, so the Bank of Canada was not in a
position to do anything early in the Great Depression, as it did not exist.
4. Newton’s model of falling bodies:
Ignores air resistance.
Works well for most dense objects and does not work well for feathers.
Diagrams of plays in football and basketball:
Ignore the characteristics of individual players and the reactions of opponents.
Work well for evenly matched teams.
Scale models of new aircraft designs:
Ignore working engines and interior contents.
Wind tunnel testing approximates aerodynamics of actual aircraft.
5. During the Global Pandemic, tax revenue for the government fell, as a large fraction
of the population was not working, and some businesses were fully or partially shut
down. As well, the government was spending more, through such programs as CERB.
So, falling tax revenue and increased government spending both acted to reduce the
government surplus.
6. The long run level of unemployment depends on demographic factors and on
government intervention. For example, young people tend to have high
unemployment rates, and more generous unemployment insurance tends to increase
the unemployment rate, as this makes unemployment less costly, so the unemployed
tend to search longer for a job. The Canadian population has aged on average since
the 1970s and unemployment insurance is less generous. So both factors have caused
a long run decline in the unemployment rate in Canada.
7. Inflation and nominal interest rates certainly move together––they are positively
correlated. But do movements in the nominal interest rate cause movements in the
inflation rate, or vice versa? This is hard to determine just from looking at the data,
but there appears to be a pattern of increases (decreases) in the nominal interest rate
leading increases (decreases) in the inflation rate, perhaps indicating that the former is
causing the latter.
8. If the average nominal interest rate consistent with 2% inflation falls, and if the Bank
of Canada pursues a policy of cutting nominal interest rates when a recession occurs,
this can lead to a problem, in that the nominal interest rate cannot go below zero. That
is, the Bank of Canada could more frequently be setting interest rates to zero, and not
be able to decrease interest rates further.
1–6 Copyright © 2026
