INTRODUCTION TO MACROECONOMICS

What Is Macroeconomics? Macroeconomics is the study of collections of people and firms and how their interactions through markets determine the overall economic activity in a country or region. The other main area of economics, microeconomics, focuses on the study of individual people, firms, or markets. These two branches, however, are much closer than their standard separation into different courses would lead you to believe. Just as cosmologists who study black holes draw on concepts both large (general relativity) and small (quantum mechanics), macroeconomists look to individual behavior—which economists refer to as “microfoundations”—in creating their theories of aggregate economic activity. In this sense, macroeconomics is just one large black hole! One good way to get a sense of macroeconomics is to consider the questions it deals with, some of the most important in all of economics: • Why is the typical American today more than 10 times richer than the typical American a century ago? • Why is the American of today 50 times richer than the typical Ethiopian? Some of the data that motivate these first two questions are shown in Figure 1.1, a graph of GDP per person since 1870 for six countries. (GDP stands for gross domestic product, an overall measure of income that we will study in more detail in Chapter 2.) • How do we understand the global financial crisis, the Great Recession, and the European debt crisis of recent years? As shown in Figure 1.2, this latest recession has seen the largest sustained decline in employment in the United States in many decades. More generally, what causes recessions and booms in the overall economy? • What determines the rate of inflation; that is, what determines how rapidly prices are increasing in an economy? Why was inflation so high in much of the world in the 1970s, and why has it fallen so dramatically in many of the richest countries since the early 1980s? These facts are shown in Figure 1.3. Why do some countries experience hyperinflation, where the price level can explode and rise by a thousandfold or more, essentially rendering the currency worthless? • Why has the unemployment rate—the fraction of the labor force that