Mankiw-01-The Science of Macroeconomics

8/3/2019 Mankiw-01-The Science of Macroeconomics

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macroeconomicsfifth edition

N. Gregory Mankiw

PowerPointSlidesby Ron Cronovich

CHAPTER ONE

The Science ofMacroeconomics

2002 Worth Publishers, all rights reserved


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CHAPTER 1CHAPTER 1 The Science of MacroeconomicsThe Science of Macroeconomics slide 1

Learning objectivesLearning objectives

This chapter introduces you to

the issues macroeconomists study the tools macroeconomists use

some important concepts inmacroeconomic analysis


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Important issues in macroeconomicsImportant issues in macroeconomics

Why does the cost of living keep rising?

Why are millions of people unemployed,even when the economy is booming?

Why are there recessions?Can the government do anything to combatrecessions? Should it??


4/34CHAPTER 1CHAPTER 1 The Science of MacroeconomicsThe Science of Macroeconomics slide 3

Important issues in macroeconomicsImportant issues in macroeconomics

What is the government budget deficit?How does it affect the economy?

Why does the U.S. have such a huge tradedeficit?

Why are so many countries poor?What policies might help them grow out of

poverty?


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U.S. Gross Domestic ProductU.S. Gross Domestic Productin billions of chained 1996 dollarsin billions of chained 1996 dollars

3,000

4,000

5,000

6,000

7,000

8,000

9,000

10,000

1970 1975 1980 1985 1990 1995 2000

Recessions

longest economicexpansion on record


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Why learn macroeconomics?Why learn macroeconomics?

1. The macroeconomy affects societys well-being.

example:Unemployment and social problems


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Unemployment and social problemsUnemployment and social problems

Each one-point increase in theunemployment rate is associated with:

920 more suicides 650 more homicides

4000 more people admitted to state mentalinstitutions

3300 more people sent to state prisons

37,000 more deaths

increases in domestic violence and

homelessness


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Unemployment and earnings growthUnemployment and earnings growth

-5

-4

-3

-2

-1

0

12

3

4

5

1965 1970 1975 1980 1985 1990 1995 2000

%

growth rate of inflation-adjusted hourly earnings

change in Unemployment rate

-5

-4

-3-2

-1

0

1

2

3

45

1965 1970 1975 1980 1985 1990 1995 2000

%

growth rate of inflation-adjusted hourly earnings

change in Unemployment rate


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Interest rates and mortgage paymentsInterest rates and mortgage payments

For a $150,000 30-year mortgage:

$11,782$9816.84%Dec 2001

$12,771$10647.65%Dec 2000

annualpayment

monthlypayment

actual rateon 30-yearmortgage

date


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Why learn macroeconomics?Why learn macroeconomics?

1. The macroeconomy affects societys well-being.

example:Unemployment and social problems

2. The macroeconomy affects your well-being.

example 1:

Unemployment and earnings growth example 2:

Interest rates and mortgage payments

3. The macroeconomy affects politics & current events. example:

Inflation and unemployment in election years


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Inflation and Unemployment in Election YearsInflation and Unemployment in Election Years

year U rate inflation rate elec. outcome

1976 7.7% 5.8% Carter (D)

1980 7.1% 13.5% Reagan (R)

1984 7.5% 4.3% Reagan (R)

1988 5.5% 4.1% Bush I (R)

1992 7.5% 3.0% Clinton (D)

1996 5.4% 3.3% Clinton (D)

2000 4.0% 3.4% Bush II (R)


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The demand for carsThe demand for cars

shows that the quantity

of cars consumers demand

is related to the price of carsand aggregate income.

demand equation: ( , )dQ D P Y =


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Digression: Functional notationDigression: Functional notation

General functional notat ion shows onlythat the variables are related:

( , )dQ D P Y =

A list of thevariables

that affect Qd


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Digression: Functional notationDigression: Functional notation

General functional notat ion shows onlythat the variables are related:

( , )dQ D P Y =

Aspecific functional form shows the

precise quantitative relationship:Examples:

1) ( , ) 60 10 2= = +d

Q D P Y P Y

= =0.3

2) ( , )dY

Q D P Y P


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The market for cars:The market for cars: demanddemand

QQuantityof cars

PPrice

of cars

D

The demand curveshows the relationshipbetween quantitydemanded and price,

other things equal.

demand equation:

( , )=dQ D P Y


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The market for cars:The market for cars: supplysupply

QQuantityof cars

PPrice

of cars

D

supply equation:

( , )=ss

Q S P P S

The supply curveshows the relationshipbetween quantitysupplied and price,

other things equal.


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The market for cars:The market for cars: equilibriumequilibrium

QQuantityof cars

PPrice

of cars S

D

equilibriumprice

equilibrium

quantity


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The effects of an increase in income:The effects of an increase in income:

D2

QQuantityof cars

PPrice

of cars S

D1

Q1

P1

An increase in incomeincreases the quantity

of cars consumersdemand at each price

which increasesthe equilibrium priceand quantity.

P2

Q2

demand equation:

( , )=dQ D P Y


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The effects of a steel price increase:The effects of a steel price increase:

QQuantityof cars

PPrice

of cars S1

D

Q1

P1

An increase in Psreduces the quantity of

cars producers supplyat each price

which increases themarket price andreduces the quantity.

P2

Q2

S2supply equation:

( , )=s sQ S P P


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Endogenous vs. exogenous variables:Endogenous vs. exogenous variables:

The values ofendogenous variablesare determined in the model.

The values ofexogenous variablesare determined outside the model:the model takes their values & behavioras given.

In the model of supply & demand for cars,

endogenous: , ,d sP Q Q

exogenous: , sY P


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Now you try:Now you try:

1. Write down demand and supply

equations for wireless phones;

include two exogenous variablesin each equation.

2. Draw a supply-demand graph

for wireless phones.

3. Use your graph to show how a

change in one of your exogenousvariables affects the models

endogenous variables.


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A Multitude of ModelsA Multitude of Models

No one model can address all the issues we

care about. For example,

If we want to know how a fall in aggregateincome affects new car prices, we can use

the S/D model for new cars.

But if we want to know why aggregate

income falls, we need a different model.


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A Multitude of ModelsA Multitude of Models

So we will learn different models for studying

different issues (e.g. unemployment, inflation,

long-run growth). For each new model, you should keep track of

its assumptions, which of its variables are endogenous and

which are exogenous,

the questions it can help us understand, and those it cannot.


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Prices: Flexible Versus StickyPrices: Flexible Versus Sticky

Market clearing: an assumption that pricesare flexible and adjust to equate supply anddemand.

In the short run, many prices are sticky---they adjust only sluggishly in response to

supply/demand imbalances.For example, labor contracts that fix the nominal wage

for a year or longer magazine prices that publishers change

only once every 3-4 years

P i Fl ibl V S i k


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Prices: Flexible Versus StickyPrices: Flexible Versus Sticky

The economys behavior depends partly onwhether prices are sticky or flexible:

If prices are sticky, then demand wontalways equal supply. This helps explain unemployment (excess supply of labor)

the occasional inability of firms to sell whatthey produce

Long run: prices flexible, markets clear,economy behaves very differently.

O li f hi b kO li f hi b k


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Outline of this book:Outline of this book:

Introductory material (chaps. 1 & 2)

Classical Theory (chaps. 3-6)

How the economy works in the long run,when prices are flexible

Growth Theory (chaps. 7-8)The standard of living and its growth rateover the very long run

Business Cycle Theory (chaps 9-13)How the economy works in the short run,when prices are sticky.

O li f hi b kO tli f thi b k


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Outline of this book:Outline of this book:

Policy debates (Chaps. 14-15)Should the government try to smooth business

cycle fluctuations? Is the governments debt aproblem?

Microeconomic foundations (Chaps. 16-19)Insights from looking at the behavior ofconsumers, firms, and other issues from a

microeconomic perspective.

Ch tCh t


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Chapter summaryChapter summary

1. Macroeconomics is the study of theeconomy as a whole, including

growth in incomes changes in the overall level of prices

the unemployment rate

2. Macroeconomists attempt to explain theeconomy and to devise policies to improve

its performance.

Ch tCh t


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Chapter summaryChapter summary

3. Economists use different models toexamine different issues.

4. Models with flexible prices describe theeconomy in the long run; models withsticky prices describe economy in the short

run.

5. Macroeconomic events and performance

arise from many microeconomictransactions, so macroeconomics usesmany of the tools of microeconomics.


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Mankiw-01-The Science of Macroeconomics