Cape Econ Macro Vs Micro

Advanced Level Economics
UNIT 2
Module 1: Models of the Macroeconomy
Topic 1: Nature of Macroeconomics
MACRO vs MICRO
The study of economics is typically divided into two parts: macroeconomics and
microeconomics. Macroeconomics focuses on the behavior of an entire economy- the
‘big picture’. In macroeconomics we worry about such national goals as full employment,
control of inflation, and economic growth without worrying about the well-being or
behavior of specific individuals or groups. The essential concern is to understand and
improve the performance of the economy as a whole.
Macroeconomics, instead of focusing on the factors that influence production of

particular products and the behavior of individual industries, focuses on the determinants
of total national output. Macroeconomics studies not household income but national
income, not individual prices but the overall price level. It does not analyse the demand
for labor in an industry but instead total employment in the economy.
In macroeconomics we assume the existence of a single productive sector producing a

homogenous product.
Microeconomics is concerned with the details of this big picture. In microeconomics we

focus on the individuals, firms and government agencies that compose the larger
economy. Our interest here is in the behavior of individual economic actors.
A primary concern of macroeconomics, for example, is to determine how much money,

in total, consumers will spend on goods and services. In microeconomics the focus is
much narrower, attention is paid to purchases of specific goods and services rather than
aggregated totals.
Microeconomics sees prices as flexible, adjusting to maintain equality between quantity

supplied and quantity demanded. Macroeconomics, however observes that important
prices in the economy- like wage rate- are often sticky. Sticky prices are prices that do not
always adjust rapidly to maintain equality between qty demanded and qty supplied.
Aggregate is used in macroeconomics to refer to sums. When we speak of aggregate

behavior we mean the behavior of all the households and firms together.
Macro (aggregate) outcomes depend on micro behavior, and micro (individual) behavior
is affected by macro outcomes. One can’t fully understand how an economy works until
one understands how all the participants behave and why they behave how they do.
UNIT 2
Classical Models Before the Great depression, economists applied microeconomic
models, sometimes referred to as classical or market clearing models, to economy-wide
problems. For example, classical supply and demand analysis assumed that an excess
supply of labor would drive down wages to a new equilibrium level; as a result
unemployment would not persist.
In other words, classical economists believed that recessions (downturns in the economy)
were self correcting. As output falls, the demand for labor shifts to the left, the wage rate
would decline, thereby raising the quantity of labour demanded by firms, who will want
to hire more workers at the new lower wage rate. However, during the great depression
unemployment levels remained very high for nearly 10 yrs. It’s failure to explain why
this was so gave birth to the development of macroeconomics.
There are several schools of thought for economics. Early economists argued over the
cause and solution to an economy’s problems. Modern economists have come to an
agreement on some issues since no one school of thought can always be proven correct.
Keynesians believe that the private sector is inherently unstable and prone to
stagnate at low levels of output and employment. They want the
government to manage aggregate demand with changes in taxes
and government spending.
Modern (neo) Keynesians

Post-world War II followers of Keynes worry about inflation as
well as recession. They urge budgetary restraint to cool an
overheated economy. They also use monetary policy to change
interest rates.
Monetarists The money supply is their only heavy hitter. By changing the
money supply, they can raise or lower the price level. Pure
monetarists shun active policy, believing that it destabilizes the
otherwise stable private sector. Output and employment gravitate
to their natural levels.
Supply-siders Incentives to work, invest, and produce are the key to their plays.
Cuts in marginal tax rates and government regulation are used to
expand production capacity, thereby increasing output and
reducing inflationary pressures.
New classical Economists

UNIT 2
They say fine-tuning wont work because once the private sector
realizes what the government is doing, it will act to offset it. They
also question the credibility of quick-fix promises. They favor
steady, predictable policies.
KEYNESIAN THEORY
This school of thought was developed by John Maynard Keynes (1883-1946). He was a
famous English economist who developed the basic theory of macroeconomics.
Keynesian Theory is the most prominent of the demand-side theories. Keynes argued that
a deficiency of spending would tend to depress an economy. This deficiency might
originate in consumer saving, inadequate business investment, or insufficient government
spending. Whatever its origins, the lack of spending would leave goods unsold and
production capacity unused. Keynes concluded that inadequate aggregate demand
would cause persistently high unemployment.
Keynes developed his theory during the Great Depression, when the economy seemed to
be stuck at a very low level of equilibrium output, far below full-employment GDP. The
only way to end the depression, he argued, was for someone to start demanding more
goods. He advocated a big hike in government spending to start the economy moving
toward full employment. At the time his advice was largely ignored. When the US
prepared for World War II, the sudden surge in government spending shifted the
aggregate demand curve sharply to the right, restoring full employment. In times of
peace, Keynes advocated changing government taxes and spending to shift the aggregate
curve in whatever direction desired.
MONETARIST THEORIES
Monetarism begins and ends with one obsession: the rate of growth of the money supply.
According to monetarists, most of our major economic problems, especially inflation and
recession, are due to the Central Bank’s mismanagement of our rate of monetary growth.
This is another demand-side theory that emphasizes the role of money in financing
aggregate demand. Money and credit affect the ability and willingness of people to buy
goods and services. If credit isn’t available or is too expensive, consumers wont be able
to buy a many cars, homes, or other expensive products. ‘Tight’ money may curtail
business investment. In these circumstances, aggregate demand might prove to be
inadequate. In this case, an increase in the money supply may be required to shift the
aggregate demand curve into the desired position.
Both the Keynesian and Monetarist theories also regard aggregate demand as a prime
suspect for inflationary problems. Hence, excessive aggregate demand may cause
inflation.
UNIT 2

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Advanced Level Economics

Topic 1: Nature of Macroeconomics

Macroeconomics, instead of focusing on the factors that influence production of

In macroeconomics we assume the existence of a single productive sector producing a

Microeconomics is concerned with the details of this big picture. In microeconomics we

A primary concern of macroeconomics, for example, is to determine how much money,

Microeconomics sees prices as flexible, adjusting to maintain equality between quantity

Aggregate is used in macroeconomics to refer to sums. When we speak of aggregate

Modern (neo) Keynesians

New classical Economists

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