MACRO BASIC

S

AN INTR

ODUCTION T

O MACROECONOMIC

S

ECONOMY

An economy is an interactive system of production, distribution, and consumption of resources, goods, and services that addresses the basic economic problem of scarcity.

ECONOMIC FUNCTIONS ARE DIVIDED INTO FOUR BASIC MACROECONOMIC SECTORS:

1.Household: the consumers.

2.Business: the producers.

3.Government: the regulators and taxers.

4.Foreign: the others.

HOUSEHOLD: THE CONSUMERS.THE HOUSEHOLD SECTOR OF THE MACROECONOMY IS EVERYONE IN AN ECONOMY WHO CONSUMES GOODS AND SERVICES

•Consumption is the use of natural resources, goods, or services to satisfy wants and needs.•In a complex economy, consumption is expenditures by the household sector for the purchase of final goods and services.•Household sector is a term that indicates the consuming, wants-and-needs-satisfying population. Everyone in society is included in the household sector.

The household sector is responsible for consumption.

BUSINESS: THE PRODUCERS.

THE BUSINESS SECTOR OF THE MACROECONOMY PRODUCES THE GOODS AND SERVICES THAT ARE CONSUMED BY THE HOUSEHOLD SECTOR.

•The business sector is responsible for production by combining the four basic resources: labor, capital, land, and entrepreneurship.•A business is a method of combining resources for production.•While the business sector buys raw materials, intermediate goods, and other things. The most important purchase of the business sector is capital goods, or investment in capital.

The business sector is responsible for capital investment.

GOVERNMENT: THE REGULATORS AND TAXERS.

THE GOVERNMENT SECTOR AFFECTS RESOURCE ALLOCATION AND PRODUCTION BY IMPOSING LAWS AND REGULATIONS THAT FORCE DECISIONS NOT OTHERWISE MADE.

•Three levels of government: National, Local and Barangay.•The government sector collects taxes and buys a share of the economy's production, termed government purchases. These are goods such as national defense, highway and street construction, education, and police protection.•Government purchases do not include transfer payments (Social Security benefits, welfare or unemployment compensation).

The government sector is responsible for government purchases.

FOREIGN: THE OTHERS.

ECONOMIC ACTIVITY IS DIVIDED INTO DOMESTIC, EVERYTHING WITHIN THE POLITICAL BOUNDARIES OF A NATION, AND FOREIGN, EVERYTHING OUTSIDE THE BOUNDARIES.

•Any citizen of the Philippines, any firm owned by a Filipino citizen, and the government of any Philippine city are part of the domestic economy.•Any resident, business or government of another country is part of the foreign sector.•Exports are goods purchased by the foreign sector that are produced by the domestic economy.•Imports are goods purchased by the domestic economy that are produced by the foreign sector.•Net exports are the difference between exports and imports, or exports minus imports.

The foreign sector is responsible for net exports.

THE M

ACROECONOMY

MACROECONOMICS

WHAT IS MACROECONOMICS?

Macroeconomics is the study of the entire economy, the aggregate economy. Microeconomics is the study of parts of the economy.

•Economists first studied parts of the economy (markets, demand, supply, and prices), what we now call microeconomics.

•The Great Depression of 1930's, motivated economists led by John Maynard Keynes, to study macroeconomics.

Microeconomics and macroeconomics have their own principles, theories, and phenomena. Both are part of economics and each is intertwined with the other.

•The macroeconomy affects microeconomic decisions.

•Microeconomic decisions affect the macroeconomy.

SCOPE OF MACROECONOMICS

1. Economy’s Total Output [GNP]

2. Money

3. Problems of Unemployment and Inflation

4. Public Finance

THE C

IRCULA

R FLO

W O

F

OUTPUT

AND INCOME

MACROECONOMICS

In a monetary economy, households, as resource owners, sell their resources to business and, as consumers, spend the resource income by buying goods and services.

Businesses must buy resources to produce goods and services. Their finish products are then sold to household in exchange for consumption expenditures or revenues on the part of business. These revenues are used to purchase additional resources to maintain the circular flow

Not all income and expenditures circulate continuously. In a more realistic circular flow of goods and services, and income s, there are:

1. Outflow s1.Leakages of funds from the system.

Household s, taken as a whole, do not necessarily spend all their incomes on goods and services. Some of it were saved for rainy days and for the future of their children. Therefore, it is not returned to the circular flow of goods and services. It is rather taken out..

Another part of household’s income is paid to the government I the form of taxes, Again, this does not go back to the producers or firms

Another part of household income is paid out to foreign firms for imported goods and services, and therefore escapes from the circular flow.

• Savings

• Taxes

• Imports

Note: the same holds true for the firm. It saves, pay taxes, and import economic resources

Not all income and expenditures circulate continuously. In a more realistic circular flow of goods and services, and income s, there are:

2.Inflows1.Injections into the economic system.

Part of savings is placed in financial institutions, like banks. This in turn may lend out part of these funds to those usually who need to invest, both firms and household.

Government spends money for salaries of bureaucrats, police and army , teachers, etc. There is also spending in roads and bridges, ports, etc

Firms may produce and export goods and services that are sold abroad. For that new funds enter into the circular flow through receipts from the sales of products to the rest of the world.

• Investments

• Government Spending

• Exports

Savings (S), taxes (T) and imports (M) are withdrawals from the flow. Originating from outside the circular flow takes the corresponding form of investment (I), government expenditures (G) and proceeds from exports (X) to the res of the world. For the economy to be equilibrium, the outflows must equal tin inflows. (S+T+M = I+G+X)Imbalances that oftentimes exist between outflows and inflows. Introduce changes into the circular flow, and therefore affect the whole economy.

> outflows ,< inflows – production, employment, income and consumption fall< outflows, > inflows – output, employment, income, expenditures rise.

However, these flows do not remain the same year in and year out. Their effect on the circular flow and on national income depends upon how much the outflows and inflows grow. If they are unequal as a consequence of differences in growth, then there is usually policy intervention to bring to bring them back to equal each other or equilibrium.

POLICY INTERVENTION

Saving s – Investments and Monetary Policy

Saving s (outflow)–

• Savings placed in financial institutions are compensated by interest, and to a certain extent, the amount of savings will also affect the interest rate.

Investments (inflow)

• It is affected by interest rates, as we know by experience that when interest rates are high, few people can afford or are willing to invest factories and buildings.

Thus, we regarded this area of savings, investments, money, and interest rates as the arena of monetary policy.

POLICY INTERVENTION

Taxes – Government Spending and Fiscal Policy

Taxes (outflow)–

• Taxes rise ordinarily with income (as we realize every April 15)

Government Spending (inflow)

• What it spends is maybe dictated more by needs than policy. The government may alter its decisions on the amount and the source of its revenues. It can be seen that the government spending is adjusted to regulate economic stability growth.

The set of policies that affect taxes and government spending is called fiscal policy.

POLICY INTERVENTION

Imports – Exports, Exchange Rate and Trade Policy

Imports (outflow)–

• When income and production move up, industries have to import more raw materials, and consumers simple get attracted to buy more imported goods. Controllable to some extent.

Exports (inflow)

• Less controllable by policy in the sense that the world prices, tariffs of other nations and the weather cannot be controlled.

The set of policies that seeks to affect the level of imports and exports of the economy is called trade policy in general and specifically directed at the exchange rate is called Foreign Exchange and Trade Policy.

S+T+M = I+G+XEquilibrium

Outflows=Inflows

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(S-I)+(T-G) = X-MIt means that domestic

imbalance are transmitted to the external sector balance

We should remember that the circular flow description of an economy is only a model , a simplification of a complex reality.

However it was necessary to develop it in order to have an analytical framework for a greater understanding of the complexities that are encountered in the economic activities of a nation.

A RESTATEMENT OF THE OUTFLOW-INFLOW EQUALITY

Monetary Policy

Private Sector’s

Account (S-I)

Public Sector’s

Account (T-G)

Fiscal Policy

(S-I) + (T-G)

Nation’s External

Accounts (X-M)

Exchange Rate and

Trade Policy

ENDTH

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