Macroeconomics #1

Macroeconomics is a small but fairly important section of the exam and one that is worth trying to do well because the quantity of material to know is not as big as many others. Let’s get right into it!

Inflation

One of the important concepts is inflation! What is inflation? It is the phenomenon that tracks the rise of prices over time. In some rare instances, where prices decline over time (such as in Japan during the 90’s), we can witness “deflation”. For the exam, you can generally assume that the prices are rising however. Calculating inflation is a very simple process:

i= (current CPI-last period CPI) / last period CPI

What is CPI? It is simply the level of prices. So if prices went from 100 to 105 in a year, the inflation would be 5% (105-100)/100.

Unemployment

You have surely heard about unemployment and hopefully you do not personally have experience but chances are that you at least know someone who’s had experience with unemployment. What you might not know are the 3 types of “unemployment.” At all times you would have some of each type:

Frictional: The job market is not perfect. Some companies might be looking for a worker that is also looking for a job but as long as they do not “meet up,” the worker will remain unemployed.
Structural: At all times, there will be a mismatch between the skills required by companies that are hiring and the skills offered by the unemployed.
Cyclical: This is the unemployment caused by the economy not being at full capacity. It would be most obvious during a recession

You need to know the three types and what they represent.

Labor demand and supply

Employers will hire when:

-The company’s output increases
-Price of an input that can substitute workers (such as machinery) increases
-Decrease of the price of a productive input that is complement to labor (think of a mine that can offer housing at a cheaper price to miners)

Supply of labor is influenced by

-Substitution effect: As the hourly wage increases, workers will work less and have more “leisure time”
-Income effect: Income increases give them incentives to ask for more leisure time

Schools of Macroeconomic Thought

-Classical: Shifts in demand and supply are caused by technology changes
-Keynesian: Shifts in aggregate demand are caused by expectations; fiscal and monetary policy can affect aggregate demand
-Monetarist: monetary policy is the driving factor and the speed of money supply increases is what drives demand.

Timing of fiscal policy

Time lags:

-Recognition (seeing that there is a problem)
-Administrative (actually getting it done)
-Impact (certain measures take several months/years to have their full impact)

Monetary Policy

Since banks need to keep a certain portion of deposits stored, increasing that percentage or decreasing it can have a major impact on the monetary supply. To see the ratio, you must:

deposit expansion multiplier= 1 / reserve requirement

Fed Controls

-Reserve requirements
-Open market operations
-Discount rate


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