MACROECONOMICS
Course 17662 – Bachelor’s in Management and Technology
Fernando Alfayate Fernández
2023/2024
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,Tabla de contenido
1. CLASSICAL MODEL: CLOSED ECONOMY................................................................................................................ 3
1.1 PRODUCTION FUNCTION ........................................................................................................................................ 3
1.2 MARGINAL PRODUCT OF LABOR ............................................................................................................................ 3
1.3 PROBLEM DEFINITION ............................................................................................................................................ 4
1.4 COBB – DOUGLAS FUNCTION ................................................................................................................................. 4
1.5 GOODS & SERVICES MARKET.................................................................................................................................. 5
1.7 MARKET OF LOANABLE FUNDS .............................................................................................................................. 6
1.8 “Snc=I” MODEL SUMMARY..................................................................................................................................... 6
1.9 INVESTMENT DEMAND .......................................................................................................................................... 7
1.10 SUMMARY ............................................................................................................................................................ 9
2 ECONOMIC GROWTH: SOLOW MODEL ..................................................................................................................10
2.1 SUPPLY OF GOODS & SERVICES ............................................................................................................................10
2.2 DEMAND OF GOODS & SERVICES .........................................................................................................................10
2.3 CAPITAL ACCUMULATION DEVELOPMENT ...........................................................................................................10
2.4 STATIONARY STATE ..............................................................................................................................................11
2.5 POPULATION GROWTH ........................................................................................................................................12
2.6 TECHNOLOGICAL PROGRESS ................................................................................................................................13
2.7 THE GOLDEN RULE................................................................................................................................................14
2 MONEY & INFLATION. QUANTITATIVE THEORY OF MONEY. FISHER EQUATION ...................................................16
3.1 MONEY: FUNCTIONS AND TYPES..........................................................................................................................16
3.2 MONETARY AGGREGATES ....................................................................................................................................16
3.3 THE BANKING SYSTEM..........................................................................................................................................16
3.4 MONEY DEMAND vs MONEY SUPPLY ...................................................................................................................17
3.5 INTEREST RATES....................................................................................................................................................17
3.6 MONETARY POLICY ...............................................................................................................................................17
3.8 QUANTITATIVE THEORY OF MONEY .....................................................................................................................19
3.9 SEIGNORAGE.........................................................................................................................................................20
3.10 HYPERINFLATION ................................................................................................................................................20
3.11 MONEY CREATION ..............................................................................................................................................20
3.12 SOCIAL COSTS OF INFLATION .............................................................................................................................20
3.13 COSTS OF UNEXPECTED INFLATION ...................................................................................................................21
4. NEW MODEL: OPEN ECONOMY IN THE LONG RUN ............................................................................................22
4.1 NATIONAL ACCOUNTING IDENTITIES ...................................................................................................................22
4.2 SAVINGS AND INVESTMENT IN A SMALL OPEN ECONOMY .................................................................................22
4.3 INTEREST RATES....................................................................................................................................................23
5. ECONOMIC FLUCTUATIONS: ECONOMY IN THE SHORT RUN .............................................................................26
5.1 KEYNESSIAN MODEL .......................................................................................................................................26
5.2 THE IS CURVE ........................................................................................................................................................28
5.3 MONEY MARKET.............................................................................................................................................28
5.4 THE LM CURVE................................................................................................................................................29
5.5 EQUILIBRIUM: IS-LM MODEL..........................................................................................................................29
5.6 FISCAL AND MONETARY POLICIES IN THE IS-LM MODEL ...............................................................................30
5.7 AGGREGATED DEMAND .................................................................................................................................31
5.8 RIGID PRICES MODEL ......................................................................................................................................32
5.9 INFLATION, UNEMPLOYMENT & PHILIPS CURVE ...........................................................................................33
5.10 DISINFLATION & SACRIFICE RATIO .............................................................................................................35
6. DYNAMIC MODEL OF AGGREGATE DEMAND & SUPPLY .....................................................................................37
6.1 MODEL DEFINITION ........................................................................................................................................37
Fernando Alfayate Fernández –
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,6.2 MODEL DEVELOPMENT ..................................................................................................................................37
6.3 SUMMARY ......................................................................................................................................................38
6.4 MODEL RESOLUTION ......................................................................................................................................39
6.5 MODEL APPLICATIONS & RESPONSES ............................................................................................................40
Fernando Alfayate Fernández –
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, 1. CLASSICAL MODEL: CLOSED ECONOMY
The Circular Flow of Economy shows how real economies function.
It shows how economic actors (households, firms, and governments)
are linked, and how dollars flow among them through the various
markets in the economy.
• Households receive income and use it to pay taxes, to
consume goods and services, and to save through
financial markets.
• Firms receive revenue and use it to pay for the factors of
production.
• Governments collect taxes and use them to pay for public purchases. An excess of tax revenue is called
public saving.
Factors of Production: inputs used to produce goods and services. Capital (K) and Labor (L). We assume here that
the factors of production are fully utilized.
1.1 PRODUCTION FUNCTION
How much output is produced from given amounts of capital and labor. 𝑌 = 𝐹(𝐾, 𝐿). We will assume constant
returns to scale. A function has them if an increase of an equal percentage in all factors causes an increase in
output of the same percentage.
𝑧𝑌 = 𝐹(𝑧𝐾, 𝑧𝐿)
1.1.1 FACTOR PRICES
Firms are price-takers. Factor prices are the amounts paid to the factors of production. Capital and
Labor´s factor prices are wage workers earn, and the rent the owners of capital collect.
The price paid to any factor depends on the supply and demand for that factor´s services.
Because we assumed that supply is fixed, then its curve its vertical. The demand is downward sloping.
Intersection of supply (vertical) and demand (downward sloping) determines equilibrium factor price.
HOW ARE FACTOR PRICES DETERMINED?
We assume that w and r are taken as given by the
firms (competitive markets). Households’ own capital
and labor, and rent them to firms, while they choose
k and l to maximize profits.
• 𝑃𝑟𝑜𝑓𝑖𝑡 = 𝑟𝑒𝑣𝑒𝑛𝑢𝑒 − 𝑙𝑎𝑏𝑜𝑟 𝑐𝑜𝑠𝑡 −
𝑐𝑎𝑝𝑖𝑡𝑎𝑙 𝑐𝑜𝑠𝑡
o 𝑅𝑒𝑣𝑒𝑛𝑢𝑒 = 𝑝 ∗ 𝑌
o 𝐿𝑎𝑏𝑜𝑟 𝐶𝑜𝑠𝑡 = 𝑤 ∗ 𝐿
o 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 𝐶𝑜𝑠𝑡 = 𝑟 ∗ 𝐾
𝒑𝒀 − 𝒘𝑳 − 𝒓𝑲 = 𝟎 → 𝒑[𝑭(𝑲, 𝑳)] − 𝒘𝑳 − 𝒓𝑲 = 𝟎
1.2 MARGINAL PRODUCT OF LABOR
Extra amount pf output the firm gets from one extra unit of labor,
holding the amount of capital fixed.
Following the property of diminishing marginal returns: holding
capital fixed, marginal product of labor decreases as amount of
labor increases.
Increase in revenue from an additional unit of labor depends on
two variables: the marginal product of labor and the price of the output. Extra revenue is defined by: 𝑃 ∗ 𝑀𝑃𝐿,
the extra cost is the wage w.
1.2.1 LABOR DEMAND
Fernando Alfayate Fernández –
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Course 17662 – Bachelor’s in Management and Technology
Fernando Alfayate Fernández
2023/2024
Document shared on https://www.docsity.com/es/macroeconomics-17662-uc3m-complete-theory-summaries-and-exams/11460049/
Downloaded by: Fernando_Alfayate ()
,Tabla de contenido
1. CLASSICAL MODEL: CLOSED ECONOMY................................................................................................................ 3
1.1 PRODUCTION FUNCTION ........................................................................................................................................ 3
1.2 MARGINAL PRODUCT OF LABOR ............................................................................................................................ 3
1.3 PROBLEM DEFINITION ............................................................................................................................................ 4
1.4 COBB – DOUGLAS FUNCTION ................................................................................................................................. 4
1.5 GOODS & SERVICES MARKET.................................................................................................................................. 5
1.7 MARKET OF LOANABLE FUNDS .............................................................................................................................. 6
1.8 “Snc=I” MODEL SUMMARY..................................................................................................................................... 6
1.9 INVESTMENT DEMAND .......................................................................................................................................... 7
1.10 SUMMARY ............................................................................................................................................................ 9
2 ECONOMIC GROWTH: SOLOW MODEL ..................................................................................................................10
2.1 SUPPLY OF GOODS & SERVICES ............................................................................................................................10
2.2 DEMAND OF GOODS & SERVICES .........................................................................................................................10
2.3 CAPITAL ACCUMULATION DEVELOPMENT ...........................................................................................................10
2.4 STATIONARY STATE ..............................................................................................................................................11
2.5 POPULATION GROWTH ........................................................................................................................................12
2.6 TECHNOLOGICAL PROGRESS ................................................................................................................................13
2.7 THE GOLDEN RULE................................................................................................................................................14
2 MONEY & INFLATION. QUANTITATIVE THEORY OF MONEY. FISHER EQUATION ...................................................16
3.1 MONEY: FUNCTIONS AND TYPES..........................................................................................................................16
3.2 MONETARY AGGREGATES ....................................................................................................................................16
3.3 THE BANKING SYSTEM..........................................................................................................................................16
3.4 MONEY DEMAND vs MONEY SUPPLY ...................................................................................................................17
3.5 INTEREST RATES....................................................................................................................................................17
3.6 MONETARY POLICY ...............................................................................................................................................17
3.8 QUANTITATIVE THEORY OF MONEY .....................................................................................................................19
3.9 SEIGNORAGE.........................................................................................................................................................20
3.10 HYPERINFLATION ................................................................................................................................................20
3.11 MONEY CREATION ..............................................................................................................................................20
3.12 SOCIAL COSTS OF INFLATION .............................................................................................................................20
3.13 COSTS OF UNEXPECTED INFLATION ...................................................................................................................21
4. NEW MODEL: OPEN ECONOMY IN THE LONG RUN ............................................................................................22
4.1 NATIONAL ACCOUNTING IDENTITIES ...................................................................................................................22
4.2 SAVINGS AND INVESTMENT IN A SMALL OPEN ECONOMY .................................................................................22
4.3 INTEREST RATES....................................................................................................................................................23
5. ECONOMIC FLUCTUATIONS: ECONOMY IN THE SHORT RUN .............................................................................26
5.1 KEYNESSIAN MODEL .......................................................................................................................................26
5.2 THE IS CURVE ........................................................................................................................................................28
5.3 MONEY MARKET.............................................................................................................................................28
5.4 THE LM CURVE................................................................................................................................................29
5.5 EQUILIBRIUM: IS-LM MODEL..........................................................................................................................29
5.6 FISCAL AND MONETARY POLICIES IN THE IS-LM MODEL ...............................................................................30
5.7 AGGREGATED DEMAND .................................................................................................................................31
5.8 RIGID PRICES MODEL ......................................................................................................................................32
5.9 INFLATION, UNEMPLOYMENT & PHILIPS CURVE ...........................................................................................33
5.10 DISINFLATION & SACRIFICE RATIO .............................................................................................................35
6. DYNAMIC MODEL OF AGGREGATE DEMAND & SUPPLY .....................................................................................37
6.1 MODEL DEFINITION ........................................................................................................................................37
Fernando Alfayate Fernández –
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,6.2 MODEL DEVELOPMENT ..................................................................................................................................37
6.3 SUMMARY ......................................................................................................................................................38
6.4 MODEL RESOLUTION ......................................................................................................................................39
6.5 MODEL APPLICATIONS & RESPONSES ............................................................................................................40
Fernando Alfayate Fernández –
Document shared on https://www.docsity.com/es/macroeconomics-17662-uc3m-complete-theory-summaries-and-exams/11460049/
Downloaded by: Fernando_Alfayate ()
, 1. CLASSICAL MODEL: CLOSED ECONOMY
The Circular Flow of Economy shows how real economies function.
It shows how economic actors (households, firms, and governments)
are linked, and how dollars flow among them through the various
markets in the economy.
• Households receive income and use it to pay taxes, to
consume goods and services, and to save through
financial markets.
• Firms receive revenue and use it to pay for the factors of
production.
• Governments collect taxes and use them to pay for public purchases. An excess of tax revenue is called
public saving.
Factors of Production: inputs used to produce goods and services. Capital (K) and Labor (L). We assume here that
the factors of production are fully utilized.
1.1 PRODUCTION FUNCTION
How much output is produced from given amounts of capital and labor. 𝑌 = 𝐹(𝐾, 𝐿). We will assume constant
returns to scale. A function has them if an increase of an equal percentage in all factors causes an increase in
output of the same percentage.
𝑧𝑌 = 𝐹(𝑧𝐾, 𝑧𝐿)
1.1.1 FACTOR PRICES
Firms are price-takers. Factor prices are the amounts paid to the factors of production. Capital and
Labor´s factor prices are wage workers earn, and the rent the owners of capital collect.
The price paid to any factor depends on the supply and demand for that factor´s services.
Because we assumed that supply is fixed, then its curve its vertical. The demand is downward sloping.
Intersection of supply (vertical) and demand (downward sloping) determines equilibrium factor price.
HOW ARE FACTOR PRICES DETERMINED?
We assume that w and r are taken as given by the
firms (competitive markets). Households’ own capital
and labor, and rent them to firms, while they choose
k and l to maximize profits.
• 𝑃𝑟𝑜𝑓𝑖𝑡 = 𝑟𝑒𝑣𝑒𝑛𝑢𝑒 − 𝑙𝑎𝑏𝑜𝑟 𝑐𝑜𝑠𝑡 −
𝑐𝑎𝑝𝑖𝑡𝑎𝑙 𝑐𝑜𝑠𝑡
o 𝑅𝑒𝑣𝑒𝑛𝑢𝑒 = 𝑝 ∗ 𝑌
o 𝐿𝑎𝑏𝑜𝑟 𝐶𝑜𝑠𝑡 = 𝑤 ∗ 𝐿
o 𝐶𝑎𝑝𝑖𝑡𝑎𝑙 𝐶𝑜𝑠𝑡 = 𝑟 ∗ 𝐾
𝒑𝒀 − 𝒘𝑳 − 𝒓𝑲 = 𝟎 → 𝒑[𝑭(𝑲, 𝑳)] − 𝒘𝑳 − 𝒓𝑲 = 𝟎
1.2 MARGINAL PRODUCT OF LABOR
Extra amount pf output the firm gets from one extra unit of labor,
holding the amount of capital fixed.
Following the property of diminishing marginal returns: holding
capital fixed, marginal product of labor decreases as amount of
labor increases.
Increase in revenue from an additional unit of labor depends on
two variables: the marginal product of labor and the price of the output. Extra revenue is defined by: 𝑃 ∗ 𝑀𝑃𝐿,
the extra cost is the wage w.
1.2.1 LABOR DEMAND
Fernando Alfayate Fernández –
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