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Summary Macroeconomics 2
- Instelling
- Vrije Universiteit Brussel (VUB)
Summary of Macroeconomics 2 for BA2 Business Economics at the VUB.
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INTERMEDIATE MACROECONOMICS BUSINESS ECONOMICS IIINTERMEDIATE
MACROECONOMICS
BUSINESS ECONOMICS II, SEMESTER I
Table of Content:
- Chapter 3: National Income: Where It Comes From and Where It Goes p. 1
- Chapter 5: Inflation, It’s Causes, Effects, and Social Costs p. 13
- Chapter 6: The Open Economy (self-study) p. 23
- Chapter 7: Unemployment and Labor Market (self-study) p. 43
- Chapter 8: Economic Growth I: Accumulation in the population Growth p. 55
- Chapter 9: Economic Growth II: Technology, Empirics, and Policy p. 67
- Chapter 10: Introduction to Economic Fluctuations p. 75
- Chapter 11: Aggregate Demand I: Building the IS-LM Model p. 89
- Chapter 12: Aggregate Demand II: The IS-LM Model p. 101
- Chapter 13: The Open Economy Revisited: the Mundell-Fleming Model p. 119
and the Exchange-Rate Regime
- Chapter 14: Aggregate Supply and the Short-Run Tradeoff Between p. 139
Inflation and Unemployment
- Chapter 16: Alternative Perspectives on Stabilization Policy p. 151
- What we know and what we don’t know p. 161
p. 163
,INTERMEDIATE MACROECONOMICS BUSINESS ECONOMICS II
Chapter 3: National Income: Where It Comes From and Where It Goes:
Learning objectives: Really important teacher could ask question like this on the exam!!
1. Provide long-run answers for 4 questions:
- Q1: What determines the level of Real GDP?
- Q2: What determines the income distribution between owner of labor and owners of
capital?
- Q3: What determines how GDP is allocated to C, I and G?
- Q4: What ensures equilibrium of flows in the economy?
2. Develop a model that answers these questions and serves as a benchmark when introducing
new concepts
Assumptions:
- Closed economy (XN = 0)
- Long run (flexible prices)
- Fixed and Exogenous K and L (K" , L̅ ) and fixed technology.
- Competitive market (price takers)
- Market-clearing model (in equilibrium)
- Firms rent to households labor and capital (Households own ALL factors)
DEMAND SIDE SUPPLY SIDE
Y=C+I+G Y = F (K , L)
" ̅
- C: Consumption - K: Capital stock (machines)
- I: Investment - L: Labor
- G: Government expenditure
EQUILIBRIUM
Goods and services market
Loanable funds market
The most important macroeconomic variable is GDP (Gross domestic product), it measures bot a
nation’s total output (= quantity of goods or services produced in a given time period, by a firm, industry or country,
whether consumed or sed for further production) of goods and services and its total income.
- Nations with a higher level of GDP per person have everything from better childhood nutrition to more
computers per household. A large GDP does not ensure that all of a nation’s citizens are happy, but it may be
the best recipe for happiness that macroeconomists have to offer.
- The figure reflects how real economies function. It shows the linkages among the economic actors –
households, firms, and the government – and how dollars flow among them through the various markets in
the economy.
1
,INTERMEDIATE MACROECONOMICS BUSINESS ECONOMICS II
What determines the Total Production of Goods and Services?
- An economy’s output of goods and services (it’s GDP) depends on its quantity of inputs
(Factors of production) and its ability to turn inputs into outputs as represented in the
production function.
1. The Factors of Production: The inputs used to produce goods and services. The 2 most
important functions are capital K= K$ and labor L= L̅
- Capital: the set of tools that workers use (construction worker’s crane, the accountant’s
calculator…)
- Labor: the time people spend working
2. The Production Function: The available production technology determines how much output is
produced from given amounts of capital and labor.
- Production function:
Y = F (K, L)
output¿
o The equation states that output is a function of the amounts of capital and labor. The production
function reflects the available technology for turning capital and labor into output. If someone
invents a better way to produce a good, the result is more output from the same amounts of capital
and labor, thus technological change alters the production function.
- Many production functions have a property called: constant return to scale, this means
that an increase of an equal percentage in all factors of production causes an increase in
output of the same percentage à zY= F(zK,zL)
o constant: zK1 = K2 µ
o increasing: zK1 < K2
o decreasing: zK1 > K2
2
, INTERMEDIATE MACROECONOMICS BUSINESS ECONOMICS II
3. The Supply of Goods and Services:
- Because we assume that capital and labor and the technology are fixed, output (Y) " is also
fixed à Y=F(k$ "
,L)= Y$ , the factors of production and the production function together
determine the quantity of goods and services supplied, which in turn equals the
economy’s output.
How Is National Income Distributed to the Factors of Production?
The total output of an economy equals its total income. Because the factors of production and the production function
together determine the total output of goods and services, they also determine national income.
It is based on the idea that prices adjust to balance supply and demand, applied here to the markets for the factors of
production, together with the idea that the demand for each factor of production depends on the marginal productivity of
that factor = Neoclassical theory of distribution
1. Factor Prices: the amount paid for each unit of the factors of production.
- In an economy where the 2 factors of production are capital and labor, the 2 factor prices
are the rent the owners of capital collect and the wage workers earn.
- To understand factor prices and the distribution of income, we must examine the
demand for the factors of production. Because factor demand arises from the thousands
of firms that use capital and labor, we start examining the decisions a typical firm makes
about how much of these factors to employ.
- How a Factors of Production is Compensated: The price paid to any factor of production
depends on the supply and demand for that factor’s services. Because we have assumed
that supply is fixed, the supply curve is vertical. The demand curve is downward sloping.
The intersection of the supply and demand curves determines the equilibrium factor
price.
2. The Decisions Facing a Competitive Firm:
- Simplest assumption it is a competitive firm: price takers
o The competitive firm takes the prices of its output and its inputs as given by
market conditions.
- Production function: Y = F (K, L)
o Holding constant the technology as expressed in the production function, the
firm produces more output only if it uses more machines or if its employees work
more hours.
- The firm sells its output at a price P, hires workers at a wage W, and rents capital at a rate
R.
3
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