Notes Macroeconomics
Macroeconomics focusses on changes in GDP (per capita), unemployment and inflation.
WEEK 1 – Unit 9: The labour market: wages, profits and unemployment
Even in equilibrium, there is involuntary unemployment, the supply of labour exceeds the demand .
Unemployed people currently do not have a job/are self-employed, want to work, but cannot find a
job. The population of working age can be divided into the labour force (employed + unemployed)
and the inactive.
The participation rate of a country shows us the proportion of the working age population that is in
the labour force.
The unemployment rate shows the ratio of the unemployed compared to the total labour force.
The employment rate shows the proportion go the population of working age that are employed.
The unemployment and employment rate are calculated by a different denominator, meaning two
countries with the same unemployment rate can have different levels of participation. The structure
of the labour market is different in every country. Countries can differ from high unemployment, low
employment to low unemployment, low employment.
To determine the unemployment rate in a country, we can use a model depicting the wage setting
curve and labour force for an entire economy. The difference between the labour force and the
employment rate (determined by the WSC) shows the unemployment rate. The wages set by
employers and the best responses in terms of effort of employees determine the slope of the wage-
setting curve (isoquants + best response functions = WSC).
Price and the amount produced, the price setting curve, also influence wages and unemployment.
The firm takes the wage into account when looking at which combination of p and q is profit
maximizing, hiring the amount of people where the labour productivity is equal to q*. The markup of
a firm is determined by the amount of competition in the market and the labour productivity
determines the real wage, which both influence the prices set by firms (along with policies ed).
The firms first decide the nominal wage, then the price, then the level of output and then how many
employees they need to reach this output level.
If the real wages are set below the wage-setting curve, it will lead to no motivation, so no profits or
production and zero employment. The wage-setting curve is the feasible frontier. There is an
equilibrium in the labour market where the price-setting curve intersects with the wage-setting
curve. At this point, wages cannot change and the level of effort cannot change. In the labour market
equilibrium, there will be unemployment due to excess supply. Only when there is unemployment,
there is a cost to job loss, so there must always be some necessary employment. The gap between
the wage-setting curve and the labour supply curve shows this.
Job loss due to diminishing demand also leads to diminishing demand for other firms, leading to less
production and profits, leading to more job loss, meaning this is a vicious cycle, which can lead to an
economic crash. The derived demand for labour takes this into account. When looking at the
aggregate demand, a fall in this leads to demand-deficient unemployment, or cyclical
unemployment. In the equilibrium there is involuntary unemployment, but with cyclical
unemployment workers would be willing to accept a far lower wage and still work on a high effort
level. However, lowering wages is not easily done, meaning policies are needed. Lowering wages
might also lead to a further fall in aggregate demand. Governments can compensate this by
increasing their spending, by fiscal policies, but also by monetary policies. Reducing interest rates.
,The labour market model does not only show employment levels etc, but also the division of outputs
across the economy. We can calculate this using the Lorenz curve and the Gini coefficient (Lorenz
curve/45 degrees), the difference between what amount of the price goes to the workers and to the
owners. The fraction of output received in wages is called the wage share in total income. The
division will change due to the level of unemployment and the markup/effort.
Increase in labour supply leads to higher employment rents, leads to lower wage levels, leads to
more employment. Then unemployment in compensated and real wages will increase again. Trade
unions can lead to higher wages because they are not solely determined by the firm, which can
increase sympathy for the firm, decreasing the disutility of work. Labour unions can have positive
effects, but also negative, with a higher wage leading to higher unemployment.
Increased productivity by education and subsidies in wages can increase real wages because less
workers are needed for the same level of output/a less high price is needed so consumers can buy
more. Enhancing labour supply, for example by engaging woman, can also change the wages etc.
Because contracts in the labour market can be incomplete, you do not just want to pay the lowest
price possible. The equilibrium in the labour market is not pareto efficient due to involuntary
unemployment.
Terminology
Nominal wage The actual amount of payment received for
work, in a particular currency (money wage)
Real wage Nominal wage divided by the price level of the
bundle of consumer goods purchased.
Unemployment A situation in which a person is able and willing
to work is not employed
Population of working age Almost always the people between 15 and 64
Labour force The employed and unemployed, the people
who have a job and who are looking for one
Inactive population People of working age who are not looking for
paid work (stay at home parents for example)
Labour productivity Total output divided by the number of hours or
some other measure of labour input.
Equilibrium unemployment Number of people seeking work who are
without jobs, which is determined by the
equilibrium.
Cyclical unemployment (demand-deficient) Increase in unemployment caused by a fall in
aggregate demand, associated with the
business cycle.
Trade union Organization consisting predominantly of
employees, negotiation their pay and working
conditions.
Formula’s
Participation rate = labour force/population of working age
= employed + unemployed/population of working age
Unemployment rate = unemployed/labour force
Employment rate = employed/population of working age
Marginal rate of substitution = slope of isoprofit curve = (p – W)/q = (p – C)/q
, Total revenue = p * q
Wage share = s = real wage per worker day/output per worker day = w/labda
Real wage = W/P
Markup = (p-MC)/P, with MC being equal to W in the case of this chapter.
Price = profit/output + nominal wage/output
Output/worker = real profit + real wage
WEEK 2 – Unit 10: banks, money and the credit market
People need to be creditworthy to get a loan, which can be assured in multiple ways. Money and
trust are closely related, since money can be defined as anything accepted in payment. Borrowing
and lending are mediums to shift consumption over time. Money allows purchasing power to be
transferred among people so that they can exchange goods and services even when payment takes
place at a later date.
Wealth is made up out of the things you own, your human capital worth and your income. Income is
a flow, while wealth is usually a stock variable. Usage of wealth, or even the passage of time can lead
to depreciation. Net income is not only your gross income minus taxes, but also minus this
depreciation. Consumption also decreases your net income. Saving your income can lead to an
increase in wealth.
Giving up consumption now can mean we can consume more later. The opportunity cost of having
more goods now is having fewer later. Borrowing and lending allow a further rearrangement of our
consumption over time. All combinations of current and future consumption generate a feasible
frontier, giving the feasible set for a certain interest rate. One plus the interest rate (1 + r) is the
marginal rate of transformation of goods from the future to the present. If the price of borrowing
increases, your present capacity to consume falls.
The amount borrowed depends on patience. The value of an additional unit of consumption in a
given period declines the more that is consumed, leading to the idea of smoothing. Next to
smoothing, there also is pure impatience, which can occur when people are short-sighted or prudent.
So characteristics help in determining where the indifference curve and feasible frontier are tangent,
leading to the discount rate, how much a person values an extra unit of consumption now, relative to
an extra unit of consumption later.
Saving something can entail depreciation, again leading to a conflict of how much to consume now
and keep for later. Keeping money is also not 100% safe due to inflation, but you can also make
money by saving through borrowing your money to someone and asking them to pay interest.
Investing in bonds or shares can expand your future feasible set. But investing for more in the future
while borrowing now means more more and more, invest-it all and borrow plans are what
economists like. Borrowing while also having money can also make you more trustworthy, leading to
a lower interest rate. So smoothing or increasing all consumption are the motives.
Balance sheets can help gain insight into your net worth. Borrowing adds an asset and liability,
leaving your net worth the same.
Borrowing and lending takes place in banks, who make profit off this system. Things can function as
money, but base money is actually determined in the law as a payment that one has to accept. These
are cash and deposits from the central bank, which is the only bank allowed to make more cash.
