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LECTURE NOTES

MACROECONOMIC
Course Instructor: Madiha Kamal
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Total Marks 100

Class participation 25 (ass=5, quiz= 10 , report = 10)

Mid Term 30

final 45

Books:
Mankiw Principles of Macroeconomics 4 Edition
Samuelson, N Economics 18th Edition
DEFINATION OF MACROECONOMICS 3

Macroeconomics is a part of economic analysis that

deals with aggregate behavior and choices of the entire
economy. Example : National income and Inflation
MICROECONOMICS VS MACROECONOMICS 4
 MACROECONOMIC
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FULL EMPLOYMENT
The situation in which all available resources in the
economy are employed to produce goods and services Full
employment does not mean 100 percent of the working
labor force. There are always some people who are
voluntarily unemployed as a result of being dissatisfied with
their current jobs and resigning to find another job.
 PRICE STABILITY
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The objective of the nation is to keep its inflation rate

as low as possible maintaining price stability.
Inflation occurs when there is an increase in the
overall price level. Inflation can reduce the
purchasing power of consumers.
ECONOMIC GROWTH
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To achieve economic growth, the economy

must be operating at maximum capacity.
Economic growth refer to an increase in the full
production output level of a nation over time
EQUITABLE DISTRIBUTION OF INCOME 8

Most of the nation try to narrow the gap between the higher
income and the lower income groups. This is to ensure that all
people are equal in terms of the standard of living. One of the
method of achieving an equitable distribution of income is
taxation. When taxes are imposed, the higher income groups pay
a higher tax to the government.
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Circular Flow of Economic Activity

The circular flow of income or circular flow is a model of the economy in which the major
exchanges are represented as flows of money, goods and services, etc. between economic
agents. The flows of money and goods exchanges in a closed circuit and correspond in value,
but run in the opposite direction. The circular flow analysis is the basis of national
accounts and hence of macroeconomics.
Two Sector Equilibrium
Three Sector Equilibrium
Four Sector Equilibrium
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Model of the circular flow of income and expenditure
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Three Sector Equilibrium

Three sector model

It includes household sector, producing sector and government sector. It will study a
circular flow income in these sectors excluding rest of the world i.e. closed
economy income. Here flows from household sector and producing sector to
government sector are in the form of taxes. The income received from the
government sector flows to producing and household sector in the form of
payments for government purchases of goods and services as well as payment
of subsides and transfer payments. Every payment has a receipt in response of it
by which aggregate expenditure of an economy becomes identical to
aggregate income and makes this circular flow unending.
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Four Sector Equilibrium

Four sector model

A modern monetary economy comprises a network of four sector economy these are:
Household sector
Firms or Producing sector
Government sector
Rest of the world sector.
Each of the above sectors receives some payments from the other in lieu of goods and services which makes a
regular flow of goods and physical services. Money facilitates such an exchange smoothly. A residual of each
market comes in capital market as saving which in turn is invested in firms and government sector. Technically
speaking, so long as lending is equal to the borrowing i.e. leakage is equal to injections, the circular flow will
continue indefinitely. However this job is done by financial institutions in the economy. We may incorporate
financial sector as a fifth sector.
The five sector model of the circular flow of income is a more realistic representation of the economy. Unlike the two
sector model where there are six assumptions the five sector circular flow relaxes all six assumptions. Since the
first assumption is relaxed there are three more sectors introduced
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Introduction to National Income Accounts

The national income accounts are an accounting framework

used in measuring current economic activity. Almost all
countries have some form of official national income
accounts.
 Methods for the measurement of NI.

The national Income Accounts are based on the idea that the amount of economic activity
that occurs during a period of time can be measured in term of

The amount of output produced, excluding output used up in intermediate stages of

production (The Production Approach).

The income received by the producers of Output (The Income Approach)

The amount of spending by the ultimate purchasers of output (The Expenditure Approach).

All three approaches give identical measurements of the amount of current economic
activity.
 Expenditure or Output Approach to Measuring GDP

Measuring overall economic activity by adding the expenditure on

the output produced in the economy.
GDP = C + I + G + (X M)

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 Personal Consumption Expenditures (C)

The total amount of spending by consumers on durable

goods, nondurable goods, and services in a given period
of time.

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 Real Personal Consumption Expenditures, 1985 - present

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 Gross Private Domestic Investment (I)

The total amount of spending on nonresidential structures,

equipment, and software; residential structures; and
business inventories in a given period of time.

I=S

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 Real Gross Private Domestic Product, 1985 - present

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 Government Consumption Expenditures and Gross Investment (G)

The total amount of spending by federal,

state, and local governments on
consumption outlays for goods and
services and for depreciation charges
for existing structures and equipment
and on investment capital outlays for
newly acquired structures and
equipment in a given period of time.

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 Real Government Consumption Expenditures and Gross Investment, 1985 - present

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 Net Export Spending (X M)

The total amount of spending on exports minus the total amount of

spending on imports in a given period of time.

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 Real Net Export Spending, 1985 - present

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 Gross Domestic Product and Its Components, 2007

VALUE IN BILLIONS OF
COMPONENT
DOLLARS (% OF GDP)

GROSS DOMESTIC PRODUCT (GDP) 15223.2

PERSONAL CONSUMPTION EXPENDITURES (C ) 9,710.2 (70.3)

GROSS PRIVATE DOMESTIC INVESTMENT (I ) 2,130.4 (15.5)

GOVERNMENT CONSUMPTION EXPENDITURES

AND 2,674.8 (19.4)
GROSS INVESTMENT (G)

NET EXPORTS OF GOODS AND SERVICES (F ) 707.8 (5.1)

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 Earnings or Income Approach to Measuring GDP

Measuring overall economic activity by adding the earnings or income

generated by selling the output produced in the economy.

GDP = compensation of employees + proprietors income + rental income +

corporate profits + net interest

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 National Income

Compensation of employees: the wages and salaries and the fringe

benefits paid by employers to employees.
Proprietors income: the income of unincorporated businesses, such as
medical practices, law firms, small farms, and retail stores.
Rental income : the income households receive from the rental of their
property.
Corporate profits: the excess of revenues over costs for the incorporated
business sector of the economy.
Net interest: the interest private businesses pay to households for lending
money to the firms minus the interest businesses receive plus interest earned
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from foreigners.
 National Income

VALUE IN BILLIONS OF DOLLARS

COMPONENT
(% OF NATIONAL INCOME)
GROSS DOMESTIC PRODUCT 13,807.5
Less: Depreciation expenditures 1,618.0
Less: Statistical discrepancy 81.4
EQUALS: NATIONAL INCOME 12,270.9
Compensation of employees 7,812.3 (63.6)
Proprietors income 1,056.2 (8.6)
Rental income 40.0 (0.3)
Corporate profits 1,642.4 (13.4)
Net interest 664.4 (5.4)

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 National Income, continued

VALUE IN BILLIONS OF DOLLARS

COMPONENT
(% OF NATIONAL INCOME)
Less: Income earned, but not received 4,321.0

Plus: Income received, but not earned 3,713.3

EQUALS: PERSONAL INCOME 11,663.2

Less: Personal taxes 1,492.8

EQUALS: DISPOSABLE INCOME 10,170.5

Personal consumption expenditure ($9,710.2)

10,113.1
plus other outlays ($402.9)

Personal saving 57.4

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 GDP and GNP

1. Gross Domestic Product - (GDP) the total value of all goods and
services produced within the borders of the United States (or country
under analysis).
Or
GDP is the nations expenditures on all FINAL goods and services
produced during the year at market prices.

2. Gross National Product - (GNP) the total value of all goods and
services produced by Americans regardless of whether in the United
States or overseas.