1. INTRODUCTION
Basic concepts and scope of macroeconomic analysis
Economic Theory
A box of tools with which an economist constructs economic models that facilitate the study of
the real world
Economic Models
These refer to simplified explanations of how the economy works.
Macroeconomics
This is the branch of economics that attempts to analyze and explain the interrelationships
between aggregate (totals) variables such as output, employment, interest rates, money and
prices in the economy. These are the key variables that determine economic activities and level
of national income in an economy. Macroeconomics therefore analyses the performance of the
economy as a whole.
Macroeconomics deals with the following:
(i) Total output of goods and services (GNP)
What determines the GNP level?
Why is it that GNP grows at a lower rate in some years than in others?
(ii) Total employment and unemployment levels
What proportion of total population is unemployed?
What determines levels of unemployment?
(iii) General price level
Shows cost of purchasing by a typical consumer
Estimates inflation and anticipated effects
(iv) Balance of payment problem
(v) Exchange rates
Macroeconomic Models
These are simplified explanations or theories of how the economy works, i.e. simplified
explanations of the real word.
For example
The behaviour of consumption spending in an economy can be represented by a simple model as
follows
,Ct =α+βY t +γY t−1
Where
Ct =consumption in the current period
Y t =Current level of income
Y t−1=Previous period ' s level of income
This model is a simplification of the real world situation because some factors that are important
in influencing consumption behaviour are excluded. The other factors that affect level of
consumption in the economy include; wage rate, interest rate, price, capital gains, money stock,
attitudes, consumer credit and money illusion among others.
Macroeconomic models help in the forecasting of future trends of the economy.
A model can be tested by how well it can explain past events and if it can predict accurately the
path of the economy.
A good model improves understanding, forecasts and decision-making by policy makers.
The major goals/aims of Macroeconomic Policy
1. Full employment
- Unemployment is where some resources are not optimally utilized and are lying idle.
Full employment is favoured because the greater the level of employment, the greater
the amount of goods and services available in the economy. It is also argued that the
burden of unemployment and loss of goods and services fall disproportionately on
people who are without jobs.
2. Price stability
- Inflation should be avoided at all costs so that prices remain stable and predictable
over time. This is important because inflation affects other people more adversely
than others. For example, people whose incomes rise more rapidly than prices and
those who are able to borrow at relatively low interest rates prior to inflation benefit
from inflation.
3. Economic growth
- Economic growth takes place when real output increases more rapidly than the
increase in population, thus with economic growth the society has more goods and
services at its disposal and a correspondingly higher standard of living.
,4. External balance
- If a country has a favorable balance of payment (BOP), its foreign exchange reserves
will increase, hence can import the much needed capital for investment. Unfavorable
BOP would lead to an outflow of foreign exchange to finance the trade deficit
Importance of Macroeconomics
1. Facilitates estimation of GNP, which aids in the analysis of the economy’s performance;
2. Facilitates the study of the nature and size of material welfare of the society;
3. Knowledge of macroeconomics is important in economic policy formulation by
governments. For example, we are able to understand how aggregate variables like GNP,
wage rate, consumption, savings, investment, interest rates etc, will be affected by a change
in government expenditure, tax policy, monetary policy, foreign exchange rates,
4. It predicts the impact of exogenous variables on the endogenous variables.
The limitations of Macroeconomics
1. Macroeconomic theory treats the aggregate it deals with as internally homogenous and
overlooks the significance of internal composition and structure of such variables
2. It tends to make generalizations about the whole economy based on small samples, yet the
samples may not accurately reflect the overall picture. The propositions that are true for
individuals or small groups are not necessarily true for the economy.
3. The aggregates may not be functionally related. In such a case, the macroeconomic policies
that are formulated will be erroneous. For example, aggregate consumption will only be
useful for analysis if it is functionally related to levels of income, wealth interest rates,
capital gains, relative prices, money stock, attitudes and expectations, consumer credit, etc
4. Aggregate models that may be derived to explain the behaviour of the economy may end up
not conforming to the real world. For example, the bulk of the macroeconomic theory
developed so far has been relevant to developed countries since most models have been
constructed in those countries. These models are far from reality in developing countries.
TOPIC TWO: NATIONAL INCOME, OUTPUT AND EXPENDITURE
National Income Accounting: is the term used in economics to refer to book keeping system
that the government uses to measure the level of the country’s economic activity in a given
period of time. It records the level of activities in accounts such as total revenue earned by
, domestic co-operations, wages paid to foreign and domestic workers and the amount of money
spent on sales and income taxes by co-operations and individuals residing in a country.
Definition of terms
Gross Domestic Product (GDP)
The total money value of all final goods and services produced within the borders of a
country during any given period of time usually one year.
Gross National Product (GNP)
The total money value of all final goods and services produced from factors of production
owned by a country’s nationals during any given period of time regardless of where they are
located.
Net National Product (NNP)
The total output of consumer goods produced by residents plus the net increase in the economy’s
total capital stock (That is, production of new capital goods in excess of replacement of
depreciated capital goods) during any given period of time. It is computed as follows;
NNP = GNP – Depreciation (capital consumption allowance)
Net Domestic Product (NDP)
NDP = GDP - Depreciation (capital consumption allowance)
National income (NI)
This refers to the total amount of income earned by the factors of production in an economy
during a certain period. it is computed thus;
NI = NNP – (indirect taxes less subsidies)
National Product
It us the flow of goods and services in the economy over a given period of time, mainly one year.
National Expenditure
It is the amount required to purchase output produced in the economy over a given period of
time, mainly one year.
Per capita income
Refers to national income divided by the population of that particular country
Personal Income (PI)
Refers to the total income of persons or households from all sources before taxation;
computed as;
Basic concepts and scope of macroeconomic analysis
Economic Theory
A box of tools with which an economist constructs economic models that facilitate the study of
the real world
Economic Models
These refer to simplified explanations of how the economy works.
Macroeconomics
This is the branch of economics that attempts to analyze and explain the interrelationships
between aggregate (totals) variables such as output, employment, interest rates, money and
prices in the economy. These are the key variables that determine economic activities and level
of national income in an economy. Macroeconomics therefore analyses the performance of the
economy as a whole.
Macroeconomics deals with the following:
(i) Total output of goods and services (GNP)
What determines the GNP level?
Why is it that GNP grows at a lower rate in some years than in others?
(ii) Total employment and unemployment levels
What proportion of total population is unemployed?
What determines levels of unemployment?
(iii) General price level
Shows cost of purchasing by a typical consumer
Estimates inflation and anticipated effects
(iv) Balance of payment problem
(v) Exchange rates
Macroeconomic Models
These are simplified explanations or theories of how the economy works, i.e. simplified
explanations of the real word.
For example
The behaviour of consumption spending in an economy can be represented by a simple model as
follows
,Ct =α+βY t +γY t−1
Where
Ct =consumption in the current period
Y t =Current level of income
Y t−1=Previous period ' s level of income
This model is a simplification of the real world situation because some factors that are important
in influencing consumption behaviour are excluded. The other factors that affect level of
consumption in the economy include; wage rate, interest rate, price, capital gains, money stock,
attitudes, consumer credit and money illusion among others.
Macroeconomic models help in the forecasting of future trends of the economy.
A model can be tested by how well it can explain past events and if it can predict accurately the
path of the economy.
A good model improves understanding, forecasts and decision-making by policy makers.
The major goals/aims of Macroeconomic Policy
1. Full employment
- Unemployment is where some resources are not optimally utilized and are lying idle.
Full employment is favoured because the greater the level of employment, the greater
the amount of goods and services available in the economy. It is also argued that the
burden of unemployment and loss of goods and services fall disproportionately on
people who are without jobs.
2. Price stability
- Inflation should be avoided at all costs so that prices remain stable and predictable
over time. This is important because inflation affects other people more adversely
than others. For example, people whose incomes rise more rapidly than prices and
those who are able to borrow at relatively low interest rates prior to inflation benefit
from inflation.
3. Economic growth
- Economic growth takes place when real output increases more rapidly than the
increase in population, thus with economic growth the society has more goods and
services at its disposal and a correspondingly higher standard of living.
,4. External balance
- If a country has a favorable balance of payment (BOP), its foreign exchange reserves
will increase, hence can import the much needed capital for investment. Unfavorable
BOP would lead to an outflow of foreign exchange to finance the trade deficit
Importance of Macroeconomics
1. Facilitates estimation of GNP, which aids in the analysis of the economy’s performance;
2. Facilitates the study of the nature and size of material welfare of the society;
3. Knowledge of macroeconomics is important in economic policy formulation by
governments. For example, we are able to understand how aggregate variables like GNP,
wage rate, consumption, savings, investment, interest rates etc, will be affected by a change
in government expenditure, tax policy, monetary policy, foreign exchange rates,
4. It predicts the impact of exogenous variables on the endogenous variables.
The limitations of Macroeconomics
1. Macroeconomic theory treats the aggregate it deals with as internally homogenous and
overlooks the significance of internal composition and structure of such variables
2. It tends to make generalizations about the whole economy based on small samples, yet the
samples may not accurately reflect the overall picture. The propositions that are true for
individuals or small groups are not necessarily true for the economy.
3. The aggregates may not be functionally related. In such a case, the macroeconomic policies
that are formulated will be erroneous. For example, aggregate consumption will only be
useful for analysis if it is functionally related to levels of income, wealth interest rates,
capital gains, relative prices, money stock, attitudes and expectations, consumer credit, etc
4. Aggregate models that may be derived to explain the behaviour of the economy may end up
not conforming to the real world. For example, the bulk of the macroeconomic theory
developed so far has been relevant to developed countries since most models have been
constructed in those countries. These models are far from reality in developing countries.
TOPIC TWO: NATIONAL INCOME, OUTPUT AND EXPENDITURE
National Income Accounting: is the term used in economics to refer to book keeping system
that the government uses to measure the level of the country’s economic activity in a given
period of time. It records the level of activities in accounts such as total revenue earned by
, domestic co-operations, wages paid to foreign and domestic workers and the amount of money
spent on sales and income taxes by co-operations and individuals residing in a country.
Definition of terms
Gross Domestic Product (GDP)
The total money value of all final goods and services produced within the borders of a
country during any given period of time usually one year.
Gross National Product (GNP)
The total money value of all final goods and services produced from factors of production
owned by a country’s nationals during any given period of time regardless of where they are
located.
Net National Product (NNP)
The total output of consumer goods produced by residents plus the net increase in the economy’s
total capital stock (That is, production of new capital goods in excess of replacement of
depreciated capital goods) during any given period of time. It is computed as follows;
NNP = GNP – Depreciation (capital consumption allowance)
Net Domestic Product (NDP)
NDP = GDP - Depreciation (capital consumption allowance)
National income (NI)
This refers to the total amount of income earned by the factors of production in an economy
during a certain period. it is computed thus;
NI = NNP – (indirect taxes less subsidies)
National Product
It us the flow of goods and services in the economy over a given period of time, mainly one year.
National Expenditure
It is the amount required to purchase output produced in the economy over a given period of
time, mainly one year.
Per capita income
Refers to national income divided by the population of that particular country
Personal Income (PI)
Refers to the total income of persons or households from all sources before taxation;
computed as;
