What is Macroeconomics? Definition, Founders, Uses, Scope, and More

What is Macroeconomics?

Macroeconomics is concerned with the nature, relationship, and behavior of such aggregate quantities and averages such as national income, total consumption, saving, investment, total employment, general price level, aggregate expenditure, and the aggregate supply of goods and services.

In other words, it studies economic elements as a whole. The subject matters of macroeconomics constitute the study of current output, long-run economic growth, economic fluctuations, unemployment, inflation, and the effect of increasing globalization upon domestic output.

According To McConnel, “Macroeconomics examines the forest, not the trees. It gives us a bird’s eye view of the economy.”

Macroeconomics attempts to explain how the economy’s total output of goods and services and total employment of resources are determined and explains the fluctuations in the level of output and employment. The subject matter of macroeconomics is to study the process of income and employment determination. In other words, the subject matter of macroeconomics constitutes the study of current output, long-run economic growth, economic fluctuations, unemployment, inflation, and the effect of increasing globalization upon domestic output.

The main objective of macroeconomics is to explain principles, problems, and policies related to full employment and growth of resources. It seeks, not only to understand macroeconomic phenomena but to find policies, promote maximum output, employment, and price stability over time. It also establishes an important relationship between movements of income, employment, and the general price level. Therefore, it is also called income and employment theory.

Founders/ Developers of Macroeconomics

John Maynard Keynes (J.M. Keynes), a British economist wrote the book “The General Theory of Income and Employment”. He is also known as the father of Keynesian economics.

According to him, macroeconomics activity occurred in the short run. Macroeconomics concerned with government invention includes tax and subsidy, when particular countries economic rate decreases, may government decreases tax and increases infrastructure to make stable rate. He also said income and employment needed government inventions.

Some economists (classical theory of economics) such as Adam Smith, J.B. Say, J.S. Mill., David Recardo, etc. concepts toward macroeconomics somewhat opposite to J.M. Keynes. According to them, macroeconomics activity occurred in long run. And, it is not occurred with government inventions as well as in macroeconomics there is no need for government inventions. It helps to formulate different policies such as monetary policy and fiscal policy where monetary policy handles central banks, also controls interest rates whereas fiscal policy related to tax policy and administration of government.

Uses of Macroeconomics

The main uses of macroeconomics are explained below:

To Understand the Working of the Economy

The national economy is affected by macroeconomic variables such as total income, output, employment, and general price level which are interdependent and statistically measurable. Therefore, the study of macroeconomics helps to get a correct and clear picture of the functioning of the economy.

Macroeconomics in Formulation of Economic Policies

Macroeconomics contributes a lot in the determination of government economic policies which affect the level of national income, general price level, and employment. Further, targets of saving and investment may also be determined with the help of macro quantities.

The main objective of any government is to attain maximum social benefit or welfare. To achieve this goal government must concern with the regulation and control of aggregates of the economic system, the general volume of trade, etc. This means that accurate and reliable data of the aggregative variables are the prerequisite for the formulation of sound public policies.

Business Decisions

The study of macroeconomics is very useful to solve environmental issues faced by business firms. The process of application macroeconomics in making a business decision is explained below:

To study the business environment: There are various issues that are related to the trends in macro variables. For example, the general trend in the economic activities of the country, investment climate, trends in output, and employment and price trends. These factors not only determine the prospect of private business but also greatly influence the functioning of individual firms.

Therefore, firm planning to set up a new unit or to expand as its existing size would like to ask itself. What is the general trend in the economy? What would be the consumption pattern of the society? Will it be profitable to expand the business? Answer to these questions and alike are sought through the macroeconomic studies.

To study the trends of international business: An economy is also affected by its trade relations with other countries, so the sectors or firms deal with exports and imports. Fluctuations in the international market, exchange rate, and inflows and outflows of capital in an open economy have a serious bearing on its economic environment and, thereby, on the functioning of its business undertakings.

The managers of a firm would, therefore, be interested in knowing the trends in international trade, prices, exchange rates, and prospects in the international market. Answers to such problems are obtained through the study of trends in international trade, trends in the balance of payment, foreign direct investment policy, trade policy, and international monetary mechanism.

To examine nature and extent of externalities of business environment: The government policies designed to control and regulate the economic activities of the people affect the functioning of the private business undertakings. Besides the firms’ activities as producer and their attempt to maximize gains (or profits) lead to considerable social costs, in terms of environmental pollution, congestion in the cities, creation of slums, etc.

Such social costs not only bring the firm’s interest in conflict with that of the society but also impose a social responsibility on the firms. The government policies and their various regulatory measures are designed, by and large, to minimize such conflicts. The managers should be therefore fully aware of the aspirations of the people and give such factors due consideration in their decisions. The economic concepts and tools of analysis help in examining the nature and extent of externalities.

Economic Planning

In recent days, both the developed and developing countries adopt the technique of economic planning as a tool for determining their level of economic growth and development. Economic planning is concerned with aggregative variables and therefore, it comes under macroeconomic analysis. A number of aggregative economic variables are used in determining various components of economic planning such as objectives, targets, priorities, policies, annual growth rate, and so on.

Development of Microeconomic Theories

Macroeconomics also helps in building and developing microeconomic theories. For example, the determination of wage in an industry will be influenced by the general wage rate of the economy. Similarly, the price of a commodity will also be influenced by the prevailing general price level in the economy. In the situations of inflation, generally, the prices will increase, while in the years of depression the prices will go down. Thus, no microeconomic laws can be formulated without a pre-study of macroeconomics.

International Comparisons

Macroeconomics provides necessary information for international comparisons. For example, a comparative study of average national income, consumption, and saving between different countries requires information about macroeconomic variables.

Scope of Macroeconomics

The scope of macroeconomics consists of the study of the following subject:

Theory of Income and Employment

The main objective of macroeconomics is to study employment and the growth of resources. In other studies the concept of national income, its different measurements, and scope of accounting. Similarly, of income and employment determination.

Macro Theory of Distribution

Macroeconomics studies the determinants of the income distribution. It also studies how the comparative share of different classes of people in national income is determined and distributed.

Theory of International Trade and Business Fluctuations

It deals with the nature, causes, impacts, and implications of fluctuations in macroeconomic variables like level of employment, general price level, income, and output. Similarly, it studies principles related to international trade and other components such as the balance of payments, terms of trade, exchange rate, etc.

Theory of Money and Price Level

Macroeconomics explains the nature, cause, and effect of inflationary and deflationary tendencies in the economy. Changes in demand and supply of money affect the level of employment. Therefore, under macroeconomics, functions, and theories relating to demand for money and supply of money are studied.

Theory of Economic Growth

Macroeconomics explains various issues relating to economic growth and development like privatization, economic liberalization, balanced development, poverty, inequality, etc. In other words, it studies the theory of economic growth and development.

Macroeconomic Policies

Macroeconomics also studies the nature and extent of the effectiveness of macroeconomic policies on the national economy. Generally, it studies two types of macroeconomic policies. They are Demand-side policies (i.e., monetary policy, fiscal policy, etc.) and supply-side policies.

Issues in Macroeconomics

The major issues of macroeconomics or discussion matters are:

  • Employment and unemployment
  • Inflation
  • Business cycles
  • Stagflation and Deflation
  • Economic Growth
  • Balance of payments and Exchange rate

Get, here the explanation of these issues

Limitations of Macroeconomics

In spite of the growing popularity, macroeconomics is not free from its limitations. The important limitations are as follows:

Problems in averaging

It is a complicated task to find out total national income with the help of the estimates of the price of different goods and services. Wholesale price index numbers are made to find out the general price level. These index numbers involve the problems of weighing, averaging, and a number of other difficulties.

Problem in measuring heterogeneous aggregates

The aggregates which are homogenous in nature can lead to accurate results. But sometimes we may have to take into account aggregates that are nor-homogenous in character. Results based on these heterogeneous aggregates are not accurate and we should always avoid such problems.

Unreliable estimate of aggregates

Due to imperfect knowledge of statistical techniques, some persons may predict the aggregates in a false way. For example, the agricultural prices decrease by 50 percent while industrial prices increase by 50 percent, the general price level remains the same because the two types of price changes neutralize each other.

In such a situation one may advise the government to make no change in its policy because the general price level remains the same. But actually, the government needs to implement a policy that helps the farmers who get a loss due to a fall in the price of their product. Thus, sometimes the aggregative results may be misleading. It requires a special ability to predict the results in such a situation.

Variation in the degree of fluctuations

An aggregative change may not influence all the sectors of the economy in the same manner. For instance, a general rise in prices does not mean that the prices of all commodities have increased and have increased in the same proportion. It is quite possible that the prices of a few commodities may rather decrease. Further, due to this aggregative change, some sectors may be affected more adversely than others. On the other hand, some individuals may be benefited more than others.

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