Introduction to Macroeconomics:
Context:
Macroeconomics deals with the economy as a whole. Macroeconomic sectors of the economy can typically simplified as, households, government and firms. The individual households of the country are lumped together and measured as whole, it is in this context of the aggregate economy that issues such as economic growth, unemployment, inflation, recession and others are used. Macroeconomists might be interested in the changes in prices of a set basket of goods, using them as a proxy for cost of living increases. This basket is a powerful tool in the hands of a macroeconomist since it allows a direct comparison of prices of goods between years, allowing any increases, inflation, or decreases, deflation to appear. If these are charted over a long period it becomes possible to extrapolate or predict the increases or decreases in prices of the basket for future years. Macroeconomists are constantly involved in measuring the health of the economy and providing useful and relevant advice to government, business and households amongst other things.
History:
The discipline of modern macro-economics began in 1776 with the publication of
The Wealth of Nations by Adam Smith. Smith described in detail the capitalist method, of free markets and competition which guided by an
invisible hand provided for justice and equality through market mechanisms. Smith held that,
it is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from the their regard to their own interest, in other words the self interest of the butcher, the brewer and the baker aligned with the hungry to produce food. Until the Great Depression this Classical School was the dominant force in economic thought. This would change with the publication of The
General Theory of Employment, Interest and Money in 1936 as a response to the perceived lack of solutions that Classical Economics had for the Great Depression. This school, Keynesianism would be the dominant school of economic thought through till the late seventies. Keynesianism stressed that government intervention in the market was desirable in order to remedy depressions the chief problem of which is unemployment. The perceived cause of unemployment was a lack of private spending in the economy which Keynes hoped to remedy by an active government
priming the pump of the economy by increasing its spending to offset the fall in private spending. Other schools exist; Monetarists pay specific attention to the quantity theory of money, Austrians look at price signals and the Austrian business cycle, while Neo-Classicists have improved upon Smiths original work and Neo-Keynesians work with an improved version of Keynesianism. There are other schools of thought in economics, and it would seem likely that the next big school of thought is being born in some distant campus as this author writes.
Mindset and Method:
Lionel Robbins provides perhaps the best definition of Economics,
as a science which studies human behaviour as a relationship between ends and scarce means which have alternative uses. Economic is a
social science because of the human aspect of its studies. Economic is different to a hard physical science, for instance chemistry or physics, because humans unlike elements or atoms do not react uniformly to the same stimuli all other things being equal. Humans when faced with the exactly the same situation, can choose differently, take for instance something as mundane as breakfast, insure everything physically is the same, the table, the chairs, the breakfast choices, now test a group of people. Do you expect to get the same results from all of them? Of course not, some will eat toast, others will have cereal, and still others will have nothing. Even the same individual may make a different choice on the same day! Physical scientists deal with things which when exposed to the same circumstances will respond the same, in contrast. Economists are therefore unable to predict with quite the same certainty of physical scientists, and are forced to rely on
certe paribis, which is means to hold all other things equal. This is not as strict a burden as the physical scientists impose on themselves, and tends to only work at an aggregate level (there will always be some exceptions to rules but generally speaking they will hold). If the prices of two of exactly the same shoes are slightly different, the vast majority of people will buy the cheaper good, a small number will buy the more expensive good some might describe this as snobbery. Scarcity can be best summed up by the lyrics of the song,
Yes, We Have No Bananas,
"Yes, we have no bananas
We have-a no bananas today.
We've string beans, and onions
Cabbageses, and scallions,
And all sorts of fruit and say
We have an old fashioned to-mah-to
A Long Island po-tah-to
But yes, we have no bananas.
We have no bananas today."
In practice scarcity means that all
economic goods are unable to satisfy everyones needs and desires. Desirable goods are goods which people desire, people do not usually want waste water, but people do desire high end cars.
Economic goods are simply goods which are both scarce and desirable, they can range from the aforementioned high end cars of which only a limited number are made, in the hundreds of thousands which are purchased by customers after some quality of the car, to something as simple as water which is a weaker
economic goods in that it is scarce in some regions and abundant in others, a desert and a large freshwater lake, and desirable to some but not to others, Bedouins values water greatly while University students seem to consume little of it in favour of other beverages for instance. Humans have unlimited wants, we are almost never satisfied, we are acquisitive by nature, such that once we acquire a car our thoughts might then immediately leap to dreams of owning a house.
Models:
Economists use these aggregate level observations to formulate
models which are ways of testing, and determining possible outcomes of certain events. A simple model would be our shoe example, if we have two identical shoes with different prices intuitively we know that most people will buy the cheaper shoes. You can test this on yourself and your friends. There will be some exceptions, but broadly speaking the result will be the same. Since economists rely on
certe paribis which is not an easy thing to do, given that people are themselves different economists rely on three important ideas that humans in conventional economic work under.
- That they work for their own self interest;
- That they act rationally in making decisions about themselves;
- And that only keeping the most important variables in play will not sufficiently alter the result of the model.
Take our shoe example, if we hold everything the same we would need identical shops, next to each other, with the same look, and with everything exactly the same. Thinking about an exact mirror image of the two shops, with just different prices is a good way of going about it. Plainly in the real world this is difficult and unlikely to ever happen, look at two shoe shops of even the same chain and you will see that they have different configurations in terms of shelves and different locations not to mention different clientele!
With a model we can make
assumptions to simplify our variables and make
certe paribis easier to accommodate. We do know that broadly people act in their own self interest, people get up in the morning the world over and feed themselves generally so they dont starve to death. So with this in mind we can be fairly sure that if people are after shoes, they will purchase the cheaper ones since they will be acting in their own self interest, in this case saving money. They will also be satisfying the rationality criteria, by buying the cheaper pair of identical shoes, showing they have exercised a sensible choice given the circumstances, some wont but they will be a minority. We can also remove some variables from our model to make it easier, if we know that roughly the same group of people shop at this chain because it caters to women, who purchase this type of shoe, like the chains only three colours and have this size of feet. We can be definitely sure that what people had for breakfast will not interfere with their choice between exactly the same shoes with a different price. All of these could be wrong, for a small number of the overall cases, people might find that their cereal disagreed with them and go to the closer shop, we already know that some people dont care about the cost of the good and might derive some other benefit from the purchase gloating perhaps, and we can be sure that sometimes men do indeed shop in ladies shoe stores. But on aggregate these deviations wont matter all that much.
Of interest
http://people.ischool.berkeley.edu/~hal/Papers/how.pdf
Resources and the 4 Factors:
Economic
resources are by definition limited, since they are scare or limited to the extent of our wants which are unlimited.
Goods and services are the two broad sub categories of
resources. Goods are tangible, they are touchable, or
kickable they represent things like food or clothing or cars. Services are intangible, they cannot be stored or transferred, or
kicked, they are things like haircuts which cannot be transferred to another person or stored up in preparation of the need of another haircut.
These two sub categories form the human part of the 4
factors of production, which are comprised of
land,
labour,
capital and
entrepreneurship.
- Land in an economic sense includes all natural resources. Scarcity in agricultural land is a prime example of the importance of land as a factor, and also the positive effects of an accumulation of capital, labour and entrepreneurship which will be discussed later.
- Labour is a human element of the economy, and includes muscle power and brain power as well as all other skills, proficiencies or capabilities that humans have. Labour includes most professions, ranging from chemists, to office workers to farm hands.
- Capital in an economic sense means all the non-human assistants for production, these include farming tools, factories, infrastructure and the like, a simple rule of thumb is that they are used to produce other goods.
- Entrepreneurship allows for the facilitation of the division of labour and coordinates and organizes the other three factors.
Adam Smith in his
The Wealth of Nations provides a strong example of the benefits of capital accumulation, entrepreneurship and the
division of labour.
the trade of the pinmaker; a workman not educated to this business
nor aquatinted with the use of the machinery employed in it
could scare, perhaps with his utmost industry, make one pin in a day and certainly could not make twenty. But in the way in which this business is now carried on, not only the whole work is a peculiar trade, but it is divided into a number of branches, of which the greater part of likewise peculiar trades. One man draws out the wire, another straights it, a third cuts it, a fourth points it, a fifth grinds it at the top for receiving the head; to make the head requires three distinct operations; to put it on is a peculiar business, to whiten the pin is another; it is even a trade itself to put them in the paper
[pin making]
is in this way divide into about eighteen distinct operations, which, in some manufactories, are all preformed by distinct hands, though in others the same men will sometimes perform two or three of them. I have seen a small manufactory of this kind where ten men only were employed, and where some of them consequently preformed two or three distinct operations. But thought they were very poor, and therefore
[not]
accommodated with the necessary machinery, they could, when they exerted themselves make among them upwards of twelve pounds of pins in a day. There are upwards of four thousand pins in a pound of pins
each person
might be considered as making four thousand eight hundred pins in a day. But if they had been wrought separately and without any of them having been educated to this peculiar business, they could certainly not each of them make have made twenty
The
division of labour between pin-makers increased the overall production of pins, as each worker specialised in some particular aspect of manufacture. Imagine for a moment if you wanted to make a computer, without the assistance of any division of labour, you would have to mine the ore to get the metal, heat it in a furnace, get it to just the right temperature, treat the metal and then actually figure out how to use it. Most if not all people reading this would not have the faintest idea about how to go about this task. For those who do claim the ability to do this, then this author challenges you to try without any assistance.
Land only plays a marginal role in the modern system as an economic driving force, resources are still important, but do not hold as much of a fascination as they did in the pre-industrial world. Early economists called physiocrats, believed that a nations wealth derived from its farmland. They held that all other forms of production were inferior to farming for the nations economic health; they did not see that industry or commerce could generate wealth.
Labour is the factor which was strongest before industrialisation, before the steam engine humans were limited the force they could harness to exert. William J. Bernstiens, The Birth of Plenty provides an illustrative example of these practical limits in sustained horsepower in pre-steam societies;
Horsepower generator Sustained horsepower
Man and mechanical pump 0.06
Man and winch 0.08
Ass 0.20
Mule 0.39
Ox 0.52
Draft Horse 0.79
A single car can now out pull a whole team of draft horses in the long run, representing on a small level the increasing supremacy of capital accumulation and technological over just raw muscle and throwing bodies at a problem.
Capital in this example represents the technical equipment and specialist setup of the firm. This can range from the technical requirement of having ventilation to allow smoke to escape from the foundry, to having specialised grasping instruments to hold the pins still, vices.
Entrepreneurship brings these together, it is this guiding factor, that allows machinery to be used by productive workers and can source the necessary resources in order to keep that machinery and those workers producing. Without this factor, machinery would stand idle, and workers would be unemployed, and resources would be underutilized. Most people have some degree of entrepreneurial skill. People are capable of harnessing friends and family to work towards a common goal, for instance dinner.
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If there is something not right feel free to tell me.
