ASSIGNMENT

MACRO ECONOMICS (NLAW 1022)

SUBMITTED BY:

KALPANA BISEN

(2022BALH07ASL098)

BA-LLB (A)

2022-2027

SUBMITTED TO:

MAMTA KUMARI MAM

ALLIANCE SCHOOL OF LAW

ALLIANCE UNIVERSITY, BENGALURU

DATE OF SUBMISSION: 27TH APRIL 2023

CHAPTER 1

1. What is macroeconomics? How is it different from microeconomics?

Ans: Macroeconomics is the branch of economics that studies the behaviour and
performance of an economy as a whole. It focuses on the aggregate changes in the
economy such as unemployment, growth rate, gross domestic product and inflation.
Macroeconomics analyses all aggregate indicators and the microeconomic factors that
influence the economy. Government and corporations use macroeconomic models to help
in formulating of economic policies and strategies. Macroeconomics is the branch of
economics that deals with the structure, performance, behaviour, and decision-making of
the whole, or aggregate, economy.

 The two main areas of macroeconomic research are long-term economic growth and
shorter-term business cycles.
 Macroeconomics in its modern form is often defined as starting with John Maynard
Keynes and his theories about market behaviour and governmental policies in the
1930s; several schools of thought have developed since.
 In contrast to macroeconomics, microeconomics is more focused on the influences on
and choices made by individual actors in the economy (people, companies, industries,
etc.).

Macroeconomics vs. Microeconomics

Macroeconomics differ from microeconomics, which focuses on smaller factors that affect
choices made by individuals and companies. Factors studied in both microeconomics and
macroeconomics typically influence one another. Microeconomics is concerned with how
supply and demand interact in individual markets for goods and services. In macroeconomics,
the subject is typically a nation—how all markets interact to generate big phenomena that
economists call aggregate variables. A key distinction between micro- and macroeconomics
is that macroeconomic aggregates can sometimes behave in very different ways or even the
opposite of similar microeconomic variables. For example, Keynes referenced the so-called
Paradox of Thrift, which argues that individuals save money to build wealth (micro).
However, when everyone tries to increase their savings at once, it can contribute to a
slowdown in the economy and less wealth in the aggregate (macro). This is because there
would be a reduction in spending, affecting business revenues and lowering worker pay.

Meanwhile, microeconomics looks at economic tendencies, or what can happen when

individuals make certain choices. Individuals are typically classified into subgroups, such as
buyers, sellers, and business owners. These actors interact with each other according to the
laws of supply and demand for resources, using money and interest rates as pricing
mechanisms for coordination.

2. What are the central questions with which macroeconomics deal with? Briefly
explain them?

Ans: Macroeconomics is a branch of economics that studies how an overall economy—the

markets, businesses, consumers, and governments—behave. Macroeconomics examines
economy-wide phenomena such as inflation, price levels, rate of economic growth, national
income, gross domestic product (GDP), and changes in unemployment.Some of the key
questions addressed by macroeconomics include: What causes unemployment? What causes
inflation? What creates or stimulates economic growth? Macroeconomics attempts to
measure how well an economy is performing, understand what forces drive it, and project
how performance can improve.

The central questions with which macroeconomics deal with are as follows:

 Short Term

Why do output and employment sometimes fall, and how can unemployment be reduced?
What are sources of price inflation and how can prices be kept under control?

 Long Term

How can the nation increase its rate of growth? Use of country’s resources to the fullest.

 Why do output and employment sometimes fall, and how can unemployment be
reduced? What are sources of price inflation and how can prices be kept under
control?
All market economies show patterns of expansion and contraction known as business cycles.
The latest business-cycle recession in the United States occurred after a severe financial-
market crisis that began in 2007. Housing and stock prices fell sharply, and banks tightened
credit and lending. As a result, output and employment fell sharply. Political leaders around
the world used the tools of monetary and scale policy to reduce unemployment and stimulate
economic activity. Macroeconomics studies the sources of persistent unemployment and high
in action. Having considered the symptoms, macroeconomists suggest possible remedies,
such as using monetary policy to alter interest rates and credit conditions or using fiscal
instruments such as taxes and spending.

A market economy uses prices as a yardstick to measure economic values and conduct
business. When prices are rising— a phenomenon we call inflation the price yardstick loses
its value. During periods of high inflation, people may get confused about relative prices and
make mistakes in their spending and investment decisions. Tax burdens may rise. Households
on fixed incomes and that inflation is eating away at their real incomes.

 How can the nation increase its rate of growth? Use of country’s resources to the
fullest.

The single most important goal of macroeconomics concerns a nation's long-term economic
growth. This refers to the growth in the per capita output of a country. Such growth is the
central factor in determining the growth in real wages and living standards. Nations want to
know the ingredients in a successful growth recipe. Economic historians have found that the
key factors in long-term eco- nomic growth include reliance on well-regulated private
markets for most economic activity, stable macroeconomic policy, high rates of saving and
investment, openness to international trade, and accountable and noncorrupt governing
institutions. It requires greater investment in education and capital, but higher investment
requires lower current consumption of items lie food, clothing, and recreation. Additionally,
policymakers are sometimes forced to rein in the economy through macroeconomic policies
when it grows too fast in order to prevent rising inflation or when financial conditions exhibit
irrational exuberance.

3. Macroeconomics has been defined as a study of aggregates. Name some

aggregates whose behaviour is analysed in macroeconomics.
Ans. Macroeconomics is said to have a wide scope as it deals with aggregates for the
economy as a whole. Some of the aggregates that are studied in macroeconomics are national
income, general price level, employment, investment, etc. Macroeconomics is the study od
aggregates or averages covering the entire economy, such as total employment, national
income, national output, total investment, total consumption, total savings, aggregate supply,
aggregate demand, and general price level, wage level and cost structure. ‘Aggregate’
literally means ‘collection’ or ‘total’. Economic aggregates are variables that measure the
total economic activity for a nation state or a region. For example, the main economic
aggregate is Gross Domestic Product (GDP), which measures the total value of all the goods
and services produced in a country.

Aggregate demand:

The total amount of goods and services that people will purchase in an economy during a
specific time period.

Aggregate supply:

The total amount of goods and services that firms will produce and sell during a specific time
period.

 Economic growth

‘Economic growth’ refers to an increase in the capacity of an economy to produce goods and
services in a specific period, compared to an earlier period. Rate of economic growth (or
economic growth rate) is the expression of this growth in terms of percentage change. What
is considered a factor for economic growth, and how the growth is measured and quantified,
all affect what gets prioritised or overlooked in macroeconomic policies.

Technology is one of the main factors that affect economic growth. It can make production
more efficient through the introduction of new equipment or machines (invention) or new
methods of production (innovation). An increase in the quality or quantity of human capital
can also make the production more efficient, thus triggering economic growth. For example,
a better educated and qualified workforce often has a positive impact on the economy.

The most important aggregates of macroeconomics:

  Economic aggregates and economic growth.
 Gross Domestic Product (GDP)
 Inflation and deflation.
 Real variables vs nominal variables.
 Interest rate.
 Policy tools.
 Government taxation and spending.
 National budget. Budget surplus and budget deficit. Debt crisis. Austerity.

4. What are the three macroeconomic objectives? Explain them briefly.

Ans. In macroeconomics three of these goals receive extra focus: economic growth, price
stability and full employment. Economic growth refers to a nation's ability to produce more
goods and services over time. In macroeconomics three of these goals receive extra
focus: economic growth, price stability and full employment. Economic growth refers to a
nation's ability to produce more goods and services over time. Macroeconomics is an
economics branch focused on studying large-scale economic components such as interest
rates and taxes and how they wholly influence the functioning of the economy. It is essential
since it creates a better understanding of how the complex modern economic system
functions. It defines and helps determine the level of national employment and income in
regard to the total demand and supply. Some examples of policy objectives include:

 Attain high levels of economic growth.

 Maintain low levels of unemployment.
 Achieve price stability.
 Maintain a satisfactory balance of payments.

Economic growth

Economic growth is important as it contributes to a better living standard, a lower rate

of unemployment, and higher tax revenues for the government. To stimulate economic
growth, a government can enact policy to increase aggregate demand (national expenditure)
or aggregate supply (national output).

Short-run vs long-run economic growth

A production possibility frontier (PPF) gives information on an economy's capacity to
produce goods and services given existing resources. It also illustrates the choice of an
economy to produce more capital goods or consumer goods. At any given point on the PPF
curve, the production of more capital goods will result in fewer consumer goods produced
and vice versa.
Suppose more resources are used to produce capital goods. Then, in the short run, the
consumption will go down and the economy will suffer a temporary recession. If the
investment is successful, then, in the long run, the productive capacity will increase, causing
the economy to grow again. The shift of the PPF curve to the right (or outward) shows this. In
both the short and long run, the investment in capital goods comes at the expense of
consumer goods.

Full employment

In a perfect world, the unemployment rate would be zero since if you're not looking for work
at the going wage rate, you will not be counted as 'unemployed'. Unemployment only takes
into account people who are actively seeking jobs but aren't able to find one. However, in
practice, the economy never experiences zero unemployment. This is due to frictional
unemployment - the situation where people delay getting a job in search of the best possible
employment. The typical rate of frictional unemployment in an economy is around 2-3%.
Another way to define full employment is based on the full capacity of the economy.

Full employment and full capacity

Full employment will happen at output Y2, which is the maximum output of the economy. At
this point, the economy cannot produce more goods and services since it has utilised all the
resources available. Any increase in aggregate demand (AD) will only cause the price levels
to rise without increasing real output.

Price stability

Price levels are regulated by the supply and demand of goods and services within the
economy. A significant surge or fall in the supply/demand can cause the price levels to
fluctuate wildly and put the economy at risk. Thus, one of the government's main objectives
is to maintain price stability. Since price levels determine inflation (the general increase in
price levels), a government’s price stability methods often involve keeping inflation at a
lower rate.

A high inflation rate can result in lower real wages and reduced purchasing power. This
means that people are less willing to spend and as a result, production will fall and the
economy might undergo a recession. To fight inflation, the government often adopts a
contractionary monetary policy by raising the interest rates. This causes the cost of borrowing
money to increase and discourages people from borrowing money to spend on goods and
services. As a result, consumption will drop and so will the price levels and inflation.

5. Explain the importance of the study of macroeconomics.

Ans. It helps in understanding the economic fluctuations. It helps in formulation of economic

policies. It helps in studying inflation and deflation. It helps in study of national income and
GDP. The study of macroeconomics is very important for evaluating the overall performance
of the economy in terms of national income. The national income data helps in anticipating
the level of fiscal activity and understanding the distribution of income among different
groups of people in the economy. Macro Economics is aggregative economics which
examines the interrelation among various aggregates, their determination and causes of
fluctuations in them. The practical importance of macroeconomics has been carefully
analysed in points below.

 Various national problems like overpopulation, inflation, balance of payment is

underpinning the underdeveloped economies. The study of macroeconomics helps
to bring a check on these issues.
 Macroeconomics enables studying the causes, effects and solutions of general
redundancy.
 The study of macroeconomics is very important for evaluating the overall
performance of the economy in terms of national income. The national income data
helps in anticipating the level of fiscal activity and understanding the distribution
of income among different groups of people in the economy.
 Macroeconomics helps to evaluate the resources and capabilities of an economy,
churn out ways to increase the national income, boost productivity, and create job
opportunities to upscale an economy in terms of monetary development.
  Correct economic policies formulated at macro level makes it possible to control
business cycles (inflation and deflation) and resultantly, violent booms and
depressions rarely occur.
 Macroeconomics as a discipline includes diverse theories of consumption and
saving. It explains the importance of saving in the national economy and its role in
the investment.
 Macroeconomics studies the behaviour of individual units. For instance, the
reasons for increase in the cost of a firm or industry cannot be examined without
evaluating or understanding the average cost conditions of the whole economy.

6. What policy instruments are available with the government to achieve

macroeconomic objective? Explain them in brief.

Ans. There are several policy instruments that governments can use to achieve
macroeconomic objectives, such as:

1. Monetary Policy: this involves the use of central bank tools to control the money
supply, interest rates, and inflation. The central bank can use various instruments such
as open market operations, reserve requirements, and discount rates to influence the
supply of money in the economy.
2. Fiscal Policy: This involves the use of government spending, taxation, and borrowing
to influence the economy. The government can increase spending to stimulate
economic growth or reduce spending to control inflation. Taxation can be used to
increase revenue and reduce demand, while borrowing can be used to finance
government spending.
3. Exchange Rate Policy: This involves managing the exchange rate of the national
currency to achieve macroeconomic objectives. The government can use a fixed
exchange rate or a floating exchange rate system to influence the value of the
currency.
4. Supply-Side Policy: This involves policies that aim to increase the production and
efficiency of goods and services in the economy. This includes policies such as
deregulation, investment in education and training, and research and development.
5. Price Controls: This involves the use of government regulations to control prices in
certain sectors of the economy. Price controls can be used to prevent inflation or
protect consumers from high prices.
 6. Industrial Policy: This involves policies that aim to promote specific industries or
sectors of the economy. The government can provide subsidies, tax incentives, and
other forms of support to encourage the growth and development of targeted
industries.

Overall, governments use a combination of these policy instruments to achieve their

macroeconomic objectives, such as low inflation, high employment, and economic growth.
The effectiveness of these policies can depend on various factors, including the state of the
economy, the political climate, and external factors such as global economic conditions.

7. Why the study of Aggregate demand and Aggregate supply is important to

understand the working of economy? Give your thought on this.

Ans. The study of aggregate demand and aggregate supply is essential to understanding the
functioning of the economy because it helps to explain the behaviour of key macroeconomic
variables such as output, employment, and inflation. Aggregate demand refers to the total
amount of goods and services that consumers, businesses, and governments are willing and
able to buy at a given price level, while aggregate supply represents the total amount of goods
and services that producers are willing and able to supply at a given price level.

Understanding how changes in aggregate demand and supply affect the overall level of
economic activity is crucial for policymakers and investors to make informed decisions. For
example, if aggregate demand is high relative to aggregate supply, it can lead to inflationary
pressures and overheating in the economy. Conversely, if aggregate demand is low relative to
aggregate supply, it can lead to a recession and high unemployment.

Moreover, the study of aggregate demand and aggregate supply provides insights into the
factors that drive economic growth and the distribution of income in the economy. For
example, changes in productivity, technology, and the labour force can affect aggregate
supply, while changes in consumer spending, investment, and government policies can affect
aggregate demand. In a summary, understanding the dynamics of aggregate demand and
aggregate supply is crucial for policymakers, investors, and individuals to make informed
decisions about the economy. By analysing these variables, we can gain insights into the
underlying drivers of economic growth, inflation, and unemployment, and identify
opportunities to improve economic outcomes for all.
8. Describe the circular flow of income in a two-sector economy. What determines the
circular flow of income?

Ans: The circular flow of income refers to the movement of goods and services, as well as
money, between households and businesses in an economy. In a two-sector economy, the two
sectors are households and businesses.

The circular flow of income in a two-sector economy can be described as follows:

1. Households provide factors of production, such as labour and capital, to businesses in

exchange for wages, salaries, and profits.
2. Businesses use the factors of production to produce goods and services, which they
sell to households in exchange for money.
3. Households use the money they receive from businesses to purchase goods and
services.
4. The money that businesses receive from households is used to pay for the factors of
production that they use in production.

This cycle continues as households provide factors of production, businesses produce goods
and services, and households purchase these goods and services using the money they receive
from businesses. The circular flow of income is determined by the level of economic activity
in the economy, which in turn is determined by the level of aggregate demand and aggregate
supply. Aggregate demand refers to the total amount of goods and services that households
and businesses are willing and able to purchase at a given price level, while aggregate supply
refers to the total amount of goods and services that businesses are willing and able to
produce at a given price level. When aggregate demand is equal to aggregate supply, the
economy is said to be in equilibrium, and the circular flow of income is stable. Changes in
aggregate demand or supply can cause fluctuations in the circular flow of income, leading to
economic booms or recessions.

9. How does the inclusion of government in a two-sector economy affect

circular flow of income?

Ans: The inclusion of government in a two-sector economy can have a significant impact on
the circular flow of income. In addition to households and businesses, the government is a
third sector that plays an important role in the economy.

When the government is included in the circular flow of income, it can impact the flow of
money and goods between households and businesses in several ways:

1. Government spending: The government can spend money on goods and services, just
like households and businesses. When the government spends money, it injects
additional income into the circular flow, increasing aggregate demand and potentially
stimulating economic growth.
 2. Taxes: The government can also collect taxes from households and businesses. Taxes
reduce disposable income, which can decrease aggregate demand and potentially slow
economic growth.
3. Transfer payments: The government can also make transfer payments, such as Social
Security, welfare, and unemployment benefits, to households. These payments
increase disposable income and can increase aggregate demand, leading to increased
economic growth.
4. Government borrowing: The government may also borrow money from households,
businesses, and other countries, which can increase the supply of money in the
economy.
5. Government regulation: The government can also regulate businesses and industries,
which can impact the flow of goods and services in the economy. For example,
regulations on pollution or workplace safety can impact the production and
distribution of goods and services.

Overall, the inclusion of government in a two-sector economy can impact the circular flow of
income by changing the levels of spending, taxation, and transfer payments, as well as the
regulations that impact businesses and industries. These changes can impact the overall level
of economic activity and can either stimulate or slow down economic growth.

10. Explain the circular flow of income in a four-sector open economy.

Ans: The circular flow of income in a four-sector open economy refers to the continuous
flow of goods and services, resources, and money between four key sectors of the economy:
households, firms, government, and foreign entities.

Here's how it works:

1. Households: Households provide factors of production, such as labour and capital, to

firms in exchange for wages, profits, and dividends.
2. Firms: Firms use these factors of production to produce goods and services, which are
then sold to households and other firms.
3. Government: The government collects taxes from households and firms and uses this
revenue to provide public goods and services such as infrastructure, education, and
healthcare.
4. Foreign Entities: Foreign entities buy and sell goods and services with domestic firms,
creating imports and exports, and providing foreign investment and aid.
The circular flow of income shows how the economy is interconnected, with each sector
relying on the others to function effectively. It also illustrates the concept of leakages and
injections in the economy. Leakages occur when income is saved or used to pay off debt
rather than being spent on goods and services, while injections refer to the addition of income
to the circular flow, such as through government spending or foreign investment.

11. Why is it important to study circular flow of income in an economy?

Provide your thoughts on this.

Ans: Studying the circular flow of income in an economy is important for several reasons.
Firstly, it helps us understand how goods and services flow between different sectors of the
economy, such as households, businesses, and the government. This, in turn, helps us
understand how changes in one sector can impact the others

Secondly, understanding the circular flow of income helps us understand the concept of
national income and how it is generated. This knowledge is crucial for policymakers and
economists as they make decisions on how to manage the economy, such as setting tax rates
or implementing fiscal policies.
Thirdly, studying the circular flow of income helps us understand the role of money in the
economy and how it is used to facilitate transactions between different sectors. This
knowledge is important for understanding the workings of financial markets and the impact
of monetary policy on the economy.

Overall, studying the circular flow of income is important for gaining a comprehensive
understanding of how an economy works and how different sectors interact with each other.
This knowledge is crucial for policymakers, economists, and anyone interested in
understanding the economy and making informed decisions.

CHAPTER 2

1. Distinguish between economic and non-economic production in national

income accounting.

Ans: In national income accounting, economic production refers to the production of goods
and services that are traded in markets and have a monetary value. Non-economic production,
on the other hand, refers to the production of goods and services that are not traded in
markets and do not have a monetary value.

Examples of economic production include the production of goods and services by firms and
individuals for sale in markets, such as cars, clothes, food, and housing. These goods and
services are included in the Gross Domestic Product (GDP) and contribute to the overall
economic growth of a country.

Non-economic production, on the other hand, includes activities that are not traded in
markets and do not have a monetary value, such as household production of goods and
services, including cooking, cleaning, and childcare. These activities are not included in the
GDP because they are not traded in markets and do not generate income.

In summary, economic production refers to the production of goods and services that have a
monetary value and are traded in markets, while non-economic production refers to the
production of goods and services that are not traded in markets and do not have a monetary
value.

2.
Macroeconomics is the study of aggregates or averages covering the entire economy, such as
total
employment, national income, national output, total investment, total consumption, total
savings,
aggregate supply, aggregate demand, and general price level, wage level, and cost structure
Macroeconomics is the study of
aggregates or averages covering
the entire economy, such as total
employment, national income,
national output, total investment,
total consumption, total savings,
aggregate supply, aggregate
demand, and general price level,
wage level, and cost structure.
In other words, it is aggregative
economics which examines the
interrelations among the various
aggregates, their determination
and causes of fluctuations in
them. Thus in the words of
Professor
Ackley, “Macroeconomics deals
with economic affairs in the
large, it concerns the overall
dimensions of
economic life. It looks at the total
size and shape and functioning of
the “elephant” of economic
experience, rather than working
of articulation or dimensions of
the individual parts. It studies the
character of the forest,
independently of the trees which
compose it.”
Macroeconomics is also known
as the theory of income and
employment, or simply income
analysis. It is
concerned with the problems of
unemployment, economic
fluctuations, inflation or
deflation,
international trade and economic
growth. It is the study of the
causes of unemployment, and the
various determinants of
employment.
In the field of business cycles, it
concerns itself with the effect of
investment on total output, total
income, and aggregate
employment. In the monetary
sphere, it studies the effect of the
total quantity of
money on the general price level.
In international trade, the
problems of balance of payments
and foreign aid fall within the
purview of
macroeconomic analysis. Above
all, macroeconomic theory
discusses the problems of
determination of
the total income of a country and
causes of its fluctuations. Finally,
it studies the factors that retard
growth and those which bring the
economy on the path of economic
development.
The obverse of macroeconomics
is microeconomics.
Microeconomics is the study of
the economic
actions of individuals and small
groups of individuals. The study
of particular firms, particular
households, individual prices,
wages, incomes, individual
industries, particular
commodities. But
macroeconomics deals with
aggregates of these quantities; not
with individual incomes but with
the
national income, not with
individual prices but with the
price levels, not with individual
output but with
the national output.
Both microeconomics and
macroeconomics involve the
study of aggregates. But
aggregation in
microeconomics is different from
that in macroeconomics. In
microeconomics the
interrelationships of
individual households, individual
firms and individual industries to
each other deal with aggregation.
The demand and supply of labour
in a locality are clearly aggregate
concepts.However, the aggregates
of
microeconomic theory,according
to Professor Bilas, do not deal
with the behaviour of the billions
of
dollars of consumer expenditures,
business investments, and
government expenditures. These
are in the
realm of microeconomics.
Thu