Measuring Economic Activity

Macroeconomics is the study of the behavior of the economy as a whole. It examines the
forces that affect firms, consumers, and workers in the aggregate. It contrasts with
microeconomics, which studies individual prices, quantities, and markets. In here, there are two
central themes:

The short-term fluctuations in output, employment, financial conditions, and

prices that we call the business cycle.

The longer-term trends in output and living standards known as economic growth.

Key Concepts of Macroeconomics

The 1930s marked the first stirring of the science of macroeconomic, founded by John
Maynard Keynes as he tried to understand the economic mechanism that produced the Great
Depression. For the first time, Congress affirmed the governments role in promoting output
growth, fostering employment, and maintaining price stability. The Employment Act usefully
frames the three central questions of macroeconomics:
1. Why do output and employment sometimes fall, and how can unemployment be
reduced?
2. What are the sources of price inflation, and how can it be kept under control?
3. How can a nation increase it rate of economic growth?

Objectives and Instruments of Macroeconomics

The ultimate objective of economic activity is to provide the goods and service that the
population desires. The most comprehensive measure of the total output in an economy is the
gross domestic product (GDP), which is the measure of the market value of all final goods and
services. The growth rate is defined as:
% growth rate of real GDP in year t
= 100 x (GDPt GDPt 1) / GDPt 1

The potential GDP represents the maximum sustainable level of output that the economy
can produce.
Regarding employment, people want to be able to get high-paying jobs without searching
or waiting too long, and they want to have job security and good benefits. The unemployment
rate on the vertical axis is the percentage of the labor force that is unemployed. The
unemployment rate tends to reflect the state of the business cycle: when output is falling, the
demand for labor falls and the unemployment rate rises.
The third macroeconomic objective is price stability, which is defined as a low and stable
inflation rate. To track prices, government statisticians construct price indexes or measures of the
overall price level. An important example is the consumer price index (CPI), which measures the
trend in the average price of goods and services bought by consumers. Economists measure price
stability by looking at inflation. The inflation rate is the percentage change in the overall level of
prices from one year to the next. The rate of inflation in year t = 100 x (Pt Pt 1) / (Pt 1)
A deflation occurs when prices decline, which means that the rate of inflation is negative.
At the other extreme is hyperinflation, a rise in the price level of thousand or a million percent a
year. On the other hand, a fiscal policy denotes the use of taxes and government expenditures.
Government expenditures come in two distinct forms. First there are government purchases. In
addition, there are government transfer payments, which increase the incomes of targeted groups
such as the elderly of the unemployed.
The other part of fiscal policy, taxation, affects the overall economy in two ways; taxes
affect peoples income, affect the amount people spend on goods and services as well as the
amount of private saving, and affect the prices of goods and factors o production and thereby
affect incentives and behavior. The second major instrument of macroeconomic policy is the
monetary policy, which the government conducts through managing the nations money, credit,
and banking system. Determines the short-run interest rates, and affects credit conditions,
including asset prices such as stock and bond prices and exchange rates.

International Linkages
As the costs of transportation and communication have declined, international linkages
have become tighter than they were a generation ago. One particularly important measure is the

balance on current account, which represents the numerical difference between the value of
exports and the value of imports.
The major areas of concern are trade policies and international financial management.
Trade policies consist of tariffs, quotas, and other regulations that restrict or encourage imports
and exports; this has little effect on short-run macroeconomic performance. A second set of
policies is international financial managements. A countrys international trade is influenced by
its foreign exchange rate, which represents the price of its own currency in terms of the
currencies of other nations.

Aggregate Supply and Demand

Aggregate supply refers to the total quantity of goods and services that the nation
businesses willingly produce and sell in a given period; depends upon the price level, the
productive capacity of the economy, and the level of cost. The aggregate demand refers to the
total amount that different sectors in the economy willingly spend in a given period, and equals
total spending on good and services.
The components of aggregate demand include consumption, investments, government
purchases, and net exports. The curves of both aggregate supply and demand are often used to
help analyze macroeconomic conditions. The downward-sloping curve is the aggregate demand
schedule, which represents what everyone in the economy would buy at different aggregate price
levels. The upward-sloping curve is the aggregate supply schedule, which represents the quantity
of goods and services that businesses are willing to produce and sell at each price level.
A macroeconomic equilibrium is a combination of overall price and quantity at which all
buyers and sellers are satisfied with their overall purchases, sales, and prices.