Macroeconomics Definition History and Schools of Thought

Macroeconomics Definition, History, and Schools of Thought

What Is Macroeconomics?

Macroeconomics studies the behavior of the overall economy, including markets, businesses, consumers, and governments. It examines phenomena such as inflation, price levels, economic growth, national income, GDP, and changes in unemployment.

Key questions in macroeconomics include: What causes unemployment? What causes inflation? What stimulates economic growth? Macroeconomics measures economic performance, explores driving forces, and projects improvements.

Key Takeaways

• Macroeconomics studies the structure, performance, behavior, and decision-making of the whole economy.
• The two main areas of research in macroeconomics are long-term economic growth and business cycles.
• Macroeconomics began with John Maynard Keynes in the 1930s and has since developed multiple schools of thought.
• Microeconomics focuses on individual actors in the economy, while macroeconomics examines their aggregate interactions.

Understanding Macroeconomics

Macroeconomics analyzes the economy using a wide lens, studying variables like unemployment, GDP, and inflation. Models are developed to explain the relationships between these factors.

Government entities use these models to create and evaluate economic, monetary, and fiscal policy. Businesses and investors use them to make strategic decisions in domestic and global markets.

Economic theories illuminate how economies function and the consequences of policies and decisions. They help businesses and investors understand the effects of economic trends and policies on their industries.

History of Macroeconomics

Though the term "macroeconomics" emerged in the 1940s, core concepts have been studied for centuries. Adam Smith and John Stuart Mill addressed issues now recognized as macroeconomics in the 1700s.

Modern macroeconomics traces its origins to John Maynard Keynes, who explained the consequences of the Great Depression. Keynesian economics later developed into various schools of thought.

Before Keynes, economics did not differentiate between microeconomics and macroeconomics. The link between goods markets and financial variables was explained by economists like Knut Wicksell and Irving Fisher.

Macroeconomics vs. Microeconomics

Macroeconomics differs from microeconomics, which focuses on individual factors affecting choices. Microeconomics considers buyers, sellers, and business owners who interact according to the laws of supply and demand.

A key distinction is that macroeconomic aggregates can sometimes behave differently from similar microeconomic variables. For example, the Paradox of Thrift suggests that saving can decrease wealth on a macroeconomic level.

Limits of Macroeconomics

Economic theory has limitations as it often lacks real-world details like taxation and regulation. The complexity of the real world and matters of social preference cannot be easily analyzed mathematically.

Economic theories focus on specific relationships while assuming all other variables remain fixed ("ceteris paribus"). Despite these limits, tracking macroeconomic indicators such as GDP, inflation, and unemployment helps investors understand economic conditions.

Macroeconomic Schools of Thought

Macroeconomics encompasses various schools of thought with differing views on how markets and participants operate.

Classical

Classical economists believe prices, wages, and rates are flexible and markets tend to clear. They build on Adam Smith’s principles, though the term "classical economists" is used broadly.

Keynesian

Keynesian economics, founded by John Maynard Keynes, focuses on aggregate demand and the business cycle. Keynesians believe government intervention through fiscal and monetary policy can manage the cycle.

Monetarist

Monetarists, led by Milton Friedman, argue that monetary policy is a more effective tool than fiscal policy for managing aggregate demand. They favor policy rules to promote stable inflation rates.

New Classical

The New Classical school integrates microeconomic foundations into macroeconomics. They emphasize rational expectations and the importance of individual behavior, believing unemployment is voluntary.

New Keynesian

New Keynesians also incorporate microeconomic foundations while recognizing market failures such as sticky prices. They argue for government intervention through fiscal and monetary policy.

Austrian

The Austrian School, seeing resurgence, applies mainly to microeconomic phenomena. Their business cycle theory explains macroeconomic swings due to monetary policy and the role of money.

Macroeconomic Indicators

Macroeconomics focuses on long-term economic growth and short-term fluctuations in national income and employment.

Economic Growth

Economic growth refers to increased aggregate production. Indicators include GDP, consumer spending, income and savings, industry performance, international trade and investment, prices and inflation, investment in fixed assets, employment, government spending, and specialized indicators.

The Business Cycle

The business cycle shows fluctuations in the levels and rates of significant variables like employment and national output. Expansions, peaks, recessions, and troughs occur in cycles. The National Bureau of Economic Research examines these fluctuations.

How to Influence Macroeconomics

Influencing the economy is challenging and takes time. Central banks, like the Federal Reserve in the U.S., implement monetary policy tools to influence macroeconomic change. These tools include interest rates, open market operations, and reserve requirements.

What is the most important concept in all of macroeconomics?

The most important concept in macroeconomics is output, which represents the total amount of goods and services produced by a country at a given moment.

What are the 3 Major Concerns of Macroeconomics?

The three major concerns of macroeconomics are unemployment, inflation, and economic growth.

Why Is Macroeconomics Important?

Macroeconomics helps governments evaluate economic performance and influence growth. Understanding macroeconomic theories can also guide businesses and investors in decision-making.

The Bottom Line

Macroeconomics evaluates overall economic performance and informs policies that can affect an economy. It plays a significant role in government and business decision-making.