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Macroeconomics Theory and Policy | 3Rd Edition by B MACROeconomics Theory and Policy | 3rd Edition by B. Modjtahedi Included in this preview: • Copyright Page • Table of Contents • Excerpt of Chapter 1 For additional information on adopting this book for your class, please contact us at 800.200.3908 x501 or via e-mail at [email protected] MACROECONOMICS Theory and Policy, 3rd Edition by B. Modjtahedi University of California, Davis Copyright © 2011 by University Readers, Inc. All rights reserved. No part of this publication may be reprinted, reproduced, transmitted, or utilized in any form or by any electronic, mechanical, or other means, now known or hereafter invented, including photocopying, microfilming, and recording, or in any information retrieval system without the written permission of University Readers, Inc. First published in the United States of America in 2011 by Cognella, a division of University Readers, Inc. Trademark Notice: Product or corporate names may be trademarks or registered trademarks, and are used only for identification and explanation without intent to infringe. 15 14 13 12 11 1 2 3 4 5 Printed in the United States of America ISBN: 978-1-60927-010-0 CONTENTS PREFACE VII CHAPTER 7 143 The Goods and Services Market CHAPTER 1 1 CHAPTER 8 163 What Do Economists Do? We Model For Food The Money Market: Supply of Money CHAPTER 2 23 CHAPTER 9 185 Private Costs and benefi ts: Rational Economic Behavior The Money Market: Demand for Money CHAPTER 3 49 CHAPTER 10 205 Social Costs and benefi ts: Economic Effi ciency The Loanable Funds Market CHAPTER 4 67 CHAPTER 11 229 Supply and Demand Labor Market and the Classical Model CHAPTER 5 95 CHAPTER 12 251 Gross Domestic Product Keynesian Economics: The Aggregate Demand Function CHAPTER 6 117 CHAPTER 13 271 Growth and Cycles Keynesian Economics: Wage and Price Rigidity CHAPTER 14 287 CHAPTER 19 363 Expectations and Economic Fluctuations Open Economy Macroeconomics CHAPTER 15 301 CHAPTER 20 379 Inflation and Unemployment Fiscal Policy: A Closer Look CHAPTER 16 321 CHAPTER 21 393 Economic Growth Epilogue: Macroeconomic Policy in a Recession CHAPTER 17 333 GLOSSARY 403 The Stock Market and the Economy CHAPTER 18 349 INDEX 415 The Foreign Exchange Market PREFACE his book was written for students taking an economics course for the fi rst time. In writing this text, I had in mind not only the traditional full-time student, but also a large number of professionals pursuing degrees in economics, fi nance, or related fi elds. Th is book has grown out of a decade’s worth of lectures I have given, both Tat the University of California–Davis and other universities. Around the turn of the 20th century, British economist Alfred Marshall defi ned economics as the study of human beings in their ordinary business of life. Economics—especially microeconomics—studies the economic decisions made by people in their everyday lives. You have made a decision to go to college, to buy this book, and to read it. I have made a decision to write this book so that you buy and read it. For us, the defi nition conveys two messages: In the fi rst place, economics should not be a very diffi cult topic to study. Second, the issues discussed in economics texts and classes should be relevant to our lives. In keeping with the spirit of Marshall’s defi nition, I have tried to explain everything using simple language, without sacrifi c- ing rigor. Both microeconomic and macroeconomic portions of the text pursue an overarching objective of achieving a desired or optimal economic outcome. In the macro portion, this is full employment, price stability, and long-term growth. In the micro section, it is economic effi ciency. I have tried to keep tight transitions from one chapter to the next. Every chapter explains what we have learned, what we don’t know yet, and what we will learn in the upcoming chapter. Students learn from repetition and continuity. I have applied this concept in the book to every extent possible. In each chapter, I repeat the background materials necessary to understand the discussions in the chapter. At the end of the chapter, I also provide a summary of the main points covered in that chapter. Continuity derives from pursuing the goals of full employment and price stability, and the role of economic policy throughout the book. Unlike many other texts, I defi ne the concepts of potential output, natural unemployment rate, infl ation, and economic growth early on, so students know from the beginning what the overall goal is. Th is is both an analysis- and policy-oriented book. From the beginning, it emphasizes the need for models in order to analyze the real-world economic problems. Th e text develops the basic macroeconomic model step by step, using real-life examples. Th e main objective of the book is to teach students how to conduct macroeconomic analysis, rather than bombard- ing them with massive amounts of disparate facts and fi gures. However, in nearly every chapter, I present the empirical evidence to support the particular model or theory. Th e microeconomic foundation is covered in Chapters 1 through 4. Th e core closed-economy macroeconomic portion of the text consists of Chapters 5 through 19. Chapter 5 defi nes the concept of gross domestic product (GDP). Th e defi nition of Preface v GDP in this book is somewhat different from those presented in other textbooks—and I believe, more accurate. Interestingly enough, this accuracy makes the concept more, rather than less, intuitive and understandable. Like most other chapters, I have written this particular chapter in such a way as to provide instructors with a degree of flexibility on how to cover it. Some may confine the coverage to the basic definitions, and move on to the remaining chapters. Others may cover the whole chapter. Chapter 6 defines the basic macroeconomic concepts of inflation, unemployment, and growth. This chapter lays down the main reasons why macroeconomists concentrate on the study of these concepts. They discuss the costs and benefits of these phenomena, using simple examples. The remaining chapters develop the basic short-run and long-run models in a step-by-step manner. Interaction between theory and empirical evidence is at the heart of the exposition of macroeconomics in this book. For example, I provide data on the relationships between money supply growth rates, inflation rates, and GDP growth rates to build students’ confidence in the models presented. Chapter 16 is about economic growth. The fact that this topic is covered in a later chapter rather than an early one does not mean it is less important than the other chapters. This is only for pedagogical reasons. I think this particular sequence results in a better flow of the materials. Other instructors, on the other hand, may want to cover this chapter early on. This chapter has been written in such a way that it can be covered before Chapter 7. The other chapter that can be used earlier is Chapter 20, which is about fiscal policy. Chapter 11 summarizes the debate on the demand management policies. Following are some distinctive features of this textbook: • GDP is defined as the market value of all the goods and services produced, rather than the finalgoods. This makes the definition more accurate and intuitive. The relation to the concept of final goods is also described. (Chapter 5) • The concepts of growth, inflation, and unemployment are defined early. Chapter 6 also defines potential GDP and the natural rate of unemployment. The early introduction of these concepts facilitates the discussion on short run versus long run, as well as the reasons for undertaking demand management policies. • The book makes it clear at the very outset in Chapter 7 that the government cannot just increase spending (G), without any consideration of how to finance it. The government can do this either by raising an equal amount of taxes, borrow- ing, or printing money. The implications of each financing method are fully discussed in the remaining chapters. • In view of the topic emerging during the recession of 2007–2008, a discussion of the liquidity trap—and how the economy can fall into it—is presented in Chapter 9. • Credit risk is another issue that came out in the 2007–2008 financial crisis. Chapter 10 provides a short discussion on this issue. • Chapter 10 also provides a full discussion of financial crowding. It shows how in the classical model of saving and investment, “everything crowds out everything else.” It then provides a discussion of government budget deficits in this environment. I don’t know of any textbook that provides such a detailed discussion of this topic. One surprising result is that even a balanced-budget increase in spending could crowd out private spending. • The Phillips Curve is presented as a model of inflation and unemployment, rather than just as a menu of choices faced by policy makers. The rate of growth of the money supply is added to the graph, to indicate the long-run tendency of the inflation rate. (Chapter 15) • A chapter is added in this edition that summarizes the debate on demand management policies. (Chapter 21) • The mathematics background for this book is minimal. Nevertheless, a section in Chapter 1 covers the entire math students need to know to follow the materials in the text. Several individuals read and made valuable comments on different chapters of the microeconomics and macroeconomics texts. In particular, I would like to thank Kevin Hoover, Esen Onur, Nahid Movassagh, Bob Modjtahedi, and Kate Griaznova for taking the time to read and provide feedback on several chapters of the microeconomics and macroeconomics portions of the text.
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