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Economics: Theory Through Applications

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Chapter 3Macroeconomics in Action

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Learning Objectives

• How might you encounter macroeconomics?

• What are the main indicators of the macroeconomy?

• What are the primary macroeconomic policy tools of the government?

• How has real GDP changed over the past 40 years?

• What is inflation and how does it affect the macroeconomy?

• How can we see fiscal and monetary policy in action?

• What is the methodology of macroeconomics?

• What is the role of models in the making of macroeconomic policy?

Figure 3.1

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Figure 3.2 - Price of British Pound in Euros, February–March 2008

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Figure 3.3 - Real GDP per Person in the United States, 1960–2000

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Figure 3.4 -  Form 1040EZ

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Figure 3.5 - Macroeconomics Methodology

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Key Terms

• Real gross domestic product (real GDP): A measure of production that has been corrected for any changes in overall prices

• Inflation rate: The growth rate of the price index from one year to the next

• Monetary policy: Changes in interest rates and other tools that are under the control of the monetary authority of a country (the central bank)

• Fiscal policy: Changes in taxation and the level of government purchases, typically under the control of a country’s lawmakers

• Unemployment rate: The number of unemployed individuals divided by the sum of the number employed and the number unemployed

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Key Takeaways

• You encounter macroeconomics everyday through the news about the state of the macroeconomy, the price you pay for goods and services, the tax you pay on income, and the effects of macroeconomic policy on interest rates

– Macroeconomic events and policies in other countries affect you as well

• Real GDP, the rate of inflation, and the rate of unemployment are three primary indicators of the state of the macroeconomy

• The government influences the macroeconomy through its level of spending, taxes, and control of the money supply

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Key Takeaways

• Real GDP has grown on average over the past 50 years, but the growth is not always constant: sometimes the economy grows quickly and sometimes real GDP grows slowly (or not at all)

• The inflation rate measures the percent change in prices. If prices are increasing, then a unit of currency, such as a dollar, buys fewer goods and services. During a period of inflation, the monetary authority may take action to reduce the inflation rate

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Key Takeaways

• Each year, the income taxes we pay to the government reflect its choice of fiscal policy

– The policy meetings of the FOMC in the United States, the ECB of the European Monetary Union, and other central banks around the world are examples of monetary policy

• The methodology of macroeconomics involves the interplay between data and models

• Abstract models provide policymakers with a framework to understand what is happening in the macroeconomy and also a way to predict the effects of policy actions

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