What is Macroeconomics – Definition & Theories

The economic policies are based on the overall health and ongoing progress of the economy, the GDP and unemployment are the major indicators for any economy. Macroeconomics is directly related to the microeconomics, a household or a firm taking economic decisions, to sum up to for a macroeconomic decision of a country or region. The policies made at the superior level have a huge impact on all the individuals. So

What is Macroeconomics

Macroeconomics is a branch of economics dealing with the economy “as a whole”. All the major issues related to the economy is covered up by macroeconomics. Some major economic indicators such as national income, unemployment rates, price indicators, inflation and deflation, and GDP are covered under Macroeconomics. All the macroeconomic measures are observed and taken by the government for the overall stability and balance of a nation’s economy.

The classical macroeconomics is divided into the three major chunks; all the concepts are directly or indirectly related to consumers, producers, and labors. Macroeconomics is a study of the national or regional economic output, unemployment, and inflation. All the other economic indicators of a national or regional economy are dependent on these three major factors.

The output of a country is what a nation produces in return of its labor force and resources in a given time i.e. quarterly or annual output. It is the estimated sum of all the individual outputs of masses, also termed as GDP per person of a country. The output is always coined as a term by economists for income per individual. GDP indicates the equivalent income generated as an average by people of a country. GDP of a country increases with the individual prosperity and resources, the human capital, education, and better machinery, law, and order for local and foreign investments for the overall growth of a nation. The GDP graph fluctuates round the year due to the balance of payments, the political situation of a country, and other business indicators.

Unemployment is another measure for economic growth; it is the amount or percentage of skilled or unskilled working force actively looking for jobs. The unemployment rate increases in economies with lesser consumer demands or purchasing power. it is catastrophic in nature when increased above a threshold; the major causes of unemployment are decreased profit margins and reduced demand for goods in the market. The classic unemployment theory states that unemployment rate increases when the wages are higher and employers are unwilling to hire more workers for the specified job. When the workers do not have the required skill level required for an open job in the area leads to unemployment.

When the prices go up or down, it’s called inflation and deflation respectively. Inflation relates both to growth and decay of economy. inflation has demerits of a lower standard of living and uncertainty in the overall economic situation. As a general formula, the increase in taxes and reducing the distribution of wealth in the open market will help reduce inflation.

Theories of Macroeconomics

Macroeconomics was defined by renowned economists; among the classical theories of macroeconomics, the two most followed theories are Keynesianism and Monetarism. Before that, the government had no control over free markets. In recession times, the markets would cripple and loads of workers got fired because of less production and reduced demand for goods. To overcome unemployment during the recession, Keynesian presented a theory to balance spending and production.

1. Keynesian Theory

Keynesianism was brought up by a British economist John Maynard Keynes in 1935 in his book, “The General Theory of Employment, Interest, and Money”. The theory was presented in view of the great depression in the United States where the production capacity of the country exceeded its exports and about a quarter of US workforce was jobless in the period that lasted for a decade. He argued that the Great Depression could be avoided had the government boosted spending via its fiscal policy. He gave the idea of macroeconomics for the first time and advised governments to control the fiscal economic policies such as imports, exports, unemployment, and aggregate spending. According to the Keynesian school of thought, the government should balance the demand by spending on goods in a recession period to balance the economy.

2. Monetarism

Monetarism came in the 1950s for the first time by Milton Friedman; he stated that the great depression had not taken place if the early stages of the recession are controlled by regulation of money to the market by the Central Bank of America instead of doing the opposite at that time. The increase in money supply would have controlled the recession instead of the Keynesian theory of increasing demand through fiscal policy. He was of the view that the government must not interfere in the free market and also in other economic matters.

3. Recent Theories

Later on, economists either belonged to the Keynesian school of thought or monetarists to support Friedman’s work. The later theories opposed both the theories to some extent. In the 1970s, Lucas Jr. led Classical School of thought in economics. He stated that the decision makers, economic outputs are predicted by rational economists and not only on the historical data and present scenario of an economy. Later, Lucas Jr. work was endorsed and furthered by Kydland and Edward Prescott to explain fluctuations in the business cycle also known as Real Business Cycle or RBC. It stated that economic fluctuations can be predicted through mathematical calculations and not only on historical figures. The unpredictable events in the economy can also be dealt with accordingly.

The RBC was counter-argued by New Keynesian school of thought in the 1980s; it stated that the wages and production are, sometimes, unchangeable with the fluctuating market. To keep both the production and wages in order, shed off workers and maintain production and wages of the remaining staff instead of cutting down wages. After the new Keynesian theory, it was evident that the flow of more money during recession period can help stabilize the economy in the short run. Stickiness and monetary policy directly affects the economy; it has lasting negative effects on the economy while unemployment is a short-term effect.