Detailed Contents

Preface 21

PART 1 Introduction

1 Introduction to Macroeconomics ç³

1.1 What Macroeconomics Is About 31

Long-Run Economic Growth 32

Business Cycles 34

Unemployment 35

Inflation 36

The International Economy 37

Macroeconomic Policy 38

Aggregation 40

1.2 What Macroeconomists Do 40

Macroeconomic Forecasting 40

Macroeconomic Analysis 41

Macroeconomic Research 41

Data Development 42

■ In Touch with Data and Research: Developing and Testing an Economic Theory 43

1.3 Why Macroeconomists Disagree 44

Classicals Versus Keynesians 45

A Unified Approach to Macroeconomics 47

► CHAPTER SUMMARY AND PROBLEMS 49

2 The Measurement and Structure of the National Economy 52

2.1 National Income Accounting: The Measurement of Production, Income, and Expenditure 52

■ In Touch with Data and Research: The National

Income and Product Accounts in Malaysia 54

Why the Three Approaches Are Equivalent 55

2.2 Gross Domestic Product 56

The Product Approach to Measuring GDP 56

■ In Touch with Data and Research: Natural

Resources, the Environment, and the National Income

Accounts 59

The Expenditure Approach to Measuring

GDP 61

The Income Approach to Measuring GDP 64

2.3 Saving and Wealth 67

Measures of Aggregate Saving 67

The Uses of Private Saving 69

Relating Saving and Wealth 71

2.4 Real GDP, Price Indexes, and Inflation 74

Real GDP 74

Price Indexes 77

■ In Touch with Data and Research: The Computer

Revolution and Chain-Weighted GDP 78

■ In Touch with Data and Research: Does CPI Inflation

Overstate Increases in the Cost of Living? 81

■ Application: The Federal Reserve's Preferred Inflation

Measures 83

2.5 Interest Rates 84

► CHAPTER SUMMARY AND PROBLEMS 87

part 2 Long-RunEconomic Performance

3 Productivity, Output, and

Employment 93

3.1 How Much Does the Economy Produce? The Production Function 94

■ Application: The Production Function and Changes in Productivity in the European Union 95

The Shape of the Production Function 97

The Marginal Product of Capital 98

The Marginal Product of Labor 100

Supply Shocks 101

3.2 The Demand for Labor 103

The Marginal Product of Labor and Labor Demand:

An Example 104

A Change in the Wage 106

The Marginal Product of Labor and the Labor Demand Curve 106

Factors That Shift the Labor Demand Curve 108

Aggregate Labor Demand 110

3.3 The Supply of Labor 110

The Income-Leisure Trade-Off 111

Real Wages and Labor Supply 112

■ Application: The Gig Economy in the ASEAN

Nations 114

The Labor Supply Curve 115

Aggregate Labor Supply 116

3.4 Labor Market Equilibrium 117

Full-Employment Output 119

■ Application: Output, Employment, and the Real Wage During Oil Price Shocks 119

3.5 Unemployment 121

Measuring Unemployment 121

Changes in Employment Status 122

■ In Touch with Data and Research: Labor Market Data in Kazakhstan 122

How Long Are People Unemployed? 123

■ Application: Unemployment During the European

DebtCrisis 125

Why There Always Are Unemployed People 126

■ In Touch with Data and Research: Alternative Measures of the Unemployment Rate 128

■ Application: Recent Trends in Labor Supply 129

3.6 Relating Output and Unemployment: Okun's Law 130

► CHAPTER SUMMARY AND PROBLEMS 133

Appendix 3.A: The Growth Rate Form of Okun's Law 141

4 Consumption, Saving, and Investment 142

4.1 Consumption and Saving 143

The Consumption and Saving Decision of an Individual 144

Effect of Changes in Current Income 145

Effect of Changes in Expected Future Income 146

■ Application: The Impact of the Pandemic Recession of 2020 on Consumption 147

Effect of Changes in Wealth 148

Effect of Changes in the Real Interest Rate 149

Fiscal Policy 151

■ In Touch with Data and Research: Interest

Rates 152

■ Application: How Investors Respond to Tax

Incentives 156

4.2 Investment 158

The Desired Capital Stock 158

Changes in the Desired Capital Stock 161

■ Application: Measuring the Effects of Taxes on Investment 164

From the Desired Capital Stock to Investment 166 Investment in Inventories and Housing 168

■ In Touch with Data and Research: Investment and the StockMarket 169

4.3 Goods Market Equilibrium 171

The Saving-Investment Diagram 172

■ Application: Macroeconomic Consequences of the Boom and Bust in Stock Prices 176

► CHAPTER SUMMARY AND PROBLEMS 180

Appendix 4.A: A Formal Model of Consumption and Saving 188

5 Saving and Investment in the Open Economy 205

5.1 Balance of Payments Accounting 206

The Current Account 206

■ In Touch with Data and Research: The Balance of Payments Accounts in Malaysia 208

The Financial Account 209

The Relationship Between the Current Account and the Financial Account 210

Net Foreign Assets and the Balance of Payments Accounts 212

■ Application: The United States as International Debtor 213

5.2 Goods Market Equilibrium in an Open Economy 215

5.3 Saving and Investment in a Small Open Economy 217

The Effects of Economic Shocks in a Small Open Economy 220

5.4 Saving and Investment in Large Open Economies 221

■ Application: The Impact of Globalization on the U.S.

■ Application: Recent Trends in the U.S.

5.5 Fiscal Policy and the Current Account 227

The Critical Factor: The Response of National Saving 227

The Government Budget Deficit and National Saving 228

■ Application: The Twin Deficits 229

► CHAPTER SUMMARY AND PROBLEMS 232

6 Long-Run Economic Growth 239

6.1 The Sources of Economic Growth 240

Growth Accounting 242

■ Application: Waves of Productivity Growth over Time 245

■ Application: The Rebound in U.S. Productivity Growth 246

6.2 Long-Run Growth: The Solow Model 249

Setup of the Solow Model 250

The Fundamental Determinants of Long-Run Living Standards 257

Economic Models, Endogenous Variables, and Exogenous Variables 261

■ Application: The Growth of China 263

6.3 Endogenous Growth Theory 265

6.4 Government Policies to Raise Long-Run Living Standards 267

Policies to Affect the Saving Rate 267

Policies to Raise the Rate of Productivity Growth 268

■ Application: Trends in Income Distribution in South Africa 269

► CHAPTER SUMMARY AND PROBLEMS 272

7 The Asset Market, Money, and

Prices 277

7.1 What Is Money? 277

■ In Touch with Data and Research: Money in a

Prisoner-of-War Camp 278

The Functions of Money 279

■ In Touch with Data and Research: The Monetary

Aggregates 281

■ In Touch with Data and Research: Where Have All the

Dollars Gone? 282

7.2 Portfolio Allocation and the Demand for

Assets 284

Expected Return 284

Risk 285

Liquidity 285

Time to Maturity 285

Types of Assets and Their Characteristics 287

■ In Touch with Data and Research: The Housing Crisis of 2007 to 2011 289

Asset Demands 291

7.3 The Demand for Money 292

The Price Level 292

Real Income 293

Interest Rates 293

The Money Demand Function 294

Other Factors Affecting Money Demand 295

■ Application: Bitcoin and Cryptocurrencies 297 Velocity and the Quantity Theory of Money 299

7.4 Asset Market Equilibrium 301

Asset Market Equilibrium: An Aggregation Assumption 302

The Asset Market Equilibrium Condition 303

7.5 Money Growth and Inflation 304

■ Application: Money Growth and Inflation in European Countries in Transition 305

The Inflation Rate and the Nominal Interest Rate 307

■ Application: Measuring Inflation Expectations 308

► CHAPTER SUMMARY AND PROBLEMS 311

part 3 Business Cycles and Macroeconomic Policy

8 Business Cycles 315

8.1 What Is a Business Cycle? 316

8.2 The American Business Cycle: The Historical Record 318

The Pre-World War I Period 318

The Great Depression and World War II 318 Post-World War II U.S.

Have American Business Cycles Become Less Severe? 322

■ Application: Do Economic Expansions Die of Old Age? 325

8.3 Business Cycle Facts 326

The Cyclical Behavior of Economic Variables: Direction and Timing 326

Production 327

Expenditure 329

Employment and Unemployment 330

■ Application: The Job Finding Rate and the Job Loss Rate 331

Average Labor Productivity and the Real Wage 334

Money Growth and Inflation 335 Financial Variables 336

International Aspects of the Business Cycle 337

■ In Touch with Data and Research: Coincident and Leading Indexes 338

8.4 Business Cycle Analysis: A Preview 342

■ In Touch with Data and Research: The Seasonal

Cycle and the Business Cycle 343

Aggregate Demand and Aggregate Supply: A Brief Introduction 344

► CHAPTER SUMMARY AND PROBLEMS 349

9 The IS-LMIAD-AS Model: A General Framework for Macroeconomic Analysis 352

9.1 The FE Line: Equilibrium in the Labor Market 353

Factors That Shift the FE Line 353

9.2 The /S Curve: Equilibrium in the Goods Market 355

Factors That Shift the IS Curve 357

9.3 The LM Curve: Asset Market Equilibrium 359 The Interest Rate and the Price of a Nonmonetary Asset 360

The Equality of Money Demanded and Money Supplied 360

Factors That Shift the LM Curve 363

9.4 General Equilibrium in the Complete /S-LM Model 367

Applying the IS-LM Framework: A Temporary Adverse Supply Shock 368

■ Application: The Oil Price Shock of 2008 370

■ In Touch with Data and Research: Econometric Models and Macroeconomic Forecasts for Monetary PolicyAnalysis 370

9.5 Price Adjustment and the Attainment of General Equilibrium 372

The Effects of a Monetary Expansion 372 Classical Versus Keynesian Versions of the IS-LM Model 376

9.6 Aggregate Demand and Aggregate Supply 377

The Aggregate Demand Curve 378

The Aggregate Supply Curve 380 Equilibrium in the AD-AS Model 383 Monetary Neutrality in the AD-AS Model 383

► CHAPTER SUMMARY AND PROBLEMS 386

Appendix 9.A: Worked-Out Numerical Exercise for Solving the /S-LM/AD-AS Model 393

Appendix 9.B: Algebraic Versions of the /S-LM/ AD-AS Model 396

10 Classical Business Cycle Analysis: Market-Clearing Macroeconomics 403

10.1 The Real Business Cycle Theory 404

■ Application: Calibrating the Business Cycle 407

10.2 Fiscal Policy Shocks in the Classical Model 413

10.3 Unemployment in the Classical Model 417

Jobless Recoveries 420

10.4 Money in the Classical Model 422

Monetary Policy and the Economy 422

Monetary Nonneutrality and Reverse Causation 422

The Nonneutrality of Money: Additional Evidence 423

10.5 The Misperceptions Theory and the Nonneutrality of Money 425

Monetary Policy and the Misperceptions

Theory 428

Rational Expectations and the Role of Monetary Policy 430

■ In Touch with Data and Research: Are Price Forecasts Rational? 432

► CHAPTER SUMMARY AND PROBLEMS 434

Appendix 10.A: Worked-Out Numerical Exercise for Solving the Classical AD-AS Model with Misperceptions 441

Appendix 10.B: An Algebraic Version of the Classical AD-AS Model with Misperceptions 442

11 Keynesianism: The Macroeconomics of Wage and Price Rigidity 444

11.1 Real-Wage Rigidity 445

Some Reasons for Real-Wage Rigidity 445

The Efficiency Wage Model 446

Wage Determination in the Efficiency Wage Model 447

Employment and Unemployment in the Efficiency Wage Model 448

Efficiency Wages and the FE Line 450

■ In Touch with Data and Research: Henry Ford's EfficiencyWage 451

11.2 Price Stickiness 452

Sources of Price Stickiness: Monopolistic Competition and Menu Costs 452

11.3 Monetary and Fiscal Policy in the Keynesian Model 458

Monetary Policy 458

Fiscal Policy 461

11.4 The Keynesian Theory of Business Cycles and Macroeconomic Stabilization 465

Keynesian Business Cycle Theory 465 Macroeconomic Stabilization 467

Supply Shocks in the Keynesian Model 470

■ In Touch with Data and Research: DSGE Models and the Classical-Keynesian Debate 472

► CHAPTER SUMMARY AND PROBLEMS 474

Appendix 11.A: Labor Contracts and Nominal-Wage Rigidity 480

Appendix 11.B: Worked-Out Numerical Exercise for Calculating the Multiplier in a Keynesian Model 483

Appendix 11.C: The Multiplier in the Keynesian Model 485

part 4 MacroeconomicPolicy:

Its Environment and Institutions

12 Unemployment and Inflation 487

12.1 Unemployment and Inflation: Is There a Trade-Off? 487

The Expectations-Augmented Phillips Curve 490 The Shifting Phillips Curve 493

12.2 Macroeconomic Policy and the Phillips Curve 498

■ In Touch with Data and Research: The Lucas Critique 499

The Long-Run Phillips Curve 500

12.3 The Problem of Unemployment 501

The Costs of Unemployment 501

The Long-Term Behavior of the Unemployment Rate 502

12.4 The Problem of Inflation 504

The Costs of Inflation 505

■ In Touch with Data and Research: Indexed

Contracts 507

12.5 Fighting Inflation: The Role of Inflationary Expectations 509

■ In Touch with Data and Research: The Sacrifice Ratio 511

The U.S. Disinflation of the 1980s and 1990s 513

► CHAPTER SUMMARY AND PROBLEMS 515

13 Exchange Rates, Business Cycles, and Macroeconomic Policy in the Open Economy 520

13.1 Exchange Rates 521

Nominal Exchange Rates 521

■ In Touch with Data and Research: Exchange Rates 522

Real Exchange Rates 523 Appreciation and Depreciation 524 Purchasing Power Parity 525

■ In Touch with Data and Research: McParity 526 The Real Exchange Rate and Net

Exports 528

■ Application: The Value of the Dollar and U.S.

13.2 How Exchange Rates Are Determined: A Supply-and-Demand Analysis 532 Macroeconomic Determinants of the Exchange Rate and Net Export Demand 534

13.3 The IS-LM Model for an Open Economy 537

The Open-Economy IS Curve 537 Factors That Shift the Open-Economy IS Curve 540

The International Transmission of Business Cycles 542

13.4 Macroeconomic Policy in an Open Economy with Flexible Exchange Rates 543

A Fiscal Expansion 543

A Monetary Contraction 546

13.5 Fixed Exchange Rates 549

Fixing the Exchange Rate 549

Monetary Policy and the Fixed Exchange Rate 552

Fixed Versus Flexible Exchange Rates 555 Currency Unions 555

■ Application: Is Either the United States or Europe an Optimum Currency Area? 557

■ Application: European Monetary Unification 558

► CHAPTER SUMMARY AND PROBLEMS 561

Appendix 13.A: Worked-Out Numerical Exercise for the Open-Economy IS-LM Model 567

Appendix 13.B: An Algebraic Version of the Open-Economy IS-LM Model 570

14 Monetary Policy and the Federal Reserve System 573

14.1 Principles of Money Supply Determination 574

Open-Market Transactions 575

Bank Runs 577

14.2 Monetary Control in the United States 578

The Federal Reserve System 578

The Federal Reserve's Balance Sheet 579

Open-Market Operations 580

Reserve Requirements 580

Discount Window Lending 581

■ Application: The Lender of Last Resort 582

Interest Rate on Reserves 583

New Monetary Policy Tools Developed in the Great Recession 583

■ Application: Is There Really a Zero Lower Bound? 584

■ Application: The Financial Crisis of 2008: Some

Implications for the Global Economy 588

Monetary Policy in Response to the Pandemic of 2020 589

14.3 Setting Monetary Policy Targets 590

Targeting the Federal Funds Rate 590

Monetary Policy with Abundant Reserves 594

14.4 Making Monetary Policy in Practice 596

Lags in the Effects of Monetary Policy 596

Conducting Monetary Policy Under Uncertainty 598

14.5 The Conduct of Monetary Policy: Rules Versus Discretion 600

The Monetarist Case for Rules 601

Rules and Central Bank Credibility 603

The Taylor Rule 604

Other Ways to Achieve Central Bank Credibility 607

■ Application: Inflation Targeting 607

► CHAPTER SUMMARY AND PROBLEMS 609

15 Government Spending and Its Financing 613

15.1 The Government Budget: Some Facts and Figures 613

Government Outlays 613

Taxes 615

Deficits and Surpluses 619

15.2 Government Spending, Taxes, and the Macroeconomy 621

Fiscal Policy and Aggregate Demand 621 Government Capital Formation 624 Incentive Effects of Fiscal Policy 624

■ Application: Supply-Side Economics 627

15.3 Government Deficits and Debt 629

The Growth of the Government Debt 629

■ Application: Social Security in the United Kingdom: How Can It Be Fixed? 631

The Burden of the Government Debt on Future Generations 633

Budget Deficits and National Saving: Ricardian Equivalence Revisited 634

Departures from Ricardian Equivalence 637

■ In Touch with Data and Research: Measuring the Impact of Government Purchases on the Economy 638

15.4 Deficits and Inflation 640

The Deficit and the Money Supply 640 Real Seignorage Collection and Inflation 642

► CHAPTER SUMMARY AND PROBLEMS 646

Appendix 15.A: The Debt-GDP Ratio 651

Appendix A:

Some Useful Analytical Tools 653

A.1 Functions and Graphs 653

A.2 Slopes of Functions 654

A.3 Elasticities 655

A.4 Functions of Several Variables 656

A.5 Shifts of a Curve 656

A.6 Exponents 657

A.7 Growth Rate Formulas 657

Problems 658

Glossary 661

Name Index 673

Subject Index 675

Summary Tables

1 Measures of Aggregate Saving 68

2 Comparing the Benefits and Costs of Changing the Amount of Labor 106

3 Factors That Shift the Aggregate Labor Demand Curve 110

4 Factors That Shift the Aggregate Labor Supply Curve 117

5 Determinants of Desired National Saving 155

6 Determinants of Desired Investment 168

7 Equivalent Measures of a Country's International Trade and Lending 213

8 The Fundamental Determinants of Long-Run Living Standards 258

9 Macroeconomic Determinants of the Demand for Money 296

10 The Cyclical Behavior of Key Macroeconomic Variables (the Business Cycle Facts) 328

11 Factors That Shift the Full-Employment (FE) Line 354

12 Factors That Shift the IS Curve 357

13 Factors That Shift the LM Curve 363

14 Factors That Shift the AD Curve 382

15 Terminology for Changes in Exchange Rates 525

16 Determinants of the Exchange Rate

(Real or Nominal) 536

17 Determinants of Net Exports 536

18 International Factors That Shift the IS Curve 542

Key Diagrams

1 The production function 134

2 The labor market 135

3 The saving-investment diagram 181

4 National saving and investment in a small open economy 233

5 National saving and investment in large open economies 234

6 The IS-LM model 387

7 The aggregate demand-aggregate supply model 388

8 The misperceptions version of the AD-AS model 435