Macroeconomic Theory Econ 302 U' of Wisconsin Charles Engel

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Macroeconomic TheoryEcon 302U. of
WisconsinCharles Engel
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Course Objectives

• Macroeconomic models we analyze the economy,
  rather than learning facts.
• Building blocks of macro models
• The economy as a whole markets interacting
• Analytical approach to economic problems
• Exogenous variables vs. endogenous variables
• Fallacy of composition
• Policy as a scientific study rather than a
  political debate

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What Macroeconomics is About

• We will examine aggregate economic variables
  GDP, the unemployment rate, inflation, the trade
  balance, etc.
• To look at aggregate variables, we need to
  aggregate individual variables in a simple way.
• We ignore many individual differences among
  households and firms.

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Short run and Long run

• In economics, there is not a single model for
  everything.
• We use different (but related) models to study
  the very long run, the long run, and the short
  run
• Very long run why do some economies grow more
  than others over decades?
• Long run what determines prices and employment
  when the price mechanism is at work?
• Short run what determines prices and employment
  when wages and prices do not adjust immediately?

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Mathematical functions

• We use functional notation when we want to
  express the idea that one variable is determined
  by other variables.
• For example, supply of pizzas is a function of
  the price of pizzas and the price of materials
• In this example, the quantity supplied of pizza
  is the endogenous variable in the pizza supply
  model.
• The price of pizza and the price of materials are
  exogenous for the pizza maker. She cannot
  influence those prices (assuming that she is not
  a monopoly seller of pizza!)

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More on Endogenous and Exogenous variables

• Variables that are exogenous in some models might
  be endogenous in other models.
• For example, in many macro models, we might take
  the share of income earned by females vs. males
  as exogenous.
• But some economic models are designed exactly to
  explain those shares.
• In some cases, a variable is exogenous in the
  building block of a more general model, but
  endogenous in the general model.
• Price of pizza is exogenous for the pizza
  supplier, but determined within our model of the
  pizza market.

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The Pizza market

• We can take the equations for supply of pizza,
  demand for pizza, and market equilibrium
• P and Pm are exogenous for the pizza supplier. P
  and Y are exogenous for the pizza demander.
• These three equations together determine Qs, Qd,
  and P endogenously. The exogenous variables for
  the pizza market are Pm and Y.

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Macroeconomic example

• We will model aggregate consumption as depending
  on disposable income
• For consumers in this model, income and taxes are
  exogenous.
• But aggregate income will be determined in our
  macro model.
• In most of our macro models, aggregate taxes will
  be exogenous, but sometimes they will be
  endogenous.
• In most of our models of consumers, income is
  exogenous, but sometimes it is endogenous.
  Income depends on how many hours we work, for
  example.

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Readings

• Macroeconomics, 6th edition by N. Gregory Mankiw
• Short readings from Federal Reserve Bank
  economists.
• These are available on the course web page
• www.ssc.wisc.edu/cengel/Econ302/Econ302.htm

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Course Requirements

• Homework assigned on Monday, due in section at
  the end of the week 10 of grade
• 1st mid-term Wednesday, October 11. 25 of
  grade.
• 2nd mid-term Wednesday, November 15. 25 of
  grade
• Final exam Saturday, December 23, 1225 pm. 40
  of grade. Note the late date!!!
• Class attendance good for your grade!

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Contact information

• My office 7460 Social Sciences Building
• Office hours
• MW, 11AM noon 130-230 pm
• Phone [phone]
• E-mail cengel_at_ssc.wisc.edu

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Preview of Readings and Topics

• Ch. 1, The Science of Macroeconomics
• Ch. 2, The Data of Macroeconomics
• Fernald, J. and S. Wang. Shifting Data A
  Challenge for Monetary Policymakers. Economic
  Letter, Federal Reserve Bank of San Francisco,
  Dec. 9, 2005.
• Ch. 3, National Income Where Does It Come From
  and Where Does It Go?
• Kliesen, K. Do We Have a Saving Crisis? The
  Regional Economist, Federal Reserve Bank of St.
  Louis, July 2005.
• Walsh, C. The Productivity and Jobs Connection
  The Long and the Short Run of It. Economic
  Letter, Federal Reserve Bank of San Francisco,
  July 16, 2004.

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More preview

• Ch. 4, Money and Inflation
• Anderson, R. Inflations Economic Cost How
  Large? How Certain? The Regional Economist,
  Federal Reserve Bank of St. Louis, July 2006.
• Ch. 5, The Open Economy
• Coughlin, C. M. Pakko and, W. Poole. How
  Dangerous Is the U.S. Current Account Deficit?
  The Regional Economist, Federal Reserve Bank of
  St. Louis, April 2006.
• Ch. 6, Unemployment
• Wu, T. Two Measures of Employment How
  Different Are They? Economic Letter, Federal
  Reserve Bank of San Francisco, Aug. 27, 2004.
• Valletta, R., and J. Hodges. Age and Education
  Effects on the Unemployment Rate. Economic
  Letter, Federal Reserve Bank of San Francisco,
  July 15, 2005.

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More preview

• Ch. 7, Economic Growth I Capital Accumulation
  and Population Growth
• Gomme, P., and P. Rupert. Per Capita Income
  Growth and Disparity in the United States,
  1929-2003. Economic Commentary, Federal Reserve
  Bank of Cleveland, Aug. 15, 2004.
• Ch. 8, Economic Growth II Technology, Empirics,
  and Policy
• Lansing, K. Spendthrift Nation. Economic
  Letter, Federal Reserve Bank of San Francisco,
  Nov. 10, 2005.
• Daly, M., and F. Furlong. Gains in U.S.
  Productivity Stopgap Measures or Lasting
  Change? Economic Letter, Federal Reserve Bank
  of San Francisco, March 11, 2005.
• Ch. 9, Introduction to Economic Fluctuations
• Trehan, B. Why Has Output Become Less
  Volatile? Economic Letter, Federal Reserve Bank
  of San Francisco, Sept. 16, 2005.

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• Ch. 10, Aggregate Demand I Building the IS-LM
  Model
• Krainer, j. Residential Investment over the
  Real Estate Cycle. Economic Letter, Federal
  Reserve Bank of San Francisco, June 30, 2006.
• Ch. 11, Aggregate Demand II Applying the IS-LM
  Model
• Altig, D. When Is a Rate Hike Not Tighter
  Policy? Economic Commentary, Federal Reserve
  Bank of Cleveland, Aug. 1, 2004.
• Ch. 12, The Open Economy Revisited The
  Mundell-Fleming Model and the Exchange-Rate
  Regime
• Glick, R. Does Europes Path to Monetary Union
  Provide Lessons for East Asia? Economic Letter,
  Federal Reserve Bank of San Francisco, Aug. 12,
  2005.

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More preview

• Ch. 13, Aggregate Supply and the Short-run
  Tradeoff between Inflation and Unemployment
• Fernald, J., and B. Trehan. Why Hasnt the Jump
  in Oil Prices Led to a Recession? Economic
  Letter, Federal Reserve Bank of San Francisco,
  Nov. 18, 2005.
• Trehan, B. Oil Price Shocks and Inflation.
  Economic Letter, Federal Reserve Bank of San
  Francisco, Oct. 28, 2005.
• Ch. 14, Stabilization Policy
• Carlstrom, C., and T. Fuerst. The Taylor Rule
  A Guidepost for Monetary Policy? Economic
  Commentary, Federal Reserve Bank of Cleveland,
  July 2003.

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• Ch. 15, Government Debt
• Leduc, S. Deficit-Financed Tax Cuts and
  Interest Rates. Business Review, Federal
  Reserve Bank of Philadelphia, Q2 2004.
• Jones, C. The Fiscal Problems of the 21st
  Century. Economic Letter, Federal Reserve Bank
  of San Francisco, Sept. 19, 2003.
• Ch. 16, Consumption
• Kliesen, K. Survey Says Families are Digging
  Deeper into Debt. The Regional Economist,
  Federal Reserve Bank of St. Louis, July 2006.
• Ch. 17, Investment
• McCarthy, J. What Investment Patterns across
  Equipment and Industries Tell Us about the Recent
  Investment Boom and Bust. Current Issues in
  Economics and Finance, Federal Reserve Bank of
  New York, May 2004.

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More preview

• Ch. 18, Money Supply and Money Demand
• Davies, P. Right on Target A Behind-the-Scenes
  Look at Open Market Operations, the Feds Big
  Stick of Monetary Policy. The Region, Federal
  Reserve Bank of Minneapolis, December 2004.
• --------------------------------------------------
  -----------------
• Timetable for readings will be posted on the
  course website. It will be updated frequently to
  match our progress during the semester.
• The current posting is not a guarantee of what
  will be covered during the semester or on each
  test.

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Mathematics

• Well use algebra and calculus
• The book puts a lot of the math in footnotes and
  chapter appendixes. Our lectures will use more
  math.
• Graphs are a way to do math. But sometimes it is
  too hard to represent models with graphs. Then
  we use math.
• This moves us closer to what professional
  economists do.

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Algebra

• Review how to solve endogenous variables. Solve
  for P and Q, in terms of Pm and Y
• a, b, c, d, e, and f are parameters. For
  example, e tells us how much demand falls when
  the price rises.
• Here is the solution
• Review this
• A lot of information is embedded in these
  solutions.

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Calculus

• Partial derivative. For example, the effect of a
  change in pizza price on the quantity of pizza
  supplied, holding the price of materials
  constant
• is a function of P and Pm. That is,
  the effect of P on supply is not a constant, but
  depends on P and Pm. At particular prices P0 and
  Pm0

or
or
or
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Taylor-series expansion

• Take a linear approximation to a function,
  approximated near some initial point
• Or, as a total differential

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Linearize model and solve it

• Model
• Linearize
• Solution