Meaning, definition, nature, scope, importance and limitation of macro economics

DR. ASHUTOSH A. DESHMUKH
ASSISTANT PROFESSOR,
N. B. NAVALE COLLEGE OF COMMERCE AND
SCIENCE, KUSGAON BK, LONAVALA
UNIT 1 Basic Concept of Macro
Economics
Dr. Ashutosh A. Deshmukh 1

Contents
1.1 Meaning and Definition of Macro Economics.
1.2 Nature of Macro Economics.
1.3 Scope of Macro Economics.
1.4 Significance of Macro Economics.
1.5 Limitations of Macro Economics.
1.6 Macro Economic Objectives.

Learning Objectives
• To make the students aware of concepts in
macroeconomics
• To develop Analytical skills.
• To improve understanding of economic activity

Introduction
• The term macro was first introduced in economics by Ragnar
Frisch, a famous economist in 1933. It is used to describe the
study of aggregates and averages covering the economy as a
whole. Such as total income, total employment, National
income, Aggregate demand, General Price level, Total savings,
Wage level etc.

The Great Depression
• The Great Depression was the greatest and longest economic recession in modern world history. It began
with the U.S. stock market crash of 1929 and did not end until 1946 after World War II. Economists and
historians often cite the Great Depression as the most catastrophic economic event of the 20th century.
• Important Points:
• The Great Depression was the greatest and longest economic recession in modern world history.
• The American public began a frenzy of investing in the speculative market in the 1920s.
• The 1929 market crash wiped out a great deal of nominal wealth for individuals and businesses alike.
• Other factors including inactivity followed by overaction by the Fed also contributed to the Great
Depression.
• Both Presidents Hoover and Roosevelt tried to mitigate the impact of the depression through government
policies.
• Neither the government policies or the beginning of WWII can be single-handedly credited with ending
the depression.
• Trade routes created during WWII remained open and helped the market recover.

Classical Theory of Employment
• The classical economists believed in the existence of full employment in the economy. To
them, full employment was a normal situation and any deviation from this regarded as
something abnormal. According to Pigou, the tendency of the economic system is to
automatically provide full employment in the labour market when the demand and supply of
labour are equal.
• Unemployment results from the rigidity in the wage structure and interference in the working
of free market system in the form of trade union legislation, minimum wage legislation etc.
Full employment exists “when everybody who at the running rate of wages wishes to be
employed.”
• Those who are not prepared to work at the existing wage rate are not unemployed because
they are voluntarily unemployed. Thus full employment is a situation where there is no
possibility of involuntary unemployment in the sense that people are prepared to work at the
current wage rate but they do not find work.
• The basis of the classical theory is Say’s Law of Markets which was carried forward by
classical economists like Marshall and Pigou. They explained the determination of output and
employment divided into individual markets for labour, goods and money. Each market
involves a built-in equilibrium mechanism to ensure full employment in the economy

Keynesian Economics
• Keynesian economics is an economic theory of total spending in the
economy and its effects on output and inflation. Keynesian economics was
developed by the British economist John Maynard Keynes during the 1930s
in an attempt to understand the Great Depression. Keynes advocated for
increased government expenditures and lower taxes to stimulate demand and
pull the global economy out of the depression.
• Subsequently, Keynesian economics was used to refer to the concept that
optimal economic performance could be achieved—and economic slumps
prevented—by influencing aggregate demand through activist stabilization
and economic intervention policies by the government. Keynesian
economics is considered a "demand-side" theory that focuses on changes in
the economy over the short run.

Key Points
• Keynesian Economics focuses on using active government
policy to manage aggregate demand in order to address or
prevent economic recessions.
• Keynes developed his theories in response to the Great
Depression, and was highly critical of classical economic
arguments that natural economic forces and incentives would
be sufficient to help the economy recover.
• Activist fiscal and monetary policy are the primary tools
recommended by Keynesian economists to manage the
economy and fight unemployment.

Definition:
• According to Prof. Ackley “Macroeconomics deals with economic affairs “in the large”, it
concerns the overall dimensions of economic life.” Thus it deals with the major economic
issues, problems and policies.
• Prof. Boulding stated that, “Macroeconomics deals not with individual quantities as such but
with aggregates of these quantities: not with individual incomes but with the national
incomes; not with individual prices but with the price level; not with individual outputs but
with the national output”.

Nature or Characteristics of Macroeconomics
1. Macroeconomics does not deals with the individual units of the economy like a firm but it deals
with aggregates like national income total unemployment, aggregate demand etc. It studies the
problems related to the economy as a whole.
2. The objective of macro economics is to study the problems, policies and principles relating to full
employment of resources and growth of resources. Its goals are a high level and rapid growth of
output, low employment and price level stability.
3. The subject matter of macro economics is full employment, national income general price level,
trade cycle, economic growth.
4. Macroeconomics deals with economic aggregates like total employment aggregate demand etc.
and the interdependence of these economic aggregates are studied in details.
5. Macroeconomics assumes factor distribution as given and tries to explain how full employment
can be achieved.

Nature or Characteristics of
Macroeconomics:
• Macro economic analysis deals with the equilibrium between the forces of demand and supply of the economy
as a whole. Aggregate supply and aggregate demand are expressed in terms of money. As total income and total
expenditure. Thus aggregate demand and supply are related to total income.
• As macroeconomics is concerned with aggregates related to the society as a whole which is immortal in nature.
• Macroeconomics suffers form paradoxes. It means that the act which is beneficiate for an individual may disturb
working of the economy as a whole. The economy. For example if an individual saves money his family is
benefited. But if unemployment will increase and national income also will decrease. Thus micro decisions may
not hold good for the economy as a whole.
• Macroeconomic analysis initially concentrated on short term period where technological conditions, habits of
people, population and availability of labour force etc. are constant, hence the norm of economic activity does
not change Keynes held that short term analysis is more realistic, as in the long term all of us are dead. So
economic problems should be solved from the short term point of view.
• As Prof. Dernburg has pointed out, “macro economics is first and foremost a policy science.” Macroeconomics
is basically policy oriented subject. It deals with macroeconomic policies to solve problems faced by the
economy as a whole.

Scope of Macroeconomics
1. Determination of National Income: Macroeconomics aims at explaining the determinants
of the level of cause’s involuntary unemployment.
2. General Price Level and Inflation: Macroeconomics tries to explain the problem of
inflation faced by both developed and underdeveloped countries in the world. Keynes
adopted macroeconomic approach to explain that involuntary unemployment and fall in
general price level and depression were due to the deficiency of aggregate demand and
inflation or rise in general price level was due to excessive aggregate demand.
3. Business or Trade Cycles: The capitalist free enterprise economics suffer from business
cycles, Business cycles refer to the fluctuations in the output and employment with
alternative periods of depression and prosperity. During the period of prosperity output and
employment tend to remain at high levels. Whereas during the recession periods both, the
output and employment decline significantly which results into widespread unemployment.
4. Stagflation: During 1970s as after, It was observed that, recession or stagnation was
accompanied by high level of unemployment and rapid inflation, the phenomena known as
stagflation. But this stagflation could not be explained with Keynesian theory which
concentrates on demand side. Hence a new economic approach known as supply side
economics was developed to explain the situation characterized by stagflation.

Scope of Macroeconomics
• Economics Growth: Macroeconomics also deals with explaining determinate of economic
growth in an economy. Harrod and Domar applied macroeconomic analysis to the study of
long run problem of economic growth with stability. They explained the rate of growth of
income required for attaining steady growth of the economy.
• Balance of Payments and Exchange Rate: Balance of payments is a systematic statement of
all economic transitions between the country and the rest of the world, during a period. There
may be deficit or surplus in balance of payments. And both create problem for the economy.
The transactions in the balance of payment are affected by the exchange rate, the instability in
exchange rate gives rise to serious balance of payments problems and it may lead to economic
crisis. Macroeconomics helps in analyzing and solving these problems for protecting
economic health of a country.
• Macroeconomic Policies : Macroeconomic policies, such as monetary policy, fiscal policy,
income and achieving macro economic goals like economic stability, full employment, price
stability, external stability and economic growth.

Importance or Significance of
Macroeconomics:
• To understand working of the Economy: Macro economic analysis helps
in understanding functioning of the economy. Most of the economic
problems are related to economic aggregates, such as total income total
output, total demand, general price level etc. As these variables are
measurable, their effects on the functioning of the economy can be
analyzed and necessary can be taken in time to avoid anvil consequences.
• Empirical evidences: Macro studies are based on empirical date relating
to the economic issues hence it is more realistic and practical.
• Policy Orientation: Macroeconomics is basically policy oriented. It
suggests most suitable policy measures, such as fiscal policy, monetary
policy, income policy etc. to deal with complex economic problems, like
unemployment, inflation, poverty etc.

Macroeconomics:
• National Income: Macroeconomics is useful for estimating and using
national income data for the purpose of forecasting economic activities. It
also helps in explaining distribution of income among different sections of
the society.
• Economic Growth: Macroeconomics provides basis for evaluation of
growth performance of the economy. Plans are prepared to achieve
increase in national income, output and employment for promotion
economic development of the economy as a whole.
• Business Cycles: Macroeconomics helps in analyzing causes and
understanding effects of business cycles which take place in free enterprise
capitalist economics. It also provides remedies to achieve economic
stability.

Macroeconomics:
• Monetary problems: Macroeconomics is useful for analyzing monetary
problems like inflation or deflation which adversely affect to economy. It
suggests suitable policy measures like monetary and fiscal policies to
overcome them.
• Understanding Behaviour of Individual Units: The study of
macroeconomics is necessary to understand the Behaviour of individual
units. For example, the reasons for increase in costs of a firm cannot be
analyzed without knowing the average cost conditions of the economy as a
whole.
• Dynamic Science: Macroeconomics adopts dynamic approach to analyze
economic problems and suggest suitable solutions.
• Macroeconomic Paradoxes: Macroeconomic paradoxes, such as paradox
of thrift on private

Macroeconomics:
• saving is a virtue but public vice and the futility of wage cut
policy as remedy during the period of depression, explain the
importance of the study of macro economics.
• Issues of vital importance: Macroeconomics deals with the
issues of vital importance, such as unemployment, inflation,
instability of foreign exchange rates etc. which directly affect
the well being of the people.
• Decision Making: Macroeconomics helps in understanding
the working of the economy as a whole; hence individuals
and businessmen are able to take right decision at right time.
•

Limitations of Macroeconomics:
• Fallacy of composition: In macroeconomics aggregate economic Behaviour is assumed to
be the total of individual activities. But what may be true at the individual level may not be so
at the aggregate level. For example savings are private virtue but a public vice. If an
individual depositor withdraws all his money form the bank, there is no problem, but if all the
depositors withdraw all their deposits at the same time, the banking system will be adversely
affected.
• To Regard the Aggregates as Homogenous: In macroeconomic analysis, macro variables
are considered as aggregates of homogenous components, and individual differences are not
taken into consideration. For example, inflation is measured as a change in the general price
level, with the help of wholesale price index number. The changes in relative prices of
different goods are not considered and only average price is taken for measuring the change.
• Aggregate variables may not be important: It may be observed that the aggregate variables
forming the economic system sometimes may not be significant. For example, increase in
national income may be the result of increase in incomes of rich people only, in the country.
Such increase of national income may not be useful for estimating rise in welfare of the
society as a whole.

Limitations of Macroeconomics:
• Indiscriminate use of Macroeconomics tend to be misleading: An
Indiscriminate use of macroeconomics for analyzing economic problems
may be misleading. For example, the policy measures adopted to achieve
full employment may not be suitable for solving the problem of structural
unemployment in individual firms and industries. Similarly measures
adopted for controlling general prices may not be effective for controlling
prices of individual commodities.
• Statistical and conceptual difficulties: If individual units are homogenous
aggregation becomes easy, but if the microeconomic variables related to
dissimilar units, then their aggregation into one macroeconomics variable
tends to be wrong and dangerous.
• In spite of these limitations, macroeconomics has been popular tool used for
analysis of economic problems faced by the economy as a whole.

Summary
• The classical economists assumed that there is full employment of the resources and
concentrated on explaining the process of allocation of resources and determination
of relative prices of products and factors of production. They believed in free play of
market forces in arriving at the equilibrium between supply and demand. They
adopted microeconomic approach to explain economic problems faced by the
economy and suggested suitable measures to solve them but during the great
depression of 1930’s their policy prescriptions failed to solve classical economist
and suggested macroeconomic approach to solve the problems faced by the
economy as a whole. Macro economics deals with the study of the Behaviour of the
economy as a whole. It examines the forces that affect many firms consumers and
workers at the same time.” Thus is a deal with economic aggregates and
interrelationships between them. The main objective of macroeconomics is to study
the problems, policies, and principles relating to full employment and growth of
resources.

Summary
• Macro economics includes the study of national income, general price level and
inflation, business cycles, economic growth, balance of payments, macroeconomics
policies etc.
• Macro economics helps in understanding of the working of the economy developing
suitable policies, estimating and using national income data, evaluation growth
performance of the economy, analyzing causes and effects of business cycles and
helps in decisions making.
• The main limitations of macroeconomics are fallacy of composition, regarding
aggregates as homogenous, excessive importance to aggregate economic variables,
statistical and conceptual difficulties etc.
• In-spite of these limitations, macroeconomics plays an important role in
understanding the functioning of the economic system as a whole, its problems and
helps in suggesting suitable policy measures to solve these problems.

Meaning, definition, nature, scope, importance and limitation of macro economics

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