Editing Macroeconomics (section)

==Basic macroeconomic concepts==
Macroeconomics encompasses a variety of concepts and variables, but above all the three central macroeconomic variables are output, unemployment, and inflation.<ref name=Blanchard>Blanchard (2021).</ref>{{rp|39}} Besides, the time horizon varies for different types of macroeconomic topics, and this distinction is crucial for many research and policy debates.<ref name=Blanchard/>{{rp|54}} A further important dimension is that of an economy's openness, economic theory distinguishing sharply between [[closed economies]] and [[open economy|open economies]].<ref name=Blanchard/>{{rp|373}}

[[File:Circulation in macroeconomics.svg|thumb|[[Circular flow of income|Circulation in macroeconomics]]]]

===Time frame===

It is usual to distinguish between three time horizons in macroeconomics, each having its own focus on e.g. the determination of output:<ref name=Blanchard/>{{rp|54}}
* the short run (e.g. a few years): Focus is on [[business cycle]] fluctuations and changes in [[aggregate demand]] which often drive them. [[Stabilization policy|Stabilization policies]] like [[monetary policy]] or [[fiscal policy]] are relevant in this time frame
* the medium run (e.g. a decade): Over the medium run, the economy tends to an output level determined by supply factors like the capital stock, the technology level and the labor force, and unemployment tends to revert to its structural (or "natural") level. These factors move slowly, so that it is a reasonable approximation to take them as given in a medium-term time scale, though [[labour market policies]] and [[competition policy]] are instruments that may influence the economy's structures and hence also the medium-run equilibrium
* the long run (e.g. a couple of decades or more): On this time scale, emphasis is on the determinants of long-run [[economic growth]] like [[capital accumulation|accumulation]] of human and physical capital, technological innovations and [[demographic change]]s. Potential policies to influence these developments are [[education reform]]s, incentives to change [[saving rate]]s or to increase [[R&D]] activities.

===Output and income===
National [[Output (economics)|output]] is the total amount of everything a country produces in a given period of time. Everything that is produced and sold generates an equal amount of income. The total [[net output]] of the economy is usually measured as [[gross domestic product]] (GDP). Adding net [[factor income]]s from abroad to GDP produces [[gross national income]] (GNI), which measures total income of all residents in the economy. In most countries, the difference between GDP and GNI are modest so that GDP can approximately be treated as total income of all the inhabitants as well, but in some countries, e.g. countries with very large [[net foreign assets]] (or debt), the difference may be considerable.<ref name=Blanchard/>{{rp|385}}

Economists interested in long-run increases in output study economic growth. Advances in technology, accumulation of machinery and other [[Capital (economics)|capital]], and better education and [[human capital]], are all factors that lead to increased economic output over time. However, output does not always increase consistently over time. [[Business cycle]]s can cause short-term drops in output called [[recession]]s. Economists look for [[#Macroeconomic policy|macroeconomic policies]] that prevent economies from slipping into either [[recession]]s or [[Overheating (economics)|overheating]] and that lead to higher [[productivity]] levels and [[standards of living]].

===Unemployment===
{{Main|Unemployment}}

[[File:Okuns law differences 1948 to mid 2011.png|thumb|left|A chart using US data showing the relationship between economic growth and unemployment expressed by [[Okun's law]]. The relationship demonstrates cyclical unemployment. High short-run GDP growth leads to a lower unemployment rate.]]

The amount of [[unemployment]] in an economy is measured by the unemployment rate, i.e. the percentage of persons in the [[labor force]] who do not have a job, but who are actively looking for one. People who are retired, pursuing education, or [[discouraged worker|discouraged from seeking work]] by a lack of job prospects are not part of the labor force and consequently not counted as unemployed, either.<ref name=Blanchard/>{{rp|156}}

Unemployment has a short-run cyclical component which depends on the business cycle, and a more permanent structural component, which can be loosely thought of as the average unemployment rate in an economy over extended periods,<ref name=Romer>Romer (2019).</ref> and which is often termed the [[Natural rate of unemployment|natural]]<ref name=Romer/> or structural<ref name=Sørensen>Sørensen and Whitta-Jacobsen (2022).</ref><ref name=Blanchard/>{{rp|167}} rate of unemployment.

[[Unemployment#Cyclical unemployment|Cyclical unemployment]] occurs when growth stagnates. [[Okun's law]] represents the empirical relationship between unemployment and short-run GDP growth.<ref>Dwivedi, 445–46.</ref> The original version of Okun's law states that a 3% increase in output would lead to a 1% decrease in unemployment.<ref>{{Cite web |title=Neely, Christopher J. "Okun's Law: Output and Unemployment. ''Economic Synopses''. Number 4. 2010. |url=http://research.stlouisfed.org/publications/es/10/ES1004.pdf.}}</ref>

The structural or natural rate of unemployment is the level of unemployment that will occur in a medium-run equilibrium, i.e. a situation with a cyclical unemployment rate of zero. There may be several reasons why there is some positive unemployment level even in a cyclically neutral situation, which all have their foundation in some kind of [[market failure]]:<ref name=Romer/>

* [[Search unemployment]] (also called frictional unemployment) occurs when workers and firms are heterogeneous and there is [[imperfect information]], generally causing a time-consuming [[Search and matching theory (economics)|search and matching process]] when filling a job vacancy in a firm, during which the prospective worker will often be unemployed.<ref name=Romer/><ref>Dwivedi, 443.</ref> Sectoral shifts and other reasons for a changed demand from firms for workers with particular skills and characteristics, which occur continually in a changing economy, may also cause more search unemployment because of increased mismatch.<ref name=Mankiw>Mankiw (2022).</ref><ref>{{Cite web |title=Freeman (2008) |url=http://www.dictionaryofeconomics.com/article?id=pde2008_S000311.}}</ref><ref>Dwivedi, 444–45.</ref>
* [[Efficiency wage]] models are labor market models in which firms choose not to lower wages to the level where supply equals demand because the lower wages would lower employees' efficiency levels<ref name=Mankiw/>
* [[Trade unions]], which are important actors in the labor market in some countries, may exercise [[market power]] in order to keep wages over the market-clearing level for the benefice of their members even at the cost of some unemployment
* Legal [[minimum wage]]s may prevent the wage from falling to a market-clearing level, causing unemployment among low-skilled (and low-paid) workers.<ref name=Mankiw/><ref>{{Cite web|last=Pettinger|first=Tejvan|title=Involuntary unemployment|url=https://www.economicshelp.org/blog/glossary/involuntary-unemployment/|access-date=2020-09-21|website=Economics Help|language=en-GB}}</ref> In the case of employers having some [[monopsony power]], however, employment effects may have the opposite sign.<ref>{{Cite journal |last1=Dickens |first1=Richard |last2=Machin |first2=Stephen |last3=Manning |first3=Alan |date=January 1999 |title=The Effects of Minimum Wages on Employment: Theory and Evidence from Britain |url=https://www.journals.uchicago.edu/doi/10.1086/209911 |journal=Journal of Labor Economics |language=en |volume=17 |issue=1 |pages=1–22 |doi=10.1086/209911 |s2cid=7012497 |issn=0734-306X}}</ref>

===Inflation and deflation===
[[File:M2 and Inflation USA.svg|thumb|right|Changes in the ten-year moving averages of price level and growth in money supply (using the measure of M2, the supply of hard currency and money held in most types of bank accounts) in the US from 1880 to 2016. Over the long run, the two series show a clear positive correlation.]]
A general price increase across the entire economy is called [[inflation]]. When prices decrease, there is [[deflation]]. Economists measure these changes in prices with [[price index]]es. Inflation will increase when an economy becomes overheated and grows too quickly. Similarly, a declining economy can lead to decreasing inflation and even in some cases deflation.

[[Central bank]]ers conducting [[monetary policy]] usually have as a main priority to avoid too high inflation, typically by adjusting interest rates. High inflation as well as deflation can lead to increased uncertainty and other negative consequences, in particular when the inflation (or deflation) is unexpected. Consequently, most central banks aim for a positive, but stable and not very high inflation level.<ref name=Blanchard/>

Changes in the inflation level may be the result of several factors. Too much [[aggregate demand]] in the economy will cause an [[Overheating (economics)|overheating]], raising inflation rates via the [[Phillips curve]] because of a tight labor market leading to large wage increases which will be [[Pass-through (economics)|transmitted]] to increases in the price of the products of employers. Too little aggregate demand will have the opposite effect of creating more unemployment and lower wages, thereby decreasing inflation. Aggregate [[supply shock]]s will also affect inflation, e.g. the [[1970s energy crisis|oil crises of the 1970s]] and the [[2021–2023 global energy crisis]]. Changes in inflation may also impact the formation of [[inflation expectations]], creating a self-fulfilling inflationary or deflationary spiral.<ref name=Blanchard/>

The [[monetarist]] [[quantity theory of money]] holds that changes in the price level are directly caused by changes in the [[money supply]].{{sfn|Mankiw|2022|p=98}} Whereas there is empirical evidence that there is a long-run positive correlation between the growth rate of the money stock and the rate of inflation, the quantity theory has proved unreliable in the short- and medium-run time horizon relevant to monetary policy and is abandoned as a practical guideline by most central banks today.<ref name="Graff">{{cite journal |last1=Graff |first1=Michael |title=The quantity theory of money in historical perspective |url=https://www.research-collection.ethz.ch/handle/20.500.11850/124095 |journal=Kof Working Papers |publisher=KOF Swiss Economic Institute, ETH Zurich |access-date=3 September 2023 |date=April 2008|volume=196 |doi=10.3929/ethz-a-005582276 }}</ref>

===Open economy macroeconomics===

[[Open economy]] macroeconomics deals with the consequences of [[international trade]] in [[goods]], [[financial asset]]s and possibly [[factor market]]s like [[labor migration]] and international relocation of firms (physical capital). It explores what determines [[import]], [[export]], the [[balance of trade]] and over longer horizons the accumulation of [[net foreign assets]]. An important topic is the role of [[exchange rate]]s and the pros and cons of maintaining a [[fixed exchange rate]] system or even a [[currency union]] like the [[Economic and Monetary Union of the European Union]], drawing on the research literature on [[optimum currency area]]s.<ref name=Blanchard/>

=== GDP Equation Using Expenditure Approach ===
One way to calculate Gross Domestic Product, or total net output, is the expenditure method. The GDP essentially tells you how big the economy is. The larger the GDP value, the bigger the economy. The expenditure approach involves looking at four main components: Consumer Spending, Government Spending, Investment Spending, and Net Exports.<ref>{{Cite web |title=Calculating GDP With the Expenditure Approach |url=https://www.investopedia.com/ask/answers/070615/how-do-you-calculate-gdp-expenditures-approach.asp |access-date=2025-02-25 |website=Investopedia |language=en}}</ref> Consumer Spending is made up of ordinary consumers spending money on different kinds of products and also investing their money in residential markets. Government Spending involves the government spending money on goods and services and they may assist consumers or businesses with spending as well. For instance, purchasing physical capital for businesses. While transfer payments, which includes things like welfare or social security payments), are things that a government pays, it is not included in the final calculation of the expenditure approach because it is not paying for any final goods and services. Investment spending involves businesses spending money on physical capital/equipment to help with producing goods and services. Lastly, net exports is just exports minus imports. Exports are goods and services that a country is selling to people abroad and imports are goods and services that people from a country are receiving from abroad.

Hence, the equation for the expenditure approach to calculating the Gross Domestic Product is

[[Gross domestic product|GDP]] = Consumer Spending(CS) + Government Spending(GS) + Investment Spending(IS) + Net Exports(EXP-IMP).

=== GDP Deflator Equation & Explanation ===
Another concern with measuring a country's economic growth is that even though we see the GDP growing, that does not inherently mean the economy is growing. Most of the increase in GDP may just be due to inflation. To know whether this is the case, we have to calculate the GDP Deflator which adjusts the GDP for inflation.

GDP Deflator = (Nominal GDP/Real GDP) x 100<ref>{{Cite web |title=GDP Deflator {{!}} Formula + Calculator |url=https://www.wallstreetprep.com/knowledge/gdp-deflator/ |access-date=2025-02-25 |website=Wall Street Prep |language=en}}</ref>

Nominal GDP is GDP that includes inflation and Real GDP is GDP adjusted for inflation. To adjust for inflation means that the effect of inflation on the value was removed.

A GDP Deflator of 100 indicates that there is no inflation nor deflation. A GDP Deflator value that is greater than 100 indicates that there is inflation. A GDP Deflator value that is less than 100 indicates that there is deflation.

=== Money Supply & Money Multiplier: Equation & Explanations ===
Two common ways of determining the total money supply in an economy are M1 and M2. M2 consists of M1 plus a few other things. M1 is money that is liquid. Liquid refers to a financial asset being able to easily be converted into cash quickly and without losing a significant amount of value. This obviously includes cash but also things like coins, checking account deposits, etc. M2, however, includes time deposits, saving accounts, and money market mutual funds, which are not as liquid, in its measurement. It is important to know about the money supply as it affects interest rates and can also play a central role in monetary policy.<ref>{{Cite web |title=Deposit Multiplier vs. Money Multiplier: What's the Difference? |url=https://www.investopedia.com/ask/answers/062615/what-difference-between-deposit-multiplier-and-money-multiplier.asp?utm_source=chatgpt.com#toc-deposit-multiplier |access-date=2025-04-30 |website=Investopedia |language=en}}</ref>

The Money Multiplier equation shows how the bank can expand the money supply through taking in deposits and lending money.

The '''Money Supply Reserve Multiplier equation''' is:

'''Money Multiplier''' = 1 / '''Reserve Requirement Ratio'''<ref>{{Cite web |title=What Is the Multiplier Effect? Formula and Example |url=https://www.investopedia.com/terms/m/multipliereffect.asp#toc-money-supply-multiplier-effect |access-date=2025-04-29 |website=Investopedia |language=en}}</ref>

The reserve requirement in this equation represents a proportion of money that the bank is required to keep in case they need to deal with withdrawals from customers. That proportion of money is based on the deposits of money made at the bank. So, if the reserve requirement is .20(20%), then the money multiplier is 5. This means that a $5 deposit would lead to a $25 increase in the money supply. This is because of the cycle of the bank keeping part of the deposit(in our example, 20%) and lending out the rest every time. These new spendable bank deposits are counted in the money supply even though the amount of physical currency did not change. So, while the physical amount of currency would still be $5, the amount of spendable money would be $25.