Macroeconomics

Macroeconomics (from prefix "macr(o)-" meaning "large" + "economics") is a branch of economics that deals with the performance, structure, and behavior of a national or regional economy as a whole.^[1] Along with microeconomics, macroeconomics is one of the two most general fields in economics. It is the study of the behavior and decision-making of entire economies.^[2] Macroeconomists study aggregated indicators such as GDP, unemployment rates, and price indices to understand how the whole economy functions. Macroeconomists develop models that explain the relationship between such factors as national income, output, consumption, unemployment, inflation, savings, investment, international trade and international finance. In contrast, microeconomics is primarily focused on the actions of individual agents, such as firms and consumers, and how their behavior determines prices and quantities in specific markets.

While macroeconomics is a broad field of study, there are two areas of research that are emblematic of the discipline: the attempt to understand the causes and consequences of short-run fluctuations in national income (the business cycle), and the attempt to understand the determinants of long-run economic growth (increases in national income).

Macroeconomic models and their forecasts are used by both governments and large corporations to assist in the development and evaluation of economic policy and business strategy.

Development of macroeconomic theory

The term "macroeconomics" stems a similar usage of the term "macrosystem" by the Norwegian economist Ragnar Frisch in 1933.^[3] and there was a long existing effort to understand many of the broad elements of the field. It fused and extended the earlier study of business fluctuations and [[monetary economics]

Macroeconomic schools of thought

The traditional distinction is between three different approaches to economics: Keynesian economics, focusing on demand; neoclassical economics based on rational expectations and efficient markets, and innovation economics focused on long-run growth through innovation. Keynesian thinkers challenge the ability of markets to be completely efficient generally arguing that prices and wages do not adjust well to economic shocks. None of the views are typically endorsed to the complete exclusion of the others, but most schools do emphasize one or the other approach as a theoretical foundation.

Keynesian tradition

Keynesian economics was an academic theory heavily influenced by the economist John Maynard Keynes. This period focused on aggregate demand to explain levels of unemployment and the business cycle. That is, business cycle fluctuations should be reduced through fiscal policy (the government spends more or less depending on the situation) and monetary policy. Early Keynesian macroeconomics was "activist," calling for regular use of policy to stabilize the capitalist economy, while some Keynesians called for the use of incomes policies.

Neo-Keynesians combined Keynes thought with some neoclassical elements in the neoclassical synthesis. Neo-Keynesianism waned and was replaced by a new generation of models that made up New Keynesian economics, which developed partly in response to new classical economics. New Keynesianism strives to provide microeconomic foundations to Keynesian economics by showing how imperfect markets can justify demand management.

Post-Keynesian economics represents a dissent from mainstream Keynesian economics, emphasizing the importance of demand in the long run as well as the short, and the role of uncertainty, liquidity preference and the historical process in macroeconomics.

Neoclassical tradition

For decades Keynesians and classical economists split in to autonomous areas, the former studying macroeconomics and the latter studying microeconomics. In the 1970s New Classical Macroeconomics challenged Keynesians to ground their macroeconomic theory in microeconomics. The main policy difference in this second stage of macroeconomics is an increased focus on monetary policy, such as interest rates and money supply. This school emerged during the 1970s with the Lucas critique. New Classical Macroeconomics based on rational expectations, which means that choices are made optimally considering time and uncertainty, and all markets are clearing. New Classical Macroeconomics is generally based on real business cycle models.

Monetarism, led by Milton Friedman, holds that inflation is always and everywhere a monetary phenomenon. It rejects fiscal policy because it leads to "crowding out" of the private sector. Further, it does not wish to combat inflation or deflation by means of active demand management as in Keynesian economics, but by means of monetary policy rules, such as keeping the rate of growth of the money supply constant over time.

Innovation Economics

Beginning in the early 1990s, an alternative school of macroeconomics has emerged that put focused more directly on innovation as the driver of economic growth, and as such put the study of innovation inside the economic model. Known by various terms, such as endogenous growth theory, neo-Schumpertarian economics, or innovation economics, this school focuses less on managing the business cycle and more on driving long-run growth.