“A Concise Guide to Macroeconomics” is an introduction to some of the main concepts and theories around the discipline. It centers on three basic pillars: output, money, and expectations. The book is essentially designed for managers and executives who may not be familiar with the main theories of macroeconomics. David Moss uses considerable experience he has gained, teaching at Harvard Business School, and particularly on executive education programs, to bring some complex issues to the reader in a very simple way.
Economics, macroeconomics, microeconomics, finance, monetary policy, accounting, national economy.
The book first introduces the concept of gross domestic product (GDP) and analyzes the ways in which over-accounting or double counting can be avoided. This is generally done by the “value-added principle” or the “expenditure method” that calculates the final costs of goods and services.
The book then analyzes why trade surpluses can be important to countries and the impact they may have on future decisions and relative wealth. Moss goes back to the Ricardian model of comparative advantage, and shows just how relevant it still is to this day.
Having looked at how to measure output, David Moss discusses money and its importance within an economy. Quoting David Hume from the 18th century, he says that:
“Money is the oil that makes the wheels of trade go more smoothly.”
He then introduces a concept of nominal and real, whether it be interest rates or GDP. Real interest rates represent the effective rate of interest on a loan, after controlling for inflation. He also shows why money growth is important, and its impact on domestic inflation. From here, Moss goes on to explain the historical context of money, and the banking crises that have throughout history. Moss also introduces the concept of expectation, which can be crucial when consumers are making individual decisions. If consumers think that the economy will contract, they stop spending, which intensifies the effect. Similarly, if they think the economy will go well, they will tend to spend more. This makes the highs and lows of a cyclical economy even greater. John Maynard Keynes said that the roles of governments was to coordinate expectations, particularly in difficult times, and give the impression that the economy will expand, which will encourage consumers to spend more. This became so ingrained in economic theory, after the Second World War, that by 1972, Richard Nixon was able to declare, “we are all Keynesian now.” Of course, the 1980s saw a change of policy and, to some extent, the abandonment of Keynesian ideas.
The book then outlines the history of money and monetary policy of the United States. The author shows how the dollar became to be used as the defining unit of currency, and the importance of the gold standard in ensuring price stability. This was controversial, however, as it did not always achieve the results that were expected and by the 1930s, as the economy fell into depression, there was a sudden run on the gold reserves. There is then a chapter that sets out the fundamentals of GDP accounting. This shows clearly how transactions are calculated, and when the purchase of a good may be seen as a household consumption, or as an investment for a company. It also shows why a current account deficit of more than 5% of GDP is a possible red flag. Moss gives the example of Mexico, which jumped from 3% in 1990 to 7% in 1994, leading to a financial crisis within the country. The final chapter of the book explains how exchange rates should be understood, and their impact on an economy. Using the purchasing price parity model, Moss shows how inflation and exchange rate movements can have an impact on the price of goods and consumption within different countries.
The central challenge is measuring national output (GDP) is to avoid counting the same output more than once.
As a result, the standard definition of GDP is the market value of all final goods and services produced within a country over a given year.
Countries running trade surpluses today expect to get back additional output from their trading partners in the future.
Beginning with the question of what makes output rise over time, economists often point to three basic sources of economic growth: increases in labor, increases in capital, and increases in the efficiency with which these factors are used.
At root, most financial assets represent claims on real productive assets (such as plant and equipment), which in turn are expected to generate output in the future.
David Hume put it in the middle of the eighteenth century, money is not one “of the wheels of trade: It is the oil which renders the motion of the wheels more smooth and easy.”
It is worth noting how the nominal-real divide can affect the relationship between money growth, exchange rates, and the balance of trade. As already suggested, substantial money growth in a country is likely to cause the country’s nominal exchange rate to depreciate. But substantial money growth can also spark domestic inflation, which can cause the real exchange rate to move in the other direction.
Before the introduction of federal deposit insurance in 1933, banking panics were a recurring feature of American economic life.
The French economist, J.B. Say posited in the early nineteenth century that supply creates its own demand- a dictum that has become known as Say’s law.
Tying the dollar rigidly to gold didn’t ensure price stability because the quantity of gold- and thus the price of gold- was itself unstable.
President Franklin Roosevelt sharply curtailed the gold standard in 1933, requiring private citizens to turn in their gold (other than jewelry), ending the practice of exchanging gold for currency at banks, and declaring gold clauses in all contracts to be void.
Professor E. W. Kemmerer of Princeton declared in 1927:
There is probably no defect in the world’s economic organization today more serious than the fact that we use as our unit of value, not a thing with a fixed value, but a fixed weight of gold with a widely varying value.
Although all three methods for calculating GDP are correct (and ultimately should produce the same result), the expenditure approach- with its focus on final sales rather than value added or income- is by far the most widely used of the three.
A coffeemaker purchased for home use is classified as household consumption, whereas the same coffeemaker purchased for use in a café is classified as investment.
In practice, GDP is used much more frequently than NDP. As the Commerce Department explained back in 1947, net product is “theoretically preferable…. It suffers, however, from the serious obstacle that there is no satisfactory operational definition of the consumption of fixed capital.”
Many analysts consider GDP to be a more useful short-term policy variable, as it appears more closely correlated with employment, productivity, industrial output, and fixed investment than GNP. GNP, meanwhile, may be more informative for analyzing the sources and uses of income. In recent years, many statistical agencies have begun to use the terminology gross national income (GNI) rather than GNP.
Although inflation itself is determined by many factors, money may well be the most important one.
Macroeconomic theory provides us with a baseline against which to compare and assess reality and, more broadly, with a framework for understanding economic events. When standard macroeconomic relationships break down in practice (such as when interest rates rise despite increased money growth), a good understanding of macroeconomics should help us to ask the right questions and potentially identify what factor or factors might be causing such a departure from the rule.
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