UPSC Economics Planning and Economic Development NCERT Extracts - Macroeconomics

Introduction

• For macroeconomics the 'macro' (meaning 'large9) phenomena affecting the economy as a whole.
• Macroeconomics tries to address situations facing the economy as a whole.
• Adam Smith, the founding father of modem economics, had suggested that if the buyers and sellers in each market take their decisions following only their own self-interest, economists will not need to think of the wealth and welfare of the country as a whole separately. But economists gradually discovered that they had to look further.
• Macroeconomics has, deep roots in microeconomics because it has to study the aggregate effects of the forces of demand and supply in the markets.
• However, in addition, it has to deal with policies aimed at also modifying these forces, if necessary, to follow choices made by society outside the markets.
• Macroeconomic policies are pursued by the State itself or statutory bodies like the Reserve Bank of India (RBI), Securities and Exchange Board of India (SEBI) and similar institutions.
• Typically, each such body will have one or more public goals to pursue as defined by law or the Constitution of India itself.
• These goals are not those of individual economic agents maximising their private profit dy welfare. Thus the macroeconomic agents are basically different from the individual decision-makers.
• Secondly, what do the macroeconomic decision-makers try to do? Obviously they often have to go beyond economic objectives and try to direct the deployment of economic resources for such public needs as we have listed above.
• Such activities are not aimed at serving individual self-interests. They are pursued for the welfare of the country and its people as a whole.

Emergence of Macroeconomics

• Macroeconomics, as a separate branch of economics, emerged after the British economist John Maynard Keynes published his celebrated book The General Theory of Employment, Interest and Money in 1936.
• The dominant thinking in economics before Keynes was that all the labourers who are ready to work will find employment and all the factories will be working at their full capacity.
• This school of thought is known as the classical tradition. However, the Great Depression of 1929 and the subsequent years saw the output and employment levels in the countries of Europe and North America fall by huge amounts.
• It affected other countries of the world as well. Demand for goods in the market was low, many factories were lying idle, workers were thrown out of jobs.
• In USA, from 1929 to 1933, unemployment rate rose from 3 per cent to 25 per cent (unemployment rate may be defined as the number of people who are not working and are looking for jobs divided by the total number of people who are working or looking for jobs).
• Over the same period aggregate output in USA fell by about 33 per cent. These events made economists think about the functioning of the economy in a new way.
• The fact that the economy may have long lasting unemployment had to be theorized about and explained. Keynes9 book was an attempt in this direction.
• Unlike his predecessors, his approach was to examine the working of the economy in its entirety and examine the interdependence of the different sectors. The subject of macroeconomics was born.

Context of the Present Book of Macroeconomics

• In a capitalist country production activities are mainly carried out by capitalist enterprises.
• A typical capitalist enterprise has one or several entrepreneurs (people who exercise control over major decisions and bear a large part of the risk associated with the firm/enterprise).
• They may themselves supply the capital needed to run the enterprise, or they may borrow the capital.
• To carry out production they also need natural resources - a part consumed in the process of production (e.g. raw materials) and a part fixed (e.g. plots of land).
• And they need the most important element of human labour to carry out production. This we shall refer to as labour.
• After producing output with the help of these three factors of production, namely capital, land and labour, the entrepreneur sells the product in the market. The money that is earned is called revenue.
• Part of the revenue is paid out as rent for the service rendered by land, part of it is paid to capital as interest and part of it goes to labour as wages. The rest of the revenue is the earning of the entrepreneurs and it is called profit.
• Profits are often used by the producers in the next period to buy new machinery or to build new factories, so that production can be expanded. These expenses which raise productive capacity are examples of investment expenditure.
• In short, a capitalist economy can be defined as an economy in which most of the economic activities have the following characteristics:
• there is private ownership of means of production,
• production takes place for selling the output in the market, and
• there is sale and purchase of labour services at a price which is called the wage rate (the labour which is sold and purchased against wages is referred to as wage labour).
• Capitalist countries have come into being only during the last three to four hundred years.
• Moreover, strictly speaking, even at present, a handful of countries in North America, Europe and Asia will qualify as capitalist countries.
• In many underdeveloped countries production (in agriculture especially) is carried out by peasant families.
• Many developing countries have a significant presence of production units which are organised according to capitalist principles.
• The production units called firms.
• In a firm the entrepreneur (or entrepreneurs) is at the helm of affairs. He hires wage labour from the market, he employs the services of capital and land as well.
• After hiring these inputs he undertakes the task of production. His motive for producing goods and services (referred to as output) is to sell them in the market and earn profits.
• In the process he undertakes risks and uncertainties.
• In a capitalist country the factors of production earn their incomes through the process of production and sale of the resultant output in the market.
• In both the developed and developing countries, apart from the private capitalist sector, there is the institution of State. The role of the state includes framing laws, enforcing them and delivering justice.
• The state, in many instances, undertakes production - apart from imposing taxes and spending money on building public infrastructure, running schools, colleges, providing health services etc.
• Apart from the firms and the government, there is another major sector in an economy which is called the household sector.
• By a household we mean a single individual who takes decisions relating to her own consumption, or a group of individuals for whom decisions relating to consumption are jointly determined.
• All the countries of the world are also engaged in external trade. The external sector is the fourth important sector in our study. Trade with the external sector can be of two kinds:
• The domestic country may sell goods to the rest of the world. These are called exports.
• The economy may also buy goods from the rest of the world. These are called imports.

Important Fact

• Economic Agents: By economic units or economic agents, we mean those individuals or institutions which take economic decisions. They can be consumers who decide what and how much to consume. They may be producers of goods and services who decide what and how much to produce. They may be entities like the government, corporation, banks which also take different economic decisions like how much to spend, what interest rate to charge on the credits, how much to tax, etc.