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A TSI Graphics Worth: Mankiw Economics 5e CHAPTE R ONE The Science of macroeconomics The whole of science is nothing more than the refinement of everyday Albert Einstein 7-1 What Macroeconomists Study Why have some countries experienced rapid growth in incomes over the past century while others stay mired in poverty? Why do some countries have high rates of infation while others maintain stable prices? Why do all countries expe rience recessions and depressions--recurrent periods of falling incomes and ris- ing unemployment--and how can government policy reduce the frequency and severity of these episodes? Macroeconomics, the study of the economy as whole, attempts to answer these and many related questions To appreciate the importance of macroeconomics, you need only read the newspaper or listen to the news. Every day you can see headlines such as IN- COME GROWTH SLOWS. FED MOVES TO COMBAT INFLATION or STOCKS FALL AMID RECESSION FEARS. Although these macroeconomic events may seem abstract, they touch all of our lives. Business executives forecast ing the demand for their products must guess how fast consumers incomes will grow. Senior citizens living on fixed incomes wonder how fast prices will rise Recent college graduates looking for jobs hope that the economy will boom and that firms will be hiring Because the state of the economy affects everyone, macroeconomic issues play a central role in political debate. Voters are aware of how the economy is doing, and they know that government policy can affect the economy in powerful ways. As a result, the popularity of the incumbent president rises when the econ omy is doing well and falls when it is doing poorly Macroeconomic issues are also at the center of world politics. In recent Europe has moved toward a common currency, many Asian countries have rienced financial turmoil and capital fight, and the United States has financed large trade deficits by borrowing from abroad. When world leaders meet, these topics are often high on their agendas R: Job EFFo1417: 6264_ ch01: Pg 2: 24475#/ eps at 1009 Ill Fr,Nav9,200111:52
User SONPR:Job EFF01417:6264_ch01:Pg 2:24475#/eps at 100% *24475* Fri, Nov 9, 2001 11:52 AM 1-1 What Macroeconomists Study Why have some countries experienced rapid growth in incomes over the past century while others stay mired in poverty? Why do some countries have high rates of inflation while others maintain stable prices? Why do all countries experience recessions and depressions—recurrent periods of falling incomes and rising unemployment—and how can government policy reduce the frequency and severity of these episodes? Macroeconomics, the study of the economy as a whole, attempts to answer these and many related questions. To appreciate the importance of macroeconomics, you need only read the newspaper or listen to the news. Every day you can see headlines such as INCOME GROWTH SLOWS, FED MOVES TO COMBAT INFLATION, or STOCKS FALL AMID RECESSION FEARS.Although these macroeconomic events may seem abstract, they touch all of our lives. Business executives forecasting the demand for their products must guess how fast consumers’ incomes will grow. Senior citizens living on fixed incomes wonder how fast prices will rise. Recent college graduates looking for jobs hope that the economy will boom and that firms will be hiring. Because the state of the economy affects everyone, macroeconomic issues play a central role in political debate.Voters are aware of how the economy is doing, and they know that government policy can affect the economy in powerful ways.As a result, the popularity of the incumbent president rises when the economy is doing well and falls when it is doing poorly. Macroeconomic issues are also at the center of world politics. In recent years, Europe has moved toward a common currency, many Asian countries have experienced financial turmoil and capital flight, and the United States has financed large trade deficits by borrowing from abroad.When world leaders meet, these topics are often high on their agendas. The Science of Macroeconomics 1CHAPTER The whole of science is nothing more than the refinement of everyday thinking. — Albert Einstein ONE 2 |
A TSI Graphics Worth Mankiw Economics 5e HAPTER 1 The science of macro Although the job of making economic policy falls to world leaders, the job of explaining how the economy as a whole works falls to macroeconomists. Toward his end, macroeconomists collect data on incomes, prices, unemployment, and many other variables from different time periods and different countries. They then attempt to formulate general theories that help to explain these data. Like astronomers studying the evolution of stars or biologists studying the evolution of species, macroeconomists cannot conduct controlled experiments. Instead, they must make use of the data that history gives them. Macroeconomists ob serve that economies differ from one another and that they change over time These observations provide both the motivation for developing macroeconomic theories and the data for testing them. To be sure, macroeconomics is a young and imperfect science. The macro- onomist's ability to predict the future course of economic events is no better than the meteorologist's ability to predict next month's weather. But, as you will see,macroeconomists do know quite a lot about how the economy works. This knowledge is useful both for explaining economic events and for formulating economic policy. n Every era has its own economic problems. In the 1970s, Presidents Richard xon, Gerald Ford, and Jimmy Carter all wrestled in vain with a rising rate of inflation. In the 1980s, inflation subsided but Presidents Ronald Reagan and George Bush presided over large federal budget deficits In the 1990s, with Pres- ident Bill Clinton in the Oval Office, the budget deficit shrank and even turned into a budget surplus, but federal taxes as a share of national income reached a historic high. So it was no surprise that when President George W. Bush moved into the White House in 2001, he put a tax cut high on his agenda. The basic principles of macroeconomics do not change from decade to decade, but the macroeconomist must apply these principles with fexibility and creativity to meet changing circumstances CASE STUDY The Historical Performance of the U.S. Economy Economists use many types of data to measure the performance of an economy. Three macroeconomic variables are especially important: real gross domestic product(GDP), the inflation rate, and the unemployment rate. Real GDP mea- sures the total income of everyone in the economy(adjusted for the level of prices). The inflation rate measures how fast prices are rising. The unemploy ment rate measures the fraction of the labor force that is out of work. macro economists study how these variables are determined, why they change over time, and how they interact with Figure 1-1 shows real GDP per person in the United States. Two aspects of this figure are noteworthy. First, real gDP grows over time. Real GDP per person is today about five times its level in 1900. This growth in average Fr,Nav9,200111:52
User SONPR:Job EFF01417:6264_ch01:Pg 3:24476#/eps at 100% *24476* Fri, Nov 9, 2001 11:52 AM Although the job of making economic policy falls to world leaders, the job of explaining how the economy as a whole works falls to macroeconomists.Toward this end, macroeconomists collect data on incomes, prices, unemployment, and many other variables from different time periods and different countries. They then attempt to formulate general theories that help to explain these data. Like astronomers studying the evolution of stars or biologists studying the evolution of species, macroeconomists cannot conduct controlled experiments. Instead, they must make use of the data that history gives them. Macroeconomists observe that economies differ from one another and that they change over time. These observations provide both the motivation for developing macroeconomic theories and the data for testing them. To be sure, macroeconomics is a young and imperfect science. The macroeconomist’s ability to predict the future course of economic events is no better than the meteorologist’s ability to predict next month’s weather. But, as you will see, macroeconomists do know quite a lot about how the economy works.This knowledge is useful both for explaining economic events and for formulating economic policy. Every era has its own economic problems. In the 1970s, Presidents Richard Nixon, Gerald Ford, and Jimmy Carter all wrestled in vain with a rising rate of inflation. In the 1980s, inflation subsided, but Presidents Ronald Reagan and George Bush presided over large federal budget deficits. In the 1990s, with President Bill Clinton in the Oval Office, the budget deficit shrank and even turned into a budget surplus, but federal taxes as a share of national income reached a historic high. So it was no surprise that when President George W. Bush moved into the White House in 2001, he put a tax cut high on his agenda.The basic principles of macroeconomics do not change from decade to decade, but the macroeconomist must apply these principles with flexibility and creativity to meet changing circumstances. CHAPTER 1 The Science of Macroeconomics | 3 CASE STUDY The Historical Performance of the U.S. Economy Economists use many types of data to measure the performance of an economy. Three macroeconomic variables are especially important: real gross domestic product (GDP), the inflation rate, and the unemployment rate. Real GDP measures the total income of everyone in the economy (adjusted for the level of prices).The inflation rate measures how fast prices are rising.The unemployment rate measures the fraction of the labor force that is out of work. Macroeconomists study how these variables are determined, why they change over time, and how they interact with one another. Figure 1-1 shows real GDP per person in the United States.Two aspects of this figure are noteworthy. First, real GDP grows over time. Real GDP per person is today about five times its level in 1900.This growth in average
A TSI Graphics Worth: Mankiw Economics 5e 4 PART I Introduction figure 1-1 Real GDP per persor First oil price shock (1996 dollars) Great World Korean Vietnam Second oil price shock 35.000 War/ Depression War l/War 20.000 10.000 5,000 3.000 19001910192019301940195019601970198019902000 Real GDP per Person in the U.S. Economy Real GDP measures the total income of everyone in the economy, and real GDP per person measures the income of the average person in the economy. This figure shows that real GDP per person tends to grow over time and that this normal growth is sometimes interrupted by periods of declining income, called recessions or Note: Real GDP is plotted here on a hmic scale. On such a scale, equal distances on the vertica us, the distance between $5,000 and $10,000(a 100 ce between $10,000 and s ource: U.S. Bureau of the Census(Historical Statistics of the United States: Colonia/ Times to 1970)and U. s Department of Commerce income allows us to enjoy a higher standard of living than our great-grand parents did. Second, although real GDP rises in most years, this growth is not steady. There are repeated periods during which real gDp falls, the most dramatic instance being the early 1930s. Such periods are called reces- sions if they are mild and depressions if they are more severe. Not surpris- ingly, periods of declining income are associated with substantial economic hardship Figure 1-2 shows the U.S. inflation rate. You can see that inflation varies substantially In the first half of the twentieth century, the inflation rate aver- ed only slightly above zero. Periods of falling prices, called deflation,were lmost as common as periods of rising prices. In the past half century, inflation has been the norm. The inflation problem became most severe during the late 1970s, when prices rose at a rate of almost 10 percent per year. In recent years R: Job EFFo1417: 6264_ ch01: Pg 4: 24477#/eps at 1009 Ill Fr,Nav9,200111:52
User SONPR:Job EFF01417:6264_ch01:Pg 4:24477#/eps at 100% *24477* Fri, Nov 9, 2001 11:52 AM income allows us to enjoy a higher standard of living than our great-grandparents did. Second, although real GDP rises in most years, this growth is not steady. There are repeated periods during which real GDP falls, the most dramatic instance being the early 1930s. Such periods are called recessions if they are mild and depressions if they are more severe. Not surprisingly, periods of declining income are associated with substantial economic hardship. Figure 1-2 shows the U.S. inflation rate. You can see that inflation varies substantially. In the first half of the twentieth century, the inflation rate averaged only slightly above zero. Periods of falling prices, called deflation, were almost as common as periods of rising prices. In the past half century, inflation has been the norm.The inflation problem became most severe during the late 1970s, when prices rose at a rate of almost 10 percent per year. In recent years, 4 | PART I Introduction figure 1-1 World War I Great Depression World War II Korean War Vietnam War First oil price shock Second oil price shock 1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 30,000 35,000 20,000 10,000 5,000 3,000 Year 2000 Real GDP per person (1996 dollars) Real GDP per Person in the U.S. Economy Real GDP measures the total income of everyone in the economy, and real GDP per person measures the income of the average person in the economy. This figure shows that real GDP per person tends to grow over time and that this normal growth is sometimes interrupted by periods of declining income, called recessions or depressions. Note: Real GDP is plotted here on a logarithmic scale. On such a scale, equal distances on the vertical axis represent equal percentage changes. Thus, the distance between $5,000 and $10,000 (a 100 percent change) is the same as the distance between $10,000 and $20,000 (a 100 percent change). Source: U.S. Bureau of the Census (Historical Statistics of the United States: Colonial Times to 1970) and U.S. Department of Commerce