The Road Ahead

A SNAPSHOT OF MACROECONOMICS
SAI KUMAR SWAMY
PGPM IIM-B

Micro vs. Macro

2

Macroeconomics deals with the Economy as a whole

GDP
Unemployment
Prices
Consumption
Investment
International Trade

Term coined by Ragnar Frisch in 1933

Microeconomics deals with

Actions of individuals
Firms and Consumers

Schools of Economic Thought

3

Mercantilism

Colonies Positive BoT Accumulation of Bullion (Bullionism)

Staple ports Tenets Zero Sum Game

"We must always take heed that we buy no more from strangers than
we sell them, for so should we impoverish ourselves and enrich
them. 1549

East India Company Silk Route

Physiocracy

Physiocrats Agrarian philosophy

Francois Quesnay
Tableau Economique - 1759
Land Agriculture
Proprietary Productive - Sterile
Diminishing Returns

American School (National System)

4

Alexander Hamilton - Three Reports to Congress

Tenets

protecting industry through selective high tariffs (especially 18611932)

and through subsidies (especially 193270)
government investments in infrastructure creating targeted internal
improvements (especially in transportation)
a national bank with policies that promote the growth of productive
enterprises rather than speculation

Patents Office 1802

Coast and Geodetic Survey 1807
Rivers and Harbors Act 1824
Similarity to the British system?

Schools of Thought - 1
5

Classical/ New Classical

Started with Adam Smiths Wealth of Nations (1776)
Prices and wages are flexible
Markets carry out their functions efficiently
The supply side of the economy is very important
Changes in the demand side of the economy have only
temporary effects on the economy
No role for the Government to play- Laissez-Faire
Alfred Marshall, Adam Smith, David Ricardo
Failed to predict/correct the Great Depression of 1929
Early 1970s- New Classical School
Says Law

Great Depression
6
Coined by Lionel Robbins Great Depression
Started in 1929 and lasted till 1940
Global Scale
Black Tuesday 29th Oct, 1929
Large Scale Unemployment 25% in US
Frantic Attempts at Protectionism Smoot Hawley Tariff Act
Causes

Collapse of banks
Smoot Hawley Act
Monetary Contraction

Recovery in 1933

Public Works
Government Spending
WWII

US- GDP & Unemployment

7

Worldwide Impact
8

Great Depression in Pics

9

Schools of Thought - 2
10

Keynesian/New Keynesian
Prices and wages are not flexible
Markets are not efficient
The demand side of the economy is very important
Government has a major role to play - Fiscal Policy

John Maynard Keynes 1930s

The General theory of Employment, Interest and Money

Great Depression
Advocated Government Intervention
Multiplier Effect

Resurgence in 2008-2009

Global Financial Crisis Sub-prime Crisis

Paul Krugman, Joseph Stiglitz, Greg Mankiw, Akerlof

Great Depression in Pics

11
Migrant Mother
Florence Owens Thompson

"Seven hungry children. Father is

native Californian. Destitute in pea
pickers camp because of failure
of the early pea crop. These people
had just sold their tires to buy food."

Great Depression in Pics

12

Sectors of Economy
13

Sectors of Economy
14

Sector - India

Emp

GDP

Agriculture

51

17

Manufacturing

22

26

Services

27

57

Emp

GDP

Agriculture

35

10.1

Manufacturing

30

45.3

Services

35

44.6

Emp

GDP

Sector - China

Sector - USA
Agriculture
Manufacturing
Services

0.7

20.3

19

79

80

Key Concepts - 1
15

GDP - Gross Domestic Product

Definition
Broadest measure of Economic activity
Who- Where is important

Ex: MNC in India is incl. In GDP

Ex: Indian in the Gulf is not included in GDP

GDP = C + I + G + X M
Personal consumption (C), Gross private domestic investment (I),
Government purchases (G), and Net Exports (X-M)

GDP Nominal - $ 1.8 Tn (10th) GDP PPP - $ 5.6 Tn (3rd)

What is PPP?

Top 10 GDP
16

PPP Illustration - Starbucks

17

BigMac Index
18

How much do you pay for..

19

Largest Economies 2013

20

Growth Forecasts
21

GDP Growth - Worldwide

22

Key Concepts - 2
23

Issues with GDP

Parallel economy/Shadow economy
Barter Transactions
Double Counting
Quality of Data/ Estimates
Household Production
Ignores Externalities
Distribution of wealth
Sustainability of Growth

Alternatives
HDI
Gini Coefficient
GHI or GNH

HDI
Mahbub ul Haq
Amartya Sen
1990

Life Expectancy
Education Index
Income Index

24

Gini
25

GHI or GNH
26

GNH - Bhutan

Key Concepts - 3
27

GNP - Gross National Product

Gross National Product includes income earned by the factors of

production (assets and labor) owned by a country's residents but
excludes income produced within the country's borders by factors of
production owned by nonresidents

Where - is immaterial

Who - is important

GNP = GDP + Receipts Payments

Key Concepts - 4
28

CPI Consumer Price Index

It is the annual percentage change in the cost of acquiring a

fixed basket of goods and services
Measures

Inflation
Purchasing power of consumers Today vs. Yesterday

Basis for Dearness Allowance

4 types

Working class (urban non manual)

Agricultural labor
Industrial workers
Rural labor

Food-60% ;Clothing-8% ;Fuel-6% ;Housing-8% ;Misc-18%

CPI 8.5% (29th Jan, 2014)

Key Concepts - 5
29

Wholesale price index - WPI

It is the index used to measure the change in the average

price level of goods traded in wholesale market
676 commodities data tracked
Captures price movements in a comprehensive way
Widely used in Business, Industry, Government

Better approximate of inflation

Primary Articles
102 items 20.12%
Mfcg. Goods
555 items 64.97%
Fuel
19 items 14.91%

Key Concepts - 6
30

Inflation
An increase in the general level of prices
Measured by CPI and WPI
Is it Bad and undesirable?
Could it be an incentive to invest?

Deflation
A fall in the general price level or a contraction of credit and
available money
Deflation, not inflation, is now the greatest concern for the world
economy

Disinflation

A period or process of slowing the rate of inflation

Factors influencing Inflation

31

Demand > Supply

Changes in Agricultural output
Increase in Money Supply
Interest Rate fluctuation
Govt. Expenditure
High Fiscal Deficits
Deficit Financing
Higher Indirect taxes rise in costs

Key Concepts - 7
32

Causes of Inflation

Monetary Theory

Monetary policies of Central Banks

Monetary and fiscal restraint

Neo-Keynesian Theory
Demand-Pull
Cost-Push

Hyperinflation

Key Concepts - 8
33

How to control Inflation?

Monetary Policies

Open Market Operations

Fiscal Policy
Taxation
Government Spending

Key Concepts - 9
34

Recession

A recession is a prolonged period of time when a nation's

economy is slowing down, or contracting
Prerequisite: Two consecutive Quarters
Trends indicating Recession

Decrease in Consumer Spending

Decrease in industrial production
Growing unemployment
Slump in personal income
An unhealthy stock market

Key Concepts - 10
35

Forex

External assets that are readily available to and controlled by monetary

authorities for direct financing of external payments imbalances, for
indirectly regulating the magnitudes of such imbalances through
intervention in exchange markets to affect the currency exchange rate,
and/or for other purposes
Foreign exchange reserves targets are fixed to accommodate imports of
three months
Foreign exchange reserves include three items

Gold
SDRs
Foreign currency assets

India - $292Bn

Currency $266Bn
Gold $20Bn

Foreign Exchange Reserves

36

The Dollar Dominance

37

Key Terms - 1
38

Cash Reserve Ratio CRR is the portion of deposits (as cash) which banks

have to keep/maintain with the RBI.

Purpose

Ensures that a portion of bank deposits is totally risk-free

Enables that RBI control liquidity in the system, and thereby, inflation
Currently it is at 4%

Bank Rate - is the rate at which the central bank lends to the

commercial banks
Currently 9%

SLR - the portion of their deposits banks are required to invest in

government securities
Repo rate - The rate at which the RBI lends money to commercial banks is
called repo rate. It is an instrument of monetary policy. Whenever banks have
any shortage of funds they can borrow from the RBI.

Currently 8% (up from 7.75%)

Reverse Repo - the rate at which the RBI borrows money from commercial

banks. Banks are always happy to lend money to the RBI since their money is
in safe hands and earns a good interest.

Currently 7% (up from 6.75%)

Key Terms - 1
39

Exchange Rate
the price of a national currency in terms of the currency of another
nation.

The exchange rate is a way of stating how many units of currency (dollars,
for example) it would take to buy a unit of a foreign currency
Changes in the exchange rate of a country's currency can make a
difference in the price of its imports and exports

Fixed
Rate held fixed in terms of a foreign currency
Floating
Market forces allowed to determine the rate
Mixed

Key Terms - 2
40

Balance of Payments ( BoP)

A statement of economic transactions showing the relative
difference between the inflow and outflow of goods, services,
and capital claims and liabilities between a country and its
trading partners
BoP= (Exports + Inflows)- (Imports + Outflows)

1991 Crisis

Liberalization - 1
41

The term is used for a more outward-oriented economic

policy

Elimination of anti-export biases

Lowering high import tariffs
Reducing/phasing out Quantitative Restrictions (QRs) on inputs
Switching to tariff-related measures

The goals of liberalization were to motivate Indian

manufacturers to

Prefer updated technology

Deliver better products at lower costs
Face global competition
Deliver world class goods and services

Liberalization - 2
42

Liberalization in Various Sectors

Infrastructure
Power
Telecom
Oil
Insurance
Automobiles
Agriculture
Software

Second Generation of Reforms

Cutting down the fiscal deficit

Reform the archaic labor laws
Remove the QRs on consumer goods imports

Currency Convertibility - 1
43

Currency convertibility is defined as the freedom to

convert one currency into other internationally

accepted currencies

Two forms of convertibility

Current account convertibility
Capital account convertibility

Currency Convertibility - 2
44

Current account convertibility has been defined as the

freedom to buy or sell foreign exchange for

International transactions consisting of payments due in connection

with foreign trade, other current businesses including services and
normal short-term banking and credit facilities
Payments due as interest on loans
Moderate remittances for family living expenses

Capital account convertibility means that the home

currency can be freely converted into foreign currencies for

acquisition of capital assets abroad

The rupee is currently not freely convertible on the

capital account

Financial Markets
45

Provide facilities for the buying and selling of financial

claims and services

Classified as
Primary
Secondary

Also classified as
Money Short Term CP & CD
Capital Long term Stocks & Bonds

Stock Markets

SEBI
Forex Markets

Annexures
46

Phillip Von Hornick

47

Austria Over All, If She Only Will - 1684

To inspect the country's soil with the greatest care, and not to leave the agricultural
possibilities of a single corner or clod of earth unconsidered...
All commodities found in a country, which cannot be used in their natural state, should be
worked up within the country
Attention should be given to the population, that it may be as large as the country can
support
gold and silver once in the country are under no circumstances to be taken out for any
purpose
The inhabitants should make every effort to get along with their domestic products
Foreign commodities should be obtained not for gold or silver, but in exchange for other
domestic wares
Foreign commodities should be imported in unfinished form, and worked up within the
country
Opportunities should be sought night and day for selling the country's superfluous goods to
these foreigners in manufactured form
No importation should be allowed under any circumstances of which there is a sufficient
supply of suitable quality at home.

Says Law
48
Jean Baptiste Say - Products are paid for with Products
It is worthwhile to remark that a product is no sooner created than it,

from that instant, affords a market for other products to the full extent of
its own value. When the producer has put the finishing hand to his product,
he is most anxious to sell it immediately, lest its value should diminish in
his hands. Nor is he less anxious to dispose of the money he may get for it;
for the value of money is also perishable. But the only way of getting rid of
money is in the purchase of some product or other. Thus the mere
circumstance of creation of one product immediately opens a vent for other
products

What does it mean Supply equals Demands

In order to obtain a desired commodity, one must first and necessarily

produce a commodity which is itself desirable. Those who produce

undesirable commodities, or produce desirable commodities but at
unprofitable costs, will fail.

The Harmony of Interests Agricultural,

Manufacturing and Commercial
49

Henry Carey American Economist Advisor to Lincoln

Two systems are before the world;... One looks to increasing the

necessity of commerce; the other to increasing the power to maintain it.

One looks to underworking the Hindoo, and sinking the rest of the
world to his level; the other to raising the standard of man throughout
the world to our level. One looks to pauperism, ignorance,
depopulation, and barbarism; the other to increasing wealth, comfort,
intelligence, combination of action, and civilization. One looks towards
universal war; the other towards universal peace. One is the English
system; the other we may be proud to call the American system, for it is
the only one ever devised the tendency of which was that of elevating
while equalizing the condition of man throughout the world
Laissez-Faire Free Trade Capitalism Vs. Developmental Capitalism

Silk Route
50

Alexander Hamilton
51

Fiscal Policy - 1
52

Government uses its revenue and expenditure programs to

produce desirable effects on

National income
Production
Economy

Used as a balancing device

Two elements of Fiscal Policy
Taxation
Public Expenditure

Fiscal Policy - 2
53

Objectives of Fiscal Policy

Mobilization of resources
Acceleration of economic growth
Minimization of the inequalities of income and
wealth
Increasing employment opportunities
Price stability
Reflationary Fiscal Policy
Deflationary Fiscal Policy