Rudiger Dornbusch | Stanley Fischer | Richard Startz

Chapter 1: Introduction
 Macroeconomics summarized in three models
Macroeconomics studies the economic behavior as a whole, that is, of the
expansions and recessions, of the total production of goods and services, of the growth of the
production, of inflation and unemployment rates, of the balance of payments and of the rates of
change, from long-term economic growth to short-term fluctuations that
they constitute the economic cycle.

The study of macroeconomics is organized around three models that describe the
world; each model has its applicability in a different timeframe:

Very long term (growth theory).

2. Long term.
Short term.

Long-term growth

The behavior of the economy over the long term is the field of the theory of
growth, which focuses on the economy's ability to produce goods and
savings rate is a key determinant of capital accumulation.

Over very long periods, the only thing that matters is the speed at which the economy grows.
average. The theory of growth aims to explain average growth rates in
many years or decades.

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 Macroeconomics summarized in three models

Very long-term growth

The theory of growth and long-term aggregate supply models are closely related.
related: the position of the vertical aggregate supply curve for a given year is equal to
production level of that year resulting from the very long-term model.

Given that economic growth in the very long term is, on average, a few
percentage points per year, the aggregate supply curve typically shifts to the
right a few percentage points per year.

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 Macroeconomics summarized in three models
The economy with fixed productive capacity (Long Term)

In the long run, the level of production is defined solely by supply aspects.
Essence, what an economy produces depends on its productive capacity.

The aggregate supply curve (AS) represents, for each

price level, the amount of production that companies
they are willing to generate. Their position depends on the
productive capacity of the economy.

The aggregate demand curve (AD) represents, for

each price level, the level of production at which the
goods and financial assets markets are
simultaneously in equilibrium. Its
In the long run, the aggregate supply curve is vertical. Production is determined only by the aggregate supply.
while prices are determined by the OA and the DA.

In the long run, the position of the OA curve is determined by growth.

long-term economy.

The only possible cause of high inflation is the movements of the AD along the
vertical curve of the OA.
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 Macroeconomics summarized in three models
The short term

The explanation for fluctuations in production in the short term belongs to the field
of aggregate demand.

In the short run, the aggregate supply curve is flat (horizontal). It is established at the
price level that intersects at the point where it touches the vertical axis.

In the short term, production and consequently the

employment levels are determined only by demand
aggregated and the level of production does not affect prices.

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 Macroeconomics summarized in three models
The medium term

How do we describe the transition between the short and long terms? When the DA drives the
production above the sustainable level according to the very long-term model, companies
prices start to rise and the OA curve shifts upwards.

In the medium-term model, the OA curve has a

intermediate slope between vertical and horizontal.
It constitutes the transition between the short term (OA
horizontal) in the long term (vertical OA).

Movements in aggregate demand affect both production and the general price level.

The speed at which prices adjust is a crucial parameter for understanding the
economy. In general, prices adjust very slowly; thus, in a year, changes in
the DA provides a good explanation of economic behavior.

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 Macroeconomics summarized in three models

In summary: Shape of the OA curve:

P OA P P
OA
OA

0 Y 0 Y 0 Y
Long Term Medium Term Short Term

The position of the OA depends on the productive capacity of the economy and the period of
time that is being considered (long, medium, and short term).

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 Macroeconomics summarized in three models

Growth and GDP

The growth rate of the economy is the rate at which the Gross Domestic Product increases.
Gross (GDP).

Why does GDP grow over time?

1. Because the availability of resources in the economy increases (capital and labor
of the work).
2. Because it increases the efficiency of the factors of production (increases in the
productivity.
Costa Rica: Gross Domestic Product and rate of variation
(Figures in millions of colones from 1991 and percentages)
Concept 2010 2011 2012 2013 20141/ 20151/ 20162/
Producto Interno Bruto 2.179.148,4 2.277.596,9 2.395.293,5 2.477.626,3 2.564.401,5 2.637.131,5 2.746.638,7
Rate of variation -- 4.5% 5.2% 3.4% 3.5% 2.8% 4.2%
1/
Preliminary.
2/
Projection.
SOURCE: Central Bank of Costa Rica.

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 Macroeconomics summarized in three models

Growth and GDP

The economic growth of a country depends on the productivity of its factors of production.
production, specifically of human resources.

Productivity. Amount of goods and services produced per hour of labor.

carried out. The determinants of productivity are the following:

Physical capital (Amount of equipment and structures used to produce goods and
services.
Human capital (Knowledge and qualifications that workers acquire through
of education, training, and experience).
Natural Resources (Factors that intervene in the production of goods and services and that
They are provided by nature, such as land, rivers, and mineral deposits.
Technological Knowledge (Understanding of society in the best ways of
to produce goods and services.

Technological knowledge refers to the knowledge of society in the way that

how the world works. Human capital refers to the resources dedicated to
transmission of this knowledge to the working population.

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 Macroeconomics summarized in three models
The economic cycle and the production gap

Inflation, growth, and unemployment are related in the economic cycle. The cycle
economic is the more or less regular pattern of expansion (recovery) and contraction
(recession) of economic activity around the growth trend line.

The trend of GDP is the path that GDP would follow if the factors of production are
they will fully utilize.

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 Macroeconomics summarized in three models
The economic cycle and the production gap

The full employment of the factors of production is an economic concept, not a physical one.

In economic terms, there is full employment of labor if everyone who is looking for a job...
they find work in a reasonable time.

The production gap measures the difference between the level of effective production and the level.
full employment of existing resources production.

Production gap producción efectiva─producción potencial

A positive production gap means that there is excess employment and overtime for
the workers, and that the machinery utilization rate is higher than normal.

Inflation increases have a positive relationship with the output gap.

The DA's expansion policies generate inflation, unless they occur when the economy
It has high levels of unemployment.

Inflation and unemployment are macroeconomic concerns, although the costs of the
Inflation is much less apparent than unemployment.

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Macroeconomics summarized in three models

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