Microeconomics and Macroeconomics

Many economists specialize in a particular branch of the subject. Labour economics deals with problem of the labour market as viewed by firms, workers, and society as a whole. Urban economics deals with city problems: land use, transport, congestion, and housing. However, we need not classify branches of economics according to the area of economic life in which we ask the standard questions what, how, and for whom. We can also classify branches of economics according to the approach or methodology that is used.

Microeconomic analysis offers a detailed treatment of individual decisions about particular commodities.

For example, we might study why individual households prefer cars to bicycles and how producers decide whether to produce cars or bicycles. We can then aggregate the behaviour of all households and all firms to discuss total car purchases and total car production. Within a market economy we can discuss the market for cars. Comparing this with the market for bicycles, we may be able to explain the relative price of cars and bicycles and the relative output of these two goods. The sophisticated branch of microeconomics known as general equilibriumtheory extends this approach to its logical conclusion. It studies simultaneously every market for every commodity. From this it is hoped that we can understand the complete pattern of consumption, production, and exchange in the whole economy at a point in time.

If you think this sounds very complicated you are correct. It is. For many purposes, the analysis becomes so complicated that we tend to lose track of the phenomena in which we were interested. The interesting task for economics, a task that retains an element of art in economic science, is to devise judicious simplifications which keep the analysis manageable without distorting reality too much. It is here that microeconomists and macroeconomists proceed down different avenues. Microeconomists tend to offer a detailed treatment of one aspect of economic behaviour but ignore interactions with the rest of the economy in order to preserve the simplicity of the analysis. A microeconomic analysis of miners' wages would emphasize the characteristics of miners and the ability of mine owners to pay. It would largely neglect the chain of indirect effects to which a rise in miners' wages might give rise. For example, car workers might use the precedent of the miners' pay increase to secure higher wages in the car industry, thus being able to afford larger houses which burned more coal in heating systems. When microeconomic analysis ignores such indirectly induced effects it is said to be partial analysis.

In some instances, indirect effects may not be too important and it will make sense for economists to devote their efforts to very detailed analyses of particular industries or activities. In other circumstances, the indirect effects are too important to be swept under the carpet and an alternative simplification must be found.

Macroeconomics emphasizes the interactions in the economy as a whole. It deliberately simplifies the individual building blocks of the analysis in order to retain a manageable analysis of the complete interaction of the economy.

For example, macroeconomists typically do not worry about the breakdown of consumer goods into cars, bicycles, televisions, and calculators. They prefer to treat them all as a single bundle called 'consumer goods' because they are more interested in studying the interaction between households' purchases of consumer goods and firms' decisions about purchases of machinery and buildings.

Because these macroeconomic concepts are intended to refer to the economy as a whole, they tend to receive more coverage on television and in the newspapers than microeconomic concepts, which are chiefly of interest to those who belong to the specific group in question. To give an idea of the building blocks of macroeconomics, we introduce three concepts which you have probably read about in the newspapers or seen discussed on television.

Gross domestic product (GDP) is the value of all goods and services produced in the economy in a given period such as a year.

GDP is the basic measure of the total output of goods and services in the economy.

Theaggregate price level is a measure of the average level of prices of goods and services in the economy, relative to their prices at some fixed date in the past.

There is no reason why the prices of different goods should always move in line with one another. The aggregate price level tells us what is happening to prices on average. When the price level is rising, we say that the economy is experiencing inflation.

The unemployment rate is the percentage of the labour force without a job.

By the labour force we mean those people of working age who in principle would like to work if a suitable job were available. Some of the landed gentry are of working age but have no intention of looking for work. They are not in the labour force and should not be counted as unemployed.

Already we can see two themes of modern macroeconomic analysis. Society reveals, both through statements by individuals and by the policy pronouncements of politicians who must submit themselves for re-election by the people, that it does not like inflation and unemployment. Yet for most of the 1970s economic interactions within and between national economies led to substantial inflation rates. In the 1980s, most Western economies faced sharp rises in the aggregate unemployment rate. Macroeconomists wish to understand how interactions within the economy can lead to these outcomes and whether government policy can make any difference.