Macroeconomics

Rashmi Ranjan Paital

What is Economics ?

What is Economy?
What is Economics ?
Economics is all about production, distribution &
consumption.

What is Economy?
An economy represents a state or a country in terms of
Income.
Largest Economies in 2019
(World Bank Statistics)
Share of World GDP or Income-2019
Population
World Population: 7.6 Billion
India : 1.35 Billion
China: 1.4 Billion
USA: 0.27
Japan: 0.12
India’s population share in the world = 17.7%, GDP share =3.3%
USA population share in the world = 3.5%, GDP share= 24%
Unemployment rate x100
Total Unemployed =100
Total Workforce = 1000
Unemployment rate =10%
Macroeconomics:
Macroeconomics studies the behavior and performance of an economy as a whole. It
focuses on the aggregate changes in the economy such as:
-National Income, National Output
-Total Employment
-Aggregate Demand & Supply
-Total Consumption, Gross Savings & Gross Investment
-Export, Import
- General price, Inflation, unemployment etc.
Microeconomics:
It studies the behavior of an individual economic agent or a group.
-Behavior of an Individual Consumer
-Behavior of an Individual Producer
-Behavior of an Industry (group of firms)
Macroeconomic Variables/Indicators:
GDP Growth Rate (-7.3% in FY21) (20.1% in 1st Qtr FY22)
Inflation Rate (4.35% in Sept-21)
Unemployment Rate (6.86% Sept-21)
Interest Rate (4.25% Bank Rate –Oct 21)
Exchange Rate (75.10 USD-INR, 19th Oct)
Foreign Direct Investment (FDI)
Foreign Portfolio Investment (FPI)
Export / Import
Trade Deficit/Surplus (Current Account Deficit/Surplus)
Trade Deficit was in FY20 (0.9% of GDP)
Now Trade Surplus FY21 (0.9% of GDP)
Fiscal Deficit (4.6% of GDP in FY20, 9.3% in FY21)
Per Capita Income (1947 USD, Mar-21)
Importance of Macroeconomics:
-To understand the macroeconomic indicators & how it is measured
-To understand the performance of the economy
-To understand the various economic policies & its impact on the economy
-To understand the various economic problems : Inflation, Unemployment
-To understand the business cycle (up & down) in the economy
Recession, Depression in the economy
Recession: Downfall in the economy for at least 2 quarters (Negative GDP Growth)
Depression: Downfall in the economy for a longer period (more than 2-3 years)
Great Depression : 1929-35
World GDP = -26%
World Unemployment rate = 25%
Deflation: price came down heavily
-It helps us for investment decision.
 Investment Decision
Top-Down Approach of Investment
 In the top down approach, the investors first look into the macro picture of the
economy
 and later work down to research on the individual stocks.
1st -Country Analysis
They will analyze the various macro economic factors like GDP, Inflation,
Unemployment, interest rate, Oil price, FDI inflow impact on overall market.
How the economy will perform and how the entire market will perform.
2nd -Sector Analysis (finding a particular sector based on outlook)
3rd - Stock Analysis (the final phase to find the stocks within the selected sector)
Note: Most of the Investment Banks, Brokerage Houses, Fund Managers prefer
top-down approach of investment.
Bottom–Up Approach of Investment
It is completely opposite, Investors use to pick the stocks by looking in to the
company fundamentals: PE ratio, Operating Margin, Net profit margin, Revenue
growth, Cash flow, Price to Book value, Dividend Pay-out Ratio(DPR) etc.

- In this selection process, investors ignore the performance of industry or sector &
the economy as a whole.
- Investors believes that company performance matters than sector and overall
market.
- Company will outperform the sector and the entire market.
Note: For Top-Down approach we need Country Analysts, Sector Analysts & equity
analysts.
 For Bottom-up approach we need only financial analysts or equity analysts
 Top-down approach is more costly.
 Macroeconomic Policies
Monetary Policy
-It is regulated by the Central Bank-RBI
-RBI controls the economy by changing the interest rate & money
supply
-RBI Governor is the chief of Monetary Policy Committee(MPC)

Fiscal Policy
-It is regulated by the Ministry of Finance, Govt. of India
-Fiscal policy is the means by which a government adjusts its spending
levels and tax rates to monitor and influence a nation's economy.
Macroeconomic Policy Objectives/Goals:
 Higher Economic Growth (GDP)
Stable & Sustainable economic growth
 Full Employment / To reduce Unemployment Rate
 Price Stability/ To control Inflation
 Exchange Rate Stability
 To reduce Trade Deficit/Current Account Deficit (CAD)
 To reduce fiscal deficit / Govt. Borrowings
 To reduce the inequality
Flow Variables & Stock Variables
Flow Variable: It is measured during a period of
time
Stock Variable: It is measured at a point of time
Total Population- Stock
Income- Flow
Revenue- Flow
Savings- flow
Wealth-Stock
Capital-Stock
Investment-Flow
Debt- Stock
Market cap- Stock
Money Supply- Stock
 National Income
-GDP (Gross Domestic Product)
-GNP (Gross National Product)
-NDP (Net Domestic Product)
-NNP(Net National Product)
-Real GDP vs Nominal GDP
-GDP Deflator
-GDP at Factor Cost Vs. GDP at Market Price
-Methods of Measurement National Income
Value Added, Income & Expenditure Approach
-Personal Income & Disposable Income
-Per capita Income
-IIP ( Index of Industrial Product)
-Economic Growth Vs. Economic Development
Gross Domestic Product: GDP
-GDP is the total market value of all the finished goods & services produced
within a country during a financial year.
GDP Contribution by Sector- 2018-19
GDP Contribution by Sector : 2018-19
Finished goods are the final goods which are ready for use & no
further processing are required. Ex: Car, Mobiles, Fruits, Vegetables, Capital
goods: Tractors, Machineries etc
Intermediate goods are used as raw materials/inputs for further
production. Ex: Sugar cane, Steel, Wood, fuels, etc. These are not part of
GDP.
Example: Sugar purchased by a Sweet shop is an intermediate good,
while it is a final good when it is purchased by a consumer.
Gross National Product : GNP
- The total market value of all the finished goods & services produced by our
nationals( Indians) within the country & out side the country.
GNP = GDP + Net Factor Income from abroad (NFI).
-GDP is the total value of output produced in India (within the country) by
Indians & foreign nationals.
-GNP is the total value of output produced by Indians within the country & out
side the country.
-NFI is the difference between the aggregate amount that a country's citizens
and companies earn abroad, and the aggregate amount that foreign citizens and
overseas companies earn in our country.
-Net factor income from abroad can be negative as well as positive
GDP = Total Output by Indians inside the country (A) + Total Output by
foreign nationals inside the country (B)

GNP = Total Output by Indians inside the country (A) + Indians

producing outside India (C) .
GDP =A +B
GNP = A + C
GNP = A+C+B-B
= (A+B) + (C-B) = GDP + (C-B)
C-B= Net Factor Income from abroad
GNP = GDP + Net factor income from abroad (NFI)
Net Domestic Product : NDP
NDP = GDP - Depreciation

Net National Product : NNP

NNP = GNP - Depreciation
Depreciation is the wear & tear cost of the machineries while
producing. Part of the machinery in a factory’s production line may
need to be replaced while another set of similar machines continues
to function. It is the replacement cost.
Depreciation is also called as consumption of fixed capital.
NNP is the National Income
 (Real GDP) Vs (Nominal GDP)
Real GDP is called as GDP at constant price
 GDP is measured at base year Price.
 Base year is a normal year in which there is no major natural calamities that
affects the production & Price. Year Total Base Year Price Real GDP
Output (2011-12)
 The current base year: 2011-12 2011-12 200 100 20000
 Each year Real GDP is measured at 2011-12 price 2015-16 250 100 25000
2019-20 230 100 23000
 It is Inflation adjusted GDP
 Real GDP is used to calculate economic growth of a country
 From Real GDP only we can get to know whether the real output of the country
has increased or decreased over the period of time.
Nominal GDP is called as GDP at current Price or Market price
 GDP is measured at current period price.
 Current Period Output multiplied with their respective market price.
 It is not inflation adjusted GDP Year Total Output Price Nominal
GDP
 This is not used to calculate the economic 2011-12 200 100 20,000
growth. 2015-16 250 150 37,500
2019-20 230 200 46,000

 The GDP value may rise due to higher price (inflation) without
increase in the total output of an economy.
 During 2019-20, the nominal GDP has increased from 37,500 to
46,000 where as total output of the economy has come down from
250 to 230.
 Nominal GDP does not show the real performance of the economy
 Real GDP = Nominal GDP x
 Base Year price index value is always =100
 The current year price index value depends on how much the price
has increased over the period of time.
 If the price is double then the current year index value = 200

Nominal GDP (2018-19) =5000

Price Index value (2018-19)=200
Real GDP (2018-19) = 2500
2011-12 = average price 500
Base year index = 100
2012-13= 1000
Current year index =200

2019-20 = 300
GDP Growth Rate = x 100

Real GDP in 2019-20 = 1050

Real GDP in 2018-19 = 1000
Growth rate = 5%
GDP Deflator = x 100

 GDP Deflator is an index of measuring the price changes (inflation) in

an economy
 If the deflator value is 150 means, 50% price has increased from the
base year (2011-12). Base year value = 100. GDP has increased by 50%
due to inflation only not due to output increased.
For Example,
GDP Deflator in 2019-20 = x 100 = x 100 = 150
Per Capita Income =

 It is the per head income

 GDP per capita of India (Nominal) = 2139 USD (march-20)
USA-8th Position (65,000 USD)
China-68th Position (10,262 USD)
India- 142nd Position

 IMF Forecast (Oct 20) : India set to drop below Bangladesh in 2020.
by 2020 India- 1887 USD & Bangladesh-1888 USD
(GDP at Factor Cost) vs (GDP at Market Price)
GDP at factor cost:
It is the money value of final goods & services based on the
factor cost involved in the process of production.

GDP at Factor Cost = Rent + Wages & Salaries+ Interest + Profit +

Depreciation
Note: Gross means Depreciation cost is included

NDP at Factor Cost = GDP at Factor Cost-Depreciation

GDP at Market Price = GDP at Factor Cost - Subsidies
+ Indirect Taxes
GDP at MP = GDP at FC + Net Indirect Taxes
Note: Net Indirect Taxes= (Indirect Tax-Subsidies)
GDP at FC > MP, When Subsides > Indirect Taxes
GDP at MP > FC, When Indirect Taxes > Subsidies

Indirect Taxes: VAT, GST, Service Tax, etc

Indirect taxes are transferred from one to another
Direct Taxes: Income Tax, Property Tax, Corporate tax etc
Direct taxes can’t be transferred from one to another
Factor Cost (Rent+wages+interest+Profit) 70
Depreciation 5
GDP at FC 70+5 = 75
Subsidies 25
Net cost = GDP at FC-Subsidies 75-25 =50
Indirect taxes 30
GDP at MP = GDP at FC –Subsidies + indirect Taxes 50+30 = 80
Personal Income: it is the total income received by the
individuals of a country from all the sources before payment of direct
taxes.

Disposable Income = Personal Income-Direct Taxes

Direct taxes: Income Tax, Profit Tax, Property Tax, etc paid by the
individuals directly to Govt.
Methods of measuring GDP/National Income
-Income Approach
-Expenditure Approach
-Value Added Method Approach
Income Method to GDP: GDP is the sum total of the following
items:
1. Wages & Salaries
2. Rents
3. Interests
4. Dividends: Distributed profit among the share holders
5. Retained Earnings: Undistributed Corporate Profits
6. Mixed Incomes- Income from multiple sources
7. Direct Taxes
8. Net Indirect Taxes (Indirect Taxes-Subsidies)
9. Depreciation : Every corporation makes allowances for expenditure on wearing out &
depreciation of machines, plants and other equipment's. This is not part of the income
received by the factor owners. It is therefor also included in GDP. Depreciation also called
as consumption of fixed capital as the value of fixed capital depreciates.
Expenditure Method to GDP: from expenditure view point GDP is the sum of total expenditure
incurred on goods and services.
GDP = Private Consumption Expenditure (C) +
Gross Domestic Private Investments (I) +
Government Expenditures (GE) +
Net Export: Export (X)-Import (M)
GDP = C + I + GE + (X-M)
Note: Transfer Payments made by Govt. such as: Pensions, Unemployment allowances, old age, disability &
sickness benefits, etc are excluded from govt. expenditure while calculating GDP.
 A transfer payment is a payment of money for which there are no goods or services exchanged.
 Gross Domestic Private Investments = Gross Fixed Capital Formation (Addition of fixed assets: machineries, Factories
etc & replacement of old capital) + Inventories (changes in stocks) + Valuables ( Golds etc for investment purpose).
 Private investment does not include shares & Debentures. Only Physical assets. Shares and debentures are investments made in
form of money. this is not a production nor any value addition.
 Exports are produced within the country, included in GDP
 Imports are produced outside the country, deducted in GDP
Product Method/ Value Added Method to GDP
 GDP is the market value of all the finished goods & services.
 It is difficult to distinguish between a Finished/final product and an intermediate
product.
 Intermediate products are raw materials, Semi-Finished products, fuels etc
which are sold by one industry to another industry for further production.
Double Counting Problem:
Example: Sugarcane is a final product for agriculture industry and an
intermediate product for Sugar mills. We may face double counting problem if
we are considering both sugarcane & sugar for GDP calculation.
 So to avoid double counting, the value of intermediate products are
subtracted from the value of the final products at each step in the
production to estimate the GDP.
Value added Approach Eliminates Double
Counting
Agents Intermediate Total Value Value Added
Purchases Of Output (Total value-
Intermediate)
Farmer-Sugarcane 20 100 80

Sugar Mill 100 200 100

Retail Shop 200 220 20

Total 320 520 GDP =520-320=

200
 Gross Value Added (GVA)
Industry Total Output Intermediate Value Added
Current MP Purchases
(1) (2) (3) (2)-(3)
Agriculture 200 50 150
Manufacturing 300 100 200
Service 500 200 300
Total Economy 1000 350 GDP = 650
Note: Service Sector intermediate purchases are: power
consumption, Security expenses, Transport expenses, Internet bill
etc
Before 2015
Earlier Gross Value Added(GVA) was reported in Factor cost by Indian Statistical
Office.
GVA= GDP at Factor Cost
GVA –Subsidies+ Indirect Taxes = GDP at Market Price
After 2015
GVA is reported at basic price instead of factor cost
GVA at Basic Price = GVA-Production Subsides+ Production Tax
GVA at Basic Price = GVA + Net Taxes on Production
GVA at Market Price = GVA at Basic Price- Product Subsidies + product Taxes
GVA at Market Price = GVA at Basic Price+ Net Taxes on Product
GDP = GVA at Basic Price + Net taxes on product
The value remain same in all the methods of GDP
Total Output = Total Income = Total Expenditure
 Total Value of Output is always equals to the Total Income bcz the value is distributed in
the form of Rent, Wages, Salaries, Interest , Profits & Taxes.
 One person's spending is another person's income.
 Every transaction has a buyer and a seller, the total expenditure in the economy
must equal the total income in the economy.
 All the methods we are not getting the equal GDP due to some methodological, data
issues. Some discrepancies you will find in the GDP data reported by the RBI & Indian
Statistical Office
 Note: In a developing country like India, it is difficult to find each individuals, each
industry information. The missing information's are estimated by some methodology
for GDP calculation. It is difficult to get information about unorganized sector like
handloom workers, fishermen and fisherwomen, toddy tappers, leather workers, plantation Laboure's, beedi workers etc
GDP = Sold Goods + Changes in stocks Inventories
(Unsold Goods)
Inventories are produced this year and it is
unsold. That’s why it is added in to this year GDP
 Difficulties or Limitations
in measuring National Income
1. Self consumption of output
2. Illegal Income
3. Lack of reliable data
4. Double counting issues (Unclear distinction between a final product and
an intermediate product)
5. Exclusion of Housewives services
6. Difficulties of measuring the depreciation cost
7. Difficulties in gathering Unorganised sector information
Economic Growth: Economic growth means an increase in real
GDP. Economic growth is measured based on GDP growth rate.

Economic Development : Economic development means an

improvement in the quality of life and living standards, e.g. measures
of literacy, life-expectancy, health care, Mortality rate.
Economic Growth Occurs when:
• There is an increase in work force, or the quality of the workforce improves
through training and education.
• There is an increase in capital and machinery.
• There is an improvement in technology.
Economic Development Occurs when:
• An increase in real income per head – GDP per capita.
• The increase in levels of literacy and education standards.
• Improvement in the quality and availability of housing.
• Increased life expectancy.
Human Development Index: HDI
 It is used to measure the country's Development
Components of HDI index
1. Health (Life Expectancy)
2. Education (Literacy, Enrolment in School, Colleges & higher
education )
3. Income ( Per capita income)

HDI Rank (2021): 131 out of 189 countries

It is reported by The United Nations Development Programme (UNDP)
Importance of National Income
1. Sectoral Performance: To know the relative importance of the various
sectors of the economy and their contribution towards national income.
2. Economic Policies: To formulate the national policies such as
monetary policy, fiscal policy and Trade policy, etc
3. Economic Planning: The national data are of great importance for
economic planning.
4. International Comparison: GDP growth, Per capita income comparison
5. Distribution of Income: National Income Statistics enable us to know
the distribution of income. Inequalities.
6. Investment Decisions: Investment decisions are taken based on
macroeconomic indicators.
7. Economic Welfare: It is measured in terms of Per Capita Income
Circular Flow of Income
Circular Flow of Economy:
Circular flow of income represents how the national income &
expenditure of an economy flow in a circular manner continuously
from one sector to another sector.
-From the circular flow we will get to know how the economy is
functioning.
Sectors of an Economy:
1. Household
2. Business/Firms
3. Government
4. External/Foreign Sector
2-Sector Model Circular Flow
-Household Sector
-Business/Firm Sector
3-Sector Model Circular Flow (Closed Economy)
-Household Sector
-Business/Firm Sector
-Government Sector
4-Sector Model Circular Flow (Open Economy)
-Household Sector
-Business Sector
-Government Sector
-Foreign/External Sector
2-Sector Model Circular Flow
 2-Sector Model: Explanation
2-Sector model represents income & expenditure flow between
Household Sector & Business Sector.
 Household sector owns all the factors of production : Land, Labour,
Capital & Enterprises.
 Household receives factor incomes i.e. Rent, Wages, Interest & Profit
by selling the services to Business.
 Business sector produces output and sell it to household.
 In return, Business sector receives consumption expenditure from
household by the selling the products.
 Income is flowing from Business to Household and again it is coming
back to business in form of consumption expenditure.
Leakages & Injections
 One part of the national income is Consumed (C ) that is coming back to business sector &
one part is Saved (S) by household.
 Savings (S) are leakages in the flow as it is not coming back to business sector again.
Savings is a outflow in the economy.
 Household savings is coming to the capital Market (Banks) & Business firms obtain
investment (I) funds from the capital market.
 Investments (I) are injections in the flow as the fund is coming back to the Business sector.
Equilibrium Condition for 2-Sector Model Economy
Leakages = Injections
Savings (S) = Investment (I)
When the economy is equilibrium (S=I), the flow of income and expenditure is continuous.
Rs. 100 is coming from Business to Household in form of Income & in return Rs. 70 is
coming back to business in form of Consumption Expenditure (C) and Rs. 30 is coming back
in form of Investment (I) expenditure.
3-Sector Model Circular Flow (Closed Economy)
 3-Sector Model : Explanation
3 Sector model represents the flow of national income & expenditure
in between Household, Business & Govt.
 It is the addition of Govt. Sector in the 2-Sector Model
 Govt. collects taxes from Household as well as Business sector.
 In return Govt. expenditure in form of subsidies & Govt. purchases
from business sector is coming back to Business again.
 Similarly, In return Govt. expenditure in form of Social services
(Health, Education etc) & transfer payments (pension,
unemployment allowances, etc) coming back to Household.
 Taxes are leakages & Govt. Expenditures are injections.
Leakages & Injection: 3 Sector
Leakages: Savings (S) + Taxes (T)
Injection: Investment (I) + Govt. Expenditure (GE)

Equilibrium Condition for 3-Sector Model Economy

Leakages = Injection
Savings (S) + Taxes(T) = Investment (I) +Govt. Expenditure (GE)
4-Sector Model: Open Economy
 4-Sector Model
 Foreign sector addition to 3 sector model
 Both Household sector & Business sector imports goods from foreign
countries.
 We are paying for import. Our income is flowing out of the country.
So imports are leakages in the system.
 Household sector receives factor incomes (foreign remittance from
abroad) & Business sector receives payments for exports are
injection to the system. Export is an inflow of the income.
Leakages & Injections: 4 sector
Leakages: Savings (S) + Taxes (T) + Imports (M)
Injections: Investment (I) + Govt. Exp (GE) + Export (X)
Equilibrium Condition for 4-Sector Model
Leakages = Injections
Savings (S) + Taxes (T) + Imports (M) =Investment (I) + Govt. Exp (GE) + Export (X)
S +T+M = I + GE + X
C+S+T+M = C+I+GE+X
C+S+T= C+I+GE+X-M
Y = C+I+GE+X-M
Total Income= Total Expenditure
Importance of Circular flow of Income
 Measurement of National Income
 Knowledge of Interdependence - Circular flow of income signifies the
interdependence of each of activity upon one another.
 Effects of leakages & injections on economy
 Importance of Monetary Policy: To bring about the equality of saving and
investment in the economy.
 Importance of Fiscal Policy: To restore the disequilibrium in the economy by
adjusting Taxes & Expenditures
 Importance of Trade Policies: The circular flow points toward the importance
of adopting export promotion and import control policies
Impact of Leakages & Injections in the Economy
• When leakages increases, total expenditure
deceases, Aggregate demand decreases &
employment, output & income decreases.

• When injection increases, Aggregate demand

increases, employment, output & income increases.