Quick Revision

UNIT 01 — Nature & Scope of Macroeconomics

Core idea: Macroeconomics studies the behaviour of the economic system in totality — a study of aggregates (total employment, national income, general price level).

• Ackley: macro = aggregate output, employment, national income, general price level. Micro = division of output, allocation of resources, relative prices.
• Origin: Great Depression 1929–33 (US unemployment ≈ 25% of labour force). Classical Say's Law: supply creates its own demand. Keynes (1936) refuted it → Keynesian Revolution.
• Six issues: unemployment · recession & national income · inflation · business cycles · stagflation · economic growth. (+ balance of payments & exchange rate.)
• Paradoxes: paradox of thrift; wage-employment paradox; both are cases of the fallacy of composition. Boulding's forest-and-trees analogy.
• Role of government (3 levers): Fiscal (taxes & spending) · Monetary (money supply, credit, interest) · Supply-side (stimulate output, cure stagflation).
• Business decisions: business environment = GDP trends, aggregate demand, saving/investment, price level, employment, international factors, government policy.

UNIT 02 — Circular Flow of Income

Core idea: Money flows in a circle between households and firms, opposite in direction to the real flow of goods and resources.

• Leakages: Saving, Taxes, Imports. Injections: Investment, Government expenditure, Exports.
• Two-sector constancy condition: planned S = planned I. Classicals said interest rate equalises them; Keynes denied it (savers ≠ investors).
• Planned S and I can differ (cause of fluctuations); actual S ≡ actual I always (unsold output = inventory investment).
• G > T → budget deficit → government borrows → I < S → crowding out of private investment.
• National saving S = private saving (Y−T−C) + public saving (T−G).
• X = M → balance of trade; X > M → trade surplus; M > X → trade deficit.

UNIT 02 — National Income

Core idea: National product = national income = national expenditure (Hicks). Three views of the same total.

• Three methods: Value Added (output) · Income · Expenditure.
• Value-added chain: Value of output (= Sales + Δ Stocks) → GVA_MP (− intermediate consumption) → NVA_MP (− depreciation) → NVA_FC (− net indirect taxes).
• Only final goods counted → avoids double counting. Second-hand sales excluded, but brokerage on them included.
• Include imputed rent of self-occupied houses; exclude services of housewives.
• NEW (Net Economic Welfare): ADD leisure + non-marketed services; DEDUCT pollution + "regrettable costs" (police, law courts, defence).

UNIT 02 — Consumption, Saving & Investment

• Keynes' law: as income rises consumption rises, but less than income.
• In the linear Keynesian function: MPC constant, APC falls as Y rises → therefore MPC < APC always.
• As APC falls, APS rises with income.
• Diagram: 45° line OZ. Below break-even income, C > Y → dissaving. At OY₀, C = Y. Beyond, the widening gap = saving.
• MPC = 0 → horizontal C curve; MPC = 1 → C curve coincides with 45° line. Neither is realistic.
• Investment depends on rate of interest + marginal efficiency of capital (MEC); inverse relation with r.

UNIT 02 — AD-AS and IS-LM

• AD components: C + I + G + NX. AD slopes down because of three effects: wealth (real balance) · interest rate · net exports.
• AS shapes: Classical = vertical at full employment · Keynes = horizontal then vertical · SAS = upward-sloping (sticky wages) · LAS = vertical at potential GDP.
• With upward-sloping SAS, the multiplier effect on real GDP is smaller than with a fixed price level. Steeper SAS → bigger price rise, smaller multiplier.

• IS = goods market, slopes down (r ↓ → I ↑ → Y ↑). Shifts right with ↑G, ↑autonomous I, ↓T.
• LM = money market, slopes up (Y ↑ → transactions demand ↑ → r ↑). M^d = L(Y, r). Shifts right with ↑ real money supply.
• Intersection determines Y and r simultaneously. Model due to Hicks (also Hansen, Lerner, Johnson).
• Fiscal expansion → IS right → Y ↑ and r ↑ → partial crowding out. Monetary expansion → LM right → r ↓, Y ↑.
• LM ranges: horizontal Keynesian/liquidity-trap range (monetary policy ineffective, fiscal fully effective) · intermediate · vertical classical range (monetary effective, fiscal crowded out).

UNIT 03 — Business Cycle

Core idea: Alternating periods of expansion and contraction around the long-run growth trend. Recurrent, but not perfectly regular (2 to 10–12 years).

• 1. Expansion / Prosperity — output & employment rise to full employment; only frictional & structural unemployment; potential − actual GNP gap = zero; prices rise.
• 2. Peak — upper turning point. Monetarists: contraction of bank credit. Keynes: collapse of marginal efficiency of capital.
• 3. Contraction / Depression — GNP & employment fall, involuntary unemployment, prices fall, rate of interest falls, large excess capacity. Capital & durable goods industries hit hardest.
• 4. Trough & Revival — lowest activity; capital depreciates without replacement; new technology + credit expansion trigger revival. Recovery = turning point from depression into expansion.

• Keynes: volatile private investment via marginal efficiency of capital.
• Multiplier × Accelerator interaction. Multiplier: ΔI → magnified ΔY. Accelerator: ΔY → induced ΔI.
• Monetarists (Friedman): changes in money supply; the Great Depression was caused by tight money policy — a failure of government, not the market.

UNIT 03 — Fiscal & Monetary Policy

Goals of macro policy: (1) economic stability at high output & employment (2) price stability (3) economic growth.

• Recession → expansionary → deficit budget (↑G and/or ↓T). Inflation → contractionary → surplus budget (↓G and/or ↑T).
• ↑G works directly (incomes of suppliers/workers) and indirectly via the multiplier. Size of required increase depends on the GNP gap and the multiplier (which depends on MPC).
• Automatic / built-in stabilisers (non-discretionary): progressive personal income taxes · corporate income taxes · transfer payments (unemployment compensation, welfare) · stable corporate dividend policy.
• Limitation: automatic stabilisers reduced US income fluctuations by only about one-third — discretionary policy still needed.
• Crowding out: deficit → borrowing → ↑ interest rate → ↓ private investment → smaller net effect.

• Expansionary (easy money) to cure recession: ① buy securities in open market ② lower bank rate ③ lower CRR (and SLR).
• Tight money to control inflation: raise interest rate, reduce credit, raise CRR, sell government securities. Plus selective credit controls.
• CRR = cash reserves with central bank. SLR = specified liquid assets (e.g. govt securities).
• Keynes' scepticism: in depression money demand is highly interest-elastic (liquidity trap) and investment demand is not much interest-elastic → monetary policy weak, so he favoured fiscal policy.
• Monetarists: favour a constant, stable growth rate of money supply over discretionary action.

UNIT 03 — Inflation

Core idea: A persistent rise in the general price level = a continuous fall in the value of money (Ackley, Crowther, Pigou).

• Types: creeping → walking → running → galloping/hyper (≥ 50% a month) · demand-pull · cost-push · stagflation · peace-time · war & post-war.
• Demand-pull (AD → right): money supply, deficit financing, credit, exports, debt repayment, black money, population. Keynes' inflationary gap; Friedman: money supply.
• Cost-push (AS → left, output falls = stagflation): wages, oil, farm prices, import prices (depreciation), profit margins, scarcity.
• Effects: creditors & fixed-income lose; debtors & businessmen gain; savings → gold/real estate; BoP worsens; poor hit hardest.
• Control: monetary (↑repo, ↑CRR/SLR, sell securities, selective controls) · fiscal (↓G, ↑T, ↓deficit) · direct (price control, PDS rationing, wage freeze) · supply (imports, buffer stocks) · indexation.
• LDCs (structuralists): agricultural, resource-gap, forex and infrastructure bottlenecks; deficit-financed development; high MPC; weak tools.
• Deflation = prices fall · disinflation = inflation rate falls · reflation = deliberate mild inflation to exit deflation.

UNIT 03 — Phillips Curve & NAIRU

Core idea: A. W. Phillips (1958, UK 1861–1957): inflation and unemployment are inversely related in the short run; in the long run there is no trade-off.

• Axes: unemployment on X, inflation on Y; curve slopes down (10% ↔ 3%, 5% ↔ 8%).
• Why: near full employment wages rise → prices rise → wage–price spiral; Keynesian rising AD with upward AS.
• Policy dilemma: cut unemployment ⇒ more inflation, and vice versa.
• 1970s stagflation (oil shocks) — the curve shifted out.
• Friedman: natural rate (frictional + structural); adaptive expectations shift SPC up; LPC vertical at NAIRU. Rational expectations: vertical even in short run.

UNIT 04 — Central Bank & Credit Control

Core idea: The apex monetary institution, run in the public interest, not for profit (DeKock). RBI: est. 1 April 1935, nationalised 1 January 1949.

• Functions: note issue (minimum reserve system) · banker, agent & adviser to govt · bankers' bank (custodian of reserves) · lender of last resort · clearing house · credit control · forex custodian & exchange-rate manager · promoter of development.
• Objectives: internal price stability · exchange-rate stability · protect gold/forex · control cycles · meet business needs · growth with stability. Today: 4% CPI target (2–6%), MPC.
• Quantitative: bank rate/repo (↑ to contract) · OMO (sell to contract, buy to expand) · CRR · SLR.
• Qualitative: margin requirements · loan ceilings · discriminatory rates · moral suasion · priority sectors. Effective only with general controls.
• Development role: savings (positive real rate, branches), credit for investment, SLR → public investment, allocation, institutions, inclusion, digital payments, green credit.

UNIT 04 — Money: Supply, Demand, Liquidity Trap

Core idea: "Money is what money does" — a medium, a measure, a standard, a store. Money supply is the stock held by the public.

• Credit creation: ₹1,00,000 at 20% CRR → ₹5,00,000 deposits, ₹4,00,000 created. Limits: cash, cash-holding habit, CRR, deposits, assets.
• Keynes' motives: transactions & precautionary (income) + speculative (interest; bond prices move inversely).
• Liquidity trap: LP flat at very low r → extra money held idle → r can't fall → investment unmoved → monetary policy fails; use fiscal policy. Japan 1990s.

UNIT 05 — Government and Private Business

Core idea: The free market fails to maximise welfare, so the government intervenes — least under capitalism, most under socialism, in between in a mixed economy.

• Eight market shortcomings: inoptimal distribution · inoptimal allocation · no perfect competition · individuals not best judges · profit sole motive · public utilities neglected · monopolies · externalities.
• Systems: capitalist (corrective; Smith's 4, Meade's 8 functions) · socialist (all-pervasive, central planning) · mixed (private + public; regulatory + promotional).
• Regulation is two-sided: minimum wage, dear money, taxes can hurt; but they sustain demand, stabilise, and keep markets competitive.
• Promotional role: economic overheads (transport, power, irrigation) + social overheads (education, health) → external economies.
• Budget constraint: G − T = ΔB + ΔM — borrowing crowds out; printing risks inflation (inflation tax); FRBM 2003: 3% of GDP.

UNIT 05 — Industrial Policy & CSR

Core idea: Industrial policy decides the ownership and pattern of industrial growth; CSR asks business to serve society, not profit alone.

• 1948 — mixed economy; 4 categories (central monopoly · basic & key · regulated · residual).
• 1956 — Schedule A (17) · B (12) · residual; licensing; small industry.
• 1970 curb big houses (Dutt) · 1973 joint sector · 1977 small & cottage · 1980 early liberalisation.
• NIP 24 July 1991 — forex crisis; 9/17 de-reserved; disinvestment; licensing abolished (except security, safety, environment); MRTP controls removed; 51% FDI automatic.

• Koontz · Bowen; responsibilities to shareholders, employees, consumers, government, society.
• For: give & take, better society, less state intervention. Against: Friedman, cost, competitiveness, no accountability.
• Section 135, Companies Act 2013: ₹500 cr net worth / ₹1,000 cr turnover / ₹5 cr profit → 2% of 3-year average net profit.