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Macroeconomic Theory andPolicy
Preliminary Draft 
David AndolfattoSimon Fraser University
dandolfa@sfu.ca
c
°
August 2005
 
ii
 
Contents
Preface ix
I Macroeconomic Theory: Basics 1
1 The Gross Domestic Product 3
1.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31.2 How GDP is Calculated . . . . . . . . . . . . . . . . . . . . . . . 51.2.1 The Income Approach . . . . . . . . . . . . . . . . . . . . 51.2.2 The Expenditure Approach . . . . . . . . . . . . . . . . . 61.2.3 The Income-Expenditure Identity . . . . . . . . . . . . . . 71.3 What GDP Does Not Measure . . . . . . . . . . . . . . . . . . . 81.4 Nominal versus Real GDP . . . . . . . . . . . . . . . . . . . . . . 91.5 Real GDP Across Time . . . . . . . . . . . . . . . . . . . . . . . 121.6 Schools of Thought . . . . . . . . . . . . . . . . . . . . . . . . . . 141.7 Problems . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 161.8 References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 171.A Measured GDP: Some Caveats . . . . . . . . . . . . . . . . . . . 18
2 Basic Neoclassical Theory 21
2.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 212.2 The Basic Model . . . . . . . . . . . . . . . . . . . . . . . . . . . 222.2.1 The Household Sector . . . . . . . . . . . . . . . . . . . . 232.2.2 The Business Sector . . . . . . . . . . . . . . . . . . . . . 302.2.3 General Equilibrium . . . . . . . . . . . . . . . . . . . . . 312.3 Real Business Cycles . . . . . . . . . . . . . . . . . . . . . . . . . 352.3.1 The Wage Composition Bias . . . . . . . . . . . . . . . . 382.4 Policy Implications . . . . . . . . . . . . . . . . . . . . . . . . . . 392.5 Uncertainty and Rational Expectations . . . . . . . . . . . . . . . 412.6 Animal Spirits . . . . . . . . . . . . . . . . . . . . . . . . . . . . 422.6.1 Irrational Expectations . . . . . . . . . . . . . . . . . . . 432.6.2 Self-Ful
fi
lling Prophesies . . . . . . . . . . . . . . . . . . . 442.7 Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 472.8 Problems . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 49iii
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