Macroeconomics – Session 1 and 2 Handout

Slide 1

Welcome to Economics
Sessions I&II

September 2020
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The components of company’s external

environment

P – Political
E – Economic
S – Social
T – Technological
E – Environmental The PESTEL analysis
L – Legal
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The Circular-Flow: Micro-Macro linkages

Government purchases of
goods and services Government borrowing
Government

Consumer Government
spending Taxes Private savings
transfers

Households

Wages, profit,
interest, rent

Factor Markets Financial Markets

(land, labour, capital)

Wages, profit,
interest, rent

Borrowing and stock

Investment Firms issues by firms

Exports Foreign borrowing

and sales of stock
Rest of the world
Imports Foreign lending and
purchases of stock
Slide 4

Microeconomics - Partial, specific, focused study of markets

– Individual markets/types of market structures
– Prices determination – prices allocate scarce resources (limited
resources, unlimited wants) – the fundamental problem of the
economy

Macroeconomics - Big-picture, concerned with how the overall

economy works.
– Employment, gross domestic product, inflation
– Influences business decisions and outcome
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The Framework
Key variables Economic Outcomes
GDP growth Growth Long term (cutting edge,
Employment catch-up), Business Cycles
Prices and inflation Inflation
Exchange Rate Balance of payments
Interest Rate (trade and finance)
Key Principles
Big Ideas

Factors of production Economic Policies

Capital Supply-side policies
Labour Fiscal policy
Land Monetary Policy
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Resources

Textbook – Modern Principles of Economics, Tyler Cowen and Alex

Tabarrok

Classes will not exactly follow the textbook.

The textbook is useful for the theory part.
Import to read other reading materials.

Excel Lab – Play with Macro data

Newspaper – Mint – Livemint.com

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Evaluation components

Evaluation Components Weight

Mid-term (individual) 30

Economic survey graphs, income-

15
inflation survey - Group

Country project - Group 15

End Term (individual) 40

Total 100
Slide 8

Sessions 1 & 2 Key ideas in Economics

Thinking like an economist!

• Incentives matter
• Opportunity cost and trade-off rule
• Decisions are made at margins
• Institutions count
• Markets work
Slide 9

Glass factories in former USSR

• The compensation based on the tonnes of glass made
– The outcome?

• Change in the rule: the compensation based on the

length of glass made
– The outcome?
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Inc e ntive s ma tte r

• Rewards and punishment

• Gains and losses

• People respond to incentives in predictable ways – makes it

easier to foresee an outcome and formulate policies

• Sometimes micro and macro conflict in incentives – the game

of cricket
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Train Platform tickets prices were doubled

Aim e d a t
1) Lo w e ring c ro w d s
2) Ra isin g re ve nue

Bo th d id n o t se e m to
ha p p e n to th e e xte nt
e xp e c te d .

Wha t w a s ha p p e n in g ?
Slide 12

Why hair transplant have become more common?

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Wh a t in c e n tive s le d to a c h a n g e in th is d e sig n ?
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Pre -vie wing vide o – a n e xa m p le o f a fu e l e ffic ie n t c a r?

Wh a t a b o u t th e e m issio n s sc a n d a l?

Should we have ever stricter emission

standards?
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You find a pair of shoes online for Rs, 1500. Your friend next door also
stumbles upon the same pair of shoes at the same time on the same
website. He is being shown a price of Rs 1000. Should explicit price
discrimination be allowed?

a) Yes
b) No
Slide 18

Which one of the following measures will be more effective control the
spread of COVID-19? Assume that both can be implemented effectively.

a) A monetary penalty each time to venture out of the apartment complex

b) A monetary reward to wear a mask
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What are the examples given in the video?

Slide 21

IBM coders were initially

paid at the piece rate…

Then moved to the hourly

wage

Why?
In which industries piece
rate will work well?

Homework
Slide 22

Homework

Sales teams – should their compensation be

based on commission or fixed pay? Absolute
or relative?
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Good incentive-compatible policy design is as

important as good policy intent
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“The single biggest threat

to man's continued
dominance on the planet is
the virus.”

Joshua Lederberg, Nobel

laureate, Film introduction:
"Outbreak" (1995)
Slide 25

An invisible enemy. A low probability, but a high cost event with

unknown timing, would have required billions of dollars

2nd key idea in economics - Trade offs/Opportunity cost

– What you must give up in order to get something else.

Understanding the concept of opportunity cost and trade offs

allow us to make better decisions
Slide 26

Which is India’s largest export group?

a) Gems & jewelry, metals

b) Textiles
c) Petroleum products
d) Pharmaceuticals
Slide 27

You go to a movie. You have paid a hefty

price of Rs 1000. After the first 30
minutes, you are convinced that it was a
really bad choice. What would you do?

a. You tell yourself, let’s see what

happens till the interval
b. You tell yourself, anyway money is
gone. Let’s just sit through.
c. You leave the theater.
Slide 28

Have you overeaten at all-you-

can eat buffet?
Slide 29

Both escalator and elevator have broken

down in a shopping mall. Given the
budget available for repairs, only one
can be repaired immediately. Which one
would you repair first?

a) Escalator
b) Elevator
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Nestle Maggie ban

What if this wasn’t a food product, but a medicine/drug?
What is the trade-offs involved?
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2. Opportunity cost and trade-offs

• What you must give up in order to get something

else/value of the opportunity lost

• You make a trade-off when you compare the costs with

the benefits of doing something.

• Understanding the concept of opportunity cost and trade

offs allow us to make best decisions
Slide 34

Why do superstars earn more than top nurses?

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3. How much is a decision at the margin

• Making trade-offs at the margin: comparing the costs

and benefits of doing a little bit more of an activity
versus doing a little bit less – how much?

• The study of such decisions is known as marginal

analysis.
Slide 36

The water-diamond paradox

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Why should we use Marginal Cost of Lending and not average?

Slide 39

4. Equitable development requires well-functioning

institutions

– Property rights

– Corruption-free government

– An effective legal system

– Political stability
Slide 40

Why do we see such signs

Frequently on empty land?
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Why is refrigerator ownership in India lower than TV ownership?

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What is the most powerful idea in economics?

The Invisible hand – Adam Smith

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5. Markets work
• What to produce, how to produce and for whom to produce?

• Economic problem – limited resources, unlimited wants

• Power of markets - to deploy limited resources in most

productive ways

• Competition is the regulator – check on self-interest and

restrains the monopoly power
Slide 47

Magic of markets

• How many young people in Japan or the US do you think have traded with
entrepreneurs from Talegaon, near Pune?

• Which is this market?

Slide 48

Gre a t c o m pa nie s tha t a re no lo ng e r the le a de rs

• Pan Am
• Kodak
• Xerox
• Sony

• Many of them could not keep up with changing

consumer preferences and technology

Well-functioning markets make poor men rich and

rich men poor.
Slide 49

6. Government can improve welfare

• Why do markets fail?

• Individual actions at times have side effects not taken into

account by the market (externalities).

• One party prevents mutually beneficial trades from occurring in

the attempt to capture a greater share of resources for itself.

• Some goods cannot be efficiently managed by markets.

Slide 50

Inspect your data carefully..not only statistics

The Big Bang Theory (2010)

What caused the heart attack?

Slide 51

Pareidolia

the common human practice of looking at random outcomes but trying to

impose patterns on them
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Anscombe's Quartet (1973) is a set of four datasets, where each produces

the same summary statistics (mean, standard deviation, and correlation),
which could lead one to believe the datasets are quite similar.
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Middle income decline? – interpret data carefully!

http://www.aei.org/publication/blog/carpe-diem/
Slide 55

Key takeaways
• Business decisions are more effective if there is better
understanding of microeconomics

• Economics and finance/markets are closely linked.

• Basic principals – in economics and business

– Incentives matter
– Opportunity cost rules
– Decisions at margin
– Markets work, by and large
– Institutions count