INSTRUCTIONAL MATERIAL FOR ECON 30023 MACROECONOMICS

Polytechnic University of the Philippines

College of Social Sciences and Development
Department of Economics

INSTRUCTIONAL MATERIAL
FOR ECON 30023
MACROECONOMICS

CHAPTER 1
COMPILED BY

NORIE L. MANIEGO
AILEEN L. CAMBA

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 INSTRUCTIONAL MATERIAL FOR ECON 30023 MACROECONOMICS

Course Overview

This course, Macroeconomics, will provide an overview of macroeconomic issues: the

determination of income and output, employment, interest rates, and inflation. Monetary and
fiscal policies are discussed including public and international economic issues. It introduces
basic models of macroeconomics and illustrates principles based on the experience of the
Philippines and other economies.

This, Instructional Material, is divided into eight (8) parts. The first two (2) chapters focus
on the basic concepts about economics and the overview of macroeconomics. National income
and output will be discussed in Chapter 3 while monetary and fiscal policies will be discussed in
Chapter 4 and Chapter 5, respectively. The last three (3) chapters will focus on the theories of
growth and development; unemployment and inflation and international trade, exchange rate and
balance of payments.

Course Outcomes

At the end of this course, students are expected to;

1. Employ the tools of economic thinking in explaining macroeconomic phenomena and in

evaluating the relative effectiveness of fiscal and monetary policies;
2. Discuss the relevance of economic analysis to real-world economic problems;
3. Apply enduring macroeconomic principles in their personal lives to contribute in making
this world a better place for them, their families, and their communities.

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 INSTRUCTIONAL MATERIAL FOR ECON 30023 MACROECONOMICS

CHAPTER 1

BASIC CONCEPTS

Learning Outcomes: At the end of this chapter students are expected to:

1. Define the fundamentals of economics

2. Explain demand and supply concepts
3. Apply the tools of economic analysis to a range of issues
1.1 Nature of Economics
⚫ A study of how individuals and society generally make choices that involve the use of
scarce resources from among the alternative wants that need to be satisfied.
⚫ Resources include inputs such as labor, capital, land, and the entrepreneur.
1. Land includes all of the natural resources, such as mineral deposits, water resources,
wild animals and trees from the forest. Payments for the use of land are called rents.
2. Labor refers to the physical and mental exertions of man to produce goods and
services. Wages is a general term used as payments for the use of labor.
3. Capital includes man –made resources used to produce other goods. These include
all types of structures used in the process of production such as buildings, equipment,
and machineries, land improvements such as the site of Mall of Asia and PICC and
rest of building along Roxas Boulevard. Interest is the payment for the use of capital.
4. Entrepreneurs are people who combine land, labor, and capital to produce goods and
services. They are the ones who assume the risks in the quest for profits.
Entrepreneurs are also the managers, the supervisors, or the innovators. They are
also the risk-bearers.

⚫ Choice entails sacrifices. The more government budget allotted for travels of government
officials abroad, the fewer socialized houses that will be constructed for the poor. In other
words, a choice involves a sacrifice of its alternative uses which is also known as trade-
offs or opportunity cost.

1.2. Economic Methodology

Like other social sciences and physical and life sciences, economics make use of other
scientific methods which consists of different step by step elements mentioned below:

There are specific steps that must be followed when using the scientific method.
Economics follows these steps in order to study data and build principles:

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 INSTRUCTIONAL MATERIAL FOR ECON 30023 MACROECONOMICS

1. Identify the problem - in the case of economics, this first step of the scientific method
involves determining the focus or intent of the work. What is the economist studying? What
is he trying to prove or show through his work?
2. Gather data - economics involves extensive amounts of data. For this reason, it is
important that economists can break down and study complex information. The second
step of the scientific method involves selecting the data that will be used in the study.
3. Hypothesis - the third step of the scientific method involves creating a model that will be
used to make sense of all of the data. A hypothesis is simply a prediction. What does the
economist think of what the overall outcome of the study will be?
4. Test the hypothesis - the fourth step of the scientific method involves testing the
hypothesis to determine if it is true. This is a critical stage within the scientific method. The
observations must be tested to make sure they are unbiased and reproducible. In
economics, extensive testing and observation is required because the outcome must be
obtained more than once in order for it to be valid. It is not unusual for testing to take some
time and for economists to make adjustments throughout the testing process.
5. Analyze the results - the final step of the scientific method is to analyze the results. First,
an economist will ask himself if the data agrees with the hypothesis. If the answer is "yes,"
then the hypothesis was accurate. If the answer is "no," then the economist must go back
to the original hypothesis and adjust the study accordingly. A negative result does not
mean that the study is over. It simply means that more work and analysis is required.

The continuous testing of hypothesis against facts would accumulate favorable results that
would evolve the hypothesis into a theory or an economic theory. A very well tested and widely
accepted theory is called an economic law or principle. Combinations of such laws or principles
would become an economic model which is defined as the simplified representation of how
something works or behaves.

Relationships between facts, theories, and policies in economics

Being a science, economics uses scientific methods in gathering data, analyzing data and
making conclusions. Descriptive economics involves compiling data or gathering of data relevant
to a particular problem. Data may come from primary or secondary sources. Primary data is what
one collects by himself using direct observation, surveys, and interviews. Secondary data is

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collected from external sources such TV, radio, internet, magazine, newspapers, research articles
and stories told by people whom one knows.

The facts are then studied, arranged and generalized upon to come up with an economic
theory.
An economic theory is a generalization based on a variety of facts about why or how an economic
event occurs. Theory is a generalization because it explains how economic variables generally
behave when certain conditions exist. For example, an economic theory would be “if the price of
something goes up, people will buy less of it.”

Economic theories or principles are useful because they explain certain economic
behavior or conditions. These are helpful in solving economic problems or serve as guide in
economic planning and formulating economic programs. Theories or principles of economics are
represented by models in the form of verbal statements, graphs, numerical tables, or
mathematical equations.

An economic theory or principle which is put into action becomes an economic policy or
applied economics. Economics policies are typically implemented and administered by the
government. Examples of economics policies include decisions made about government
spending and taxation, about the redistribution of income from rich to poor, and about the supply
of money.

Normative versus Positive Economics

The effectiveness of economic policies can be assessed in one of two ways, known as
positive and normative economics.

Positive Economics

Positive economics is a branch of economics that focuses on the description and

explanation of phenomena, as well as their casual relationships. It focuses primarily on facts and
cause-and-effect behavioral relationships, including developing and testing economic theories.
As a science, positive economics focuses on analyzing economic behavior. It avoids economic
value judgments. For example, positive economic theory would describe how money supply
growth impacts inflation, but it does not provide any guidance on what policy should be followed.
"The unemployment rate in France is higher than that in the United States" is a positive economic
statement. It gives an overview of an economic situation without providing any guidance for
necessary actions to address the issue.

Normative Economics

Normative economics is a branch of economics that expresses value or normative

judgments about economic fairness. It focuses on what the outcome of the economy or goals of
public policy should be. Many normative judgments are conditional. They are given up if facts or
knowledge of facts change. In this instance, a change in values is seen as being purely scientific.
Welfare economist Amartya Sen explained that basic (normative) judgments rely on knowledge
of facts.

Example

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 INSTRUCTIONAL MATERIAL FOR ECON 30023 MACROECONOMICS

• The price of rice should be increased to improve the well-being of farmers (normative)
• After a good harvest, the price of rice will fall. But after a bad harvest, the price of rice
will increase(positive)

1.3. Circular Flow of Economic Activity

The circular flow model shows the interaction among consumers and producers as they
exchange goods and services in the product market (upper loop) and the exchange of factors of
production in the resource market (lower loop).
Figure above show that there are two groups of people interacting in an industry, the
FIRMS and HOUSEHOLDS. The FIRM produces goods and services which are provided to
HOUSHOLDS as shown by the arrow in the diagram.

On the other hand, FIRMS cannot produce the output without the inputs (land, labor,
capital, and the entrepreneur) owned by the HOUSEHOLDS. These inputs will be combined to
produce the output hence; corresponding money comes out from the FIRMS in the form of rent,
wages, interest, and normal profit. The money that comes out from the FIRMS is called cost,
and this money when received by the HOUSEHOLDS is called income payment.

The interaction of the FIRMS and HOUSEHOLDS in the upper loop is done in the product
market where producer is the supplier and consumer the demander.

Looking at the lower loop, FIRMS and HOUSEHOLDS has a reverse function, the
producer becomes the demander of the factors of production and consumers become the supplier
in the factor market.

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 INSTRUCTIONAL MATERIAL FOR ECON 30023 MACROECONOMICS

1.4. Demand and Supply Analysis

DEMAND

❖ Demand indicates how much of a good that consumers are willing and able to buy at
each possible price during a given time period, other things constant. Buyer wants a low
price rather than a high price, given all other things constant or equal.

Law of Demand
❖ Says that quantity demanded varies inversely with price, other things constant
❖ The higher the price, the smaller the quantity demanded
❖ The lower the price, the larger the quantity demanded

Demand which shows the inverse relations between price and the quantity can be
illustrated by a demand schedule and a demand curve.

Notice that the demand curve is downward sloping which reflects an inverse
relation between quantity demanded and price. At point a, the quantity demanded is 8
units and the price is at P15.00 and as price goes down to P12.00 at point b, quantity
demanded increases from 8 to 14 units.

Other Determinants of Demand

The demand curve reflects the relationship between price and quantity purchased of a
given commodity; but price of a product is not the only variable or factor that can influence the

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consumer’s willingness to buy a certain product. Other non-price determinants of demand or the
other factors that may affect demand are as follows:

1. Income – direct relation for normal goods but if the product is an inferior good, then,
its relationship to demand is inversely related. Products for which demand is directly
related to income are called normal goods. As the income rises, the demand for
normal goods will also increase. On the other hand, there are products for which
demand rises as income or budget declines. We call these goods inferior goods.
Dried fish (tuyo) and sardines, eggs, and noodles are products whose demand
increases when income of buyers declines.
2. Tastes and preferences – direct relation. If one’s taste is in favor of the product, the
higher will be the demand.

3. Prices of related goods and services – for substitute goods like rice and bread, relation
is direct but inverse for complementary goods like bread and butter.

4. Buyer's expectations about future prices – direct relation to demand. If price is expected
to increase, people tend to panic buy, hence increases demand.

5. Number of Buyers – direct relation to demand. The more the number of buyers the
higher the demand, hence higher quantity demanded.

SUPPLY
❖ Supply refers to the relation between the price and quantity supplied as reflected by the
supply schedule or the supply curve
❖ Quantity supplied refers to a particular amount offered for sale at a particular price,
indicated by a particular point on a given supply curve

The law of supply demonstrates the quantities that will be sold at a certain price. But unlike
the law of demand, the supply relationship shows an upward slope. This means that the higher
the price, the higher the quantity supplied. Producers supply more at a higher price because
selling a higher quantity at higher price increases revenue.

Supply Schedule and Supply Curve:

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 INSTRUCTIONAL MATERIAL FOR ECON 30023 MACROECONOMICS

The illustration above shows that if the price is P 9.00, sellers would sell 20 units,
and if the price increases to P12.00, Qs increases to 24 units and so on.

Other Determinants of Supply

Aside from the price of the product there are non-price factors that determine or affect
the supply of a product.
1. Production costs - inverse relation to supply. Higher production cost discourages
sellers, hence, a decrease in supply.
2. The technology used in production - direct relation to supply. An improved technology
encourages the producer, hence, an increase in supply.
3. The price of related goods or price of competing products – inverse. For farmers, rice
and corn are competing products; if the price of palay increases farmers will plant rice
rather than corn, its competing product, to take advantage of the higher price of palay.
4. Changes in Producer Expectations- When a good can be easily stored, expecting
future prices to be higher may reduce current supply. More generally, any change
expected to affect future profitability could shift the supply curve.
5. Number of suppliers – Since market supply sums up the amounts supplied at each
price by all producers, the market supply depends on the number of producers in the
market
1. If that number increases, supply increases
2. If the number of producers decreases, supply decreases

1.5. Equilibrium in the Market

❖ When the quantity consumers are willing and able to pay equals the quantity producers
are willing and able to sell, the market reaches equilibrium

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 INSTRUCTIONAL MATERIAL FOR ECON 30023 MACROECONOMICS

The intersection of the demand curve D and supply curve S at point c indicates
that the equilibrium price is P9.0 and equilibrium quantity is 20 units.

A surplus is the excess of the quantity supplied over quantity demanded. Example,
at P12, the buyers would be willing to purchase 14 units, but producers would have
produced and offered 24 units. The difference brings a surplus of 10 units. The surplus
would push down prices as sellers would compete to enable them to sell their product,
and in so doing, reduce quantity supplied and increase quantity demanded until
equilibrium is achieved.

When the quantity demanded is higher than quantity supplied, there is a shortage
of the product. At price P6, buyers demand 26 units but producers are willing to sell only
16 units, hence a shortage of 10 units.

The shortage in the market is due to lower price and would drive prices up as
buyers would compete among themselves to get hold of the available product and in so
doing, may increase Qs and decrease Qd until equilibrium is achieved at P =9.0 and
quantity 20 units in which QS = Qd

1.6. Changes in Equilibrium

❖ Once a market reaches equilibrium, that price and quantity will prevail until one of the
determinants of demand or supply changes
❖ A change in any one of these determinants will usually change equilibrium price and
quantity in a predictable way

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Shifts of the Demand Curve

❖ Given an downward-sloping demand curve, an increase in demand leads to a rightward

shift of the demand curve, increasing both the equilibrium price and quantity
❖ Alternatively, a decrease in demand leads to a leftward shift of the demand curve,
reducing both the equilibrium price and quantity
Shifts of the Supply Curve

❖ An increase in supply: a rightward shift of the supply curve reduces equilibrium price but
increases equilibrium quantity
❖ A decrease in supply: a leftward shift of the supply curve increases equilibrium price but
decreases equilibrium quantity
❖ Given a downward-sloping demand curve, a rightward shift of the supply curve
decreases price, but increases quantity
❖ A leftward shift increases price, but decreases quantity

Simultaneous Shifts in Demand and Supply

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Effects of the Simultaneous Change Between Demand and Supply

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EXERCISES AND ASSESSMENT

1. Identification:

Inferior Goods
__________1. A good or service whose consumption declines as income rises (and conversely),
price remaining constant.
Law of Demand The principle that, other things equal, an increase in the product price will reduce
__________2.
the quantity demanded, and conversely for a decrease in price.
Equilibrium
__________3. The amount by which the quantity supplied of a product exceeds the quantity
demanded at a specific price.
Market of Goods
__________4
and Sevices A market in which products are sold by firms and bought by households.
Change in Demand
__________5. A shift in the demand curve to the right or to the left because of the non-price
determinants of demand is called_______.
Surplus
__________6. It occurs when the market price is above the equilibrium price.
Law of Demand
__________7. It states the inverse relationship between price and quantity demanded.
Complementary
__________8. goods Products and services that are used together; when the price of one fall, the
demand for the other increases.
Equilibrium
_________9. Price The price in a competitive market at which the quantity demanded and the quantity
supplied are equal, there is neither a shortage nor a surplus, and there is no tendency for price to
rise or fall.
Law of Supply
_________10. Refers to the relation between the price and quantity supplied as reflected by the
supply schedule or the supply curve

2. Discuss the relationships of facts, theories and policies in economics. Explain this by giving
an example.

3. Show graphically the effects of the following on the equilibrium price and quantity
b. Increase in demand and increase in supply
c. Decrease in demand and decrease in supply
d. Increase in demand and decrease in supply
e. Decrease in demand and increase in supply

4.Differentiate the product market from the resource market.

5. Discuss positive and normative statements. Give 5 examples for each.

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COURSE GRADING SYSTEM

Class Standing (portfolio/e-portfolio, projects, case analysis,

quizzes, summative test (long or unit test) 70%

Midterm / Final Examinations 30%

100%

Midterm Grade + Final Term Grade = FINAL GRADE

REFERENCES

Books
Dornbusch, Rudiger, Fischer, Stanley & Startz, Richard (2010), Macroeconomics, 11th ed.,
McGraw-Hill/Irwin

McConnel, Campbell and Brue, Stanley (2014), Macroeconomics: Principles, Problems and
Policies, 20th ed. McGraw Hill

Sexton, Robert L.(2012), Exploration of Macroeconomics, 6th ed., Cengage Learning Asia Pte
Ltd, 1st Phil. Reprint.

Websites

www.bsp.gov.ph
www.un.org
www.neda.gov.ph
https://faculty.washington.edu/danby/notes/notes12.html
https://www.sparknotes.com/economics/macro/aggregatedemand/section2/
www.slideshare.net demand-and-supply analysis
https://www.economicsdiscussion.net/money/top-5-theories-of-demand-for-money

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