Instructor’s Manual for
Microeconomics 6th Edition Global Edition By Dr. LaTanya Brown-Robertson Bowie State University
CONTENTS CHAPTER 1
A Tour of the World
1
CHAPTER 2
A Tour of the Book
7
CHAPTER 3
The Goods Market
12
CHAPTER 4
Financial Markets
17
CHAPTER 5
Goods and Financial Markets: The IS-LM Model
23
CHAPTER 6
The Labor Market
29
CHAPTER 7
Putting All Markets Together: The AS-AD Model
34
CHAPTER 8
The Phillips Curve, the Natural Rate of Unemployment, and Inflation
43
CHAPTER 9
The Crisis
47
CHAPTER 10 The Facts of Growth
55
CHAPTER 11 Saving, Capital Accumulation, and Output
59
CHAPTER 12 Technological Progress and Growth
64
CHAPTER 13 Technological Progress: The Short, the Medium, and the Long Run
68
CHAPTER 14 Expectations: The Basic Tools
72
CHAPTER 15 Financial Markets and Expectations
77
CHAPTER 16 Expectations, Consumption, and Investment
82
CHAPTER 17 Expectations, Output, and Policy
87
CHAPTER 18 Openness in Goods and Financial Markets
90
CHAPTER 19 The Goods Market in an Open Economy
95
CHAPTER 20 Output, the Interest Rate, and the Exchange Rate
101
CHAPTER 21 Exchange Rate Regimes
107
CHAPTER 22 Should Policymakers Be Restrained?
113
CHAPTER 23 Fiscal Policy: A Summing Up
117
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CHAPTER 24 Monetary Policy: A Summing Up
121
CHAPTER 25 Epilogue: The Story of Macroeconomics
125
Answers to End-of-Chapter Problems
129
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CHAPTER 1 A TOUR OF THE WORLD I.
MOTIVATING QUESTION
What is macroeconomics? The chapter does not provide an explicit or formal answer. Instead, it begins with an overview of the macroeconomic crisis then moves to describe the issues of concern to macroeconomists who study the United States, Europe, and China. A working definition of macroeconomics at this point is the study of output, unemployment, and inflation, terms that will be defined precisely in Chapter 2.
II. WHY THE ANSWER MATTERS This chapter attempts to provide students an incentive to master the theoretical material that follows in the remainder of the text. The implicit promise is that the theoretical model developed in the text will allow students to make sense of the macroeconomic crisis which has impacted countries around the world.
III. KEY TOOLS, CONCEPTS, AND ASSUMPTIONS 1. Tools and Concepts Chapter 1 does not provide any analytical tools. However, it does force students to confront some basic data and introduces data sources for various regions of the world. In addition, the chapter introduces and defines briefly the concepts of output, growth, the unemployment rate, and the inflation rate. A precise definition of these terms follows in Chapter 2. Chapter 1 mentions in passing the terms standard of living, productivity and purchasing power parity. All of these terms and concepts will be explored in later chapters in the text. 2. Assumptions Implicit in the Tour of the World is the assumption that the same basic macroeconomic tools can be used to analyze economies throughout the world. It might be worth making this point explicitly. The macroeconomic framework developed in the text would be neither terribly useful, nor compelling as a theory, if it applied only to the United States, and not to the other market economies.
IV. SUMMARY OF THE MATERIAL 1. The Crisis Included in the 6th edition of the textbook is a discussion around the major macroeconomic crisis that occurred in 2008. Table 1-1 outlines the output growth rates for the world economy, the advanced economics and for the other countries separately since 2000. From 2000 to 2007 the world economy had a sustained expansion. Annual average world output growth was 3.2%, with advanced economies growing at 2.6% per year, and emerging and developing economies growing at an even faster 6.5% per year. By 2008, the world, advanced and emerging economy output growth rate began to decline marking the beginning of the macroeconomic crisis. Highlights of the Macroeconomic Crisis: • U.S. Housing prices, which had doubled since 2000, started to decline in 2007. • Mortgage loans which had been given out during the earlier expansion were of poor quality causing many borrowers to increasingly be unable to make mortgage payments. .
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Declining housing prices caused the mortgage of the homes to exceed the market price of housing thus creating an incentive to default. Banks that mortgaged the loans often bundled, packaged and repackaged the loans into new securities and then sold them to other banks and investors. The holdings of securities, instead of mortgages by banks, created a complex understanding of the value of the asset making it impossible to appraise. The complexity of the value of the securities and the quality of the assets made banks reluctant to lend to each other. September 15, 2008, a major bank, Lehman Brothers, went bankrupt causing other banks that were also unable to borrow, and holding assets of an uncertain value to be perceived as a risk. Within weeks the whole financial system was in jeopardy. Figure 1-1 shows how financial crisis became an economic crisis with the evolution of the three stock price indexes (for the United States, Euro area and emerging economies) declining by the end of 2008, loosing half or more of its value by the previous peak. The decline in housing prices and the collapse in stock prices lead to a decline in consumption of goods and services. Businesses' concerns over sales and continuous decline in housing prices caused a sharp cut back on investment along a decline in the building of new homes. Despite strong actions by the Fed, to cut the interest rate, and the U.S. government which cut taxes and increased government spending, the demand and output continued to decline in the U.S. A decline in the U.S. importing goods from abroad along with U.S. banks needing repatriate funds from other countries moved a U.S. crisis into a world crisis. By 2009, average growth in advanced economies was -3.7%, by far the lowest annual growth rate since the Great Depression. Growth in emerging and developing economies remained positive but was nearly 4 percentage points lower than the 2000–2007 average. Table 1-1, shows by 2010, both advanced countries and emerging and developing economies began to turn positive, thanks to strong monetary and fiscal policies and the slow repair of the financial system. Figure 1-2 displays consistantly high unemployment rates for the United States and Euro area since the beginning of the crisis. The chapter discusses the factors behind the high unemployment rates and low growth of output, which are: o Housing prices are still declining. o Housing investment re-mains very low. o Banks are still not in great shape, and bank lending is still tight. o Consumers who have seen the value of their housing and their financial wealth fall are cutting consumption. o The crisis has also led to serious fiscal problems.
2. The United States In the United States, just before the crisis, the rate of growth of the economy was 2.6% which was a bit lower than the previous 20-year average, but still fairly high for an advanced country. On average, the unemployment rate and the inflation rate was lower over this period than over the period since 1980. During the crisis output did not grow in 2008 and declined by 3.5% in 2009. The economy rebounded by 2010, with growth of 3%. Unemployment increased dramatically, to nearly 10%. Inflation declined, being slightly negative in 2009 and then staying positive but low since then. The numbers of 2011 and 2012 are forecast as of fall of 2011. The high unemployment rate along with the very large budget deficit in the United States tends to .