Lahore University of Management Sciences. MECO 121 Principles of Macroeconomics

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1 MECO 121 Principles of Macroeconomics Spring Instructor Room No. Office Hours Telephone Secretary/TA TA Office Hours Course URL (if any) Mr. Daud Ahmed Dard Course Basics Credit Hours 4 Lecture(s) Nbr of Lec(s) Per Week 2 Duration 110 minutes Recitation/Lab (per week) Nbr of Lec(s) Per Week Duration Tutorial (per week) Nbr of Lec(s) Per Week Duration Course Distribution Core Elective Open for Student Category Close for Student Category Yes COURSE DESCRIPTION -This (newly designed) course provides a solid foundation in the fundamental principles of macroeconomics and prepares students for the application of the principles in understanding real world (local and global) macroeconomic performance, issues and policies. The course starts with a description of macroeconomic data and then goes on to present macroeconomic models of goods, money and input markets, discuss what light these models can shed on certain stylized facts of the macroeconomic data and evaluate the scope for policy to improve macroeconomic performance. Models for analyzing the long run performance of the economy are discussed before short run models. IS/LM AD/AS model will be derived for analyzing the economy in the short run and the business cycles, and also for understanding the adjustment process of the economy towards its long run path. Open economy is discussed both under the long run and the short run. Some microeconomic foundations are discussed in the later part of the course. A few lectures in the later part of the course are devoted to comprehensive analyses of selected contemporary macroeconomic issues in Pakistan and in the world. The course concludes with students group project presentations. -In order for the students to understand the causes of the recent Financial Crisis, features of the ensuing Great Recession and to understand (at times) unconventional policy response, some of the key issues related to banking, financial system and markets are also discussed in the course. Appropriate tools are introduced in the early part of the course for addressing these issues. The impact of these issues on macroeconomic models is also briefly analyzed. UPON COMPLETION OF THE COURSE, STUDENTS SHOULD BE ABLE TO: 1. Describe how to measure output, prices, unemployment, savings and wealth and evaluate any shortcomings associated with these measures, interpret the data for describing economic conditions. 2. Use macroeconomic models to explain the behavior of the economy and the relationships between macroeconomic variables such as inflation, aggregate demand, aggregate supply, investment etc. and analyze current macroeconomic issues and policy debates. 3. Explain how and why governments implement fiscal and monetary policies. FURTHER STUDY: This is a complete course in itself and a core course especially for Accounting and Finance, Management Science and Business related degrees. It provides foundations for studying such courses as Investments, Financial Institutions & Markets, International Finance, Commercial Banking and / or for taking intermediate level / advanced courses in Macroeconomics.

2 COURSE PREREQUISITE(S) MECO 111, ECO111 Basic Algebra COURSE OBJECTIVES Thorough understanding of the basic analytical framework underlying macroeconomic thinking Application of the framework in understanding and explaining macroeconomic events, issues and policies both local and international Grading Breakup and Policy Assignment(s): 5 Assignments - 5% Quiz(s): 4 best 3 selected 15% Class Participation & Attendance: 10% Group Project: 10% (guidelines will be circulated immediately after the mid-term exam) Midterm Examination: 30% Final Examination: 30% -Constructive class participation is welcome and graded. However, your focus must be on the topic at hand. Please note that Negative CP can be marked if you speak before first getting Instructor s permission. -Anybody missing more than 7 sessions will need to get approval from ACF Program director to continue in the course. -Coming to the class late and leaving the class without Instructor s permission will lead to an absent mark. Examination Detail Midterm Exam Yes/No: Yes Combine Separate: Combined Duration: 110 minutes Preferred Date: Exam Specifications: Closed Book/Closed Notes Final Exam Yes/No: Yes Combine Separate: Combined Duration: 110 minutes Exam Specifications: Closed Book / Closed Notes Textbook(s)/Supplementary Readings Course Reading Pack consists of selected chapters from the following books: -Mankiw, Macroeconomics, 7 th edition (M) - (This is Core Text but not all chapters) -Abel & Bernanke, Macroeconomics, 6 th edition (AB) -Ball, Lawrance, Money, Banking and the Financial System, 2 nd edition (MB & FS) -Mankiw, Principles of Economics, 6 th edition (PE), (or identical chapters from Principles of Macroeconomics text by the same Author) Selected readings from the Economist Magazine, Financial Times newspaper, from the publications of the IMF, ADB and State Bank of Pakistan (SBP) will be identified during lectures.

3 Course Schedule: Lecture # Topics Reading Learning Objectives 1 -Introduction to Macroeconomics -Introduction to the course M 1 -Discuss the type of questions macroeconomists address -Explain the concept of an economic model -Explain the role of price flexibility and price stickiness in macroeconomic models. -Understand how the course will proceed THE DATA OF MACROECONOMICS 2 -Measuring the Value of Economic Activity M 2.1 AB 2.1, 2.2 -Explain why an economy s total income, total expenditure and total production are equal: National Income Accounting -Define gross domestic product (GDP), describe its calculation, distinguish between GDP and GNP, Nominal and Real GDP, describe GDP Deflator, Chain-weighted Measures -Describe how related measures of income are calculated -Discuss whether GDP is a good measure of economic well-being 3 -Measuring the Cost of Living -Measuring the Unemployment -Stylized Facts M 2.2, AB 2.4 -Define Consumer Price Index (CPI) and describe how to contruct CPI, and pitfalls -Compare CPI vs GDP Deflator -Describe how to calculate unemployment rate -Discuss some of the stylized facts of output, inflation, unemployment ECONOMY IN THE LONG-RUN 4, 5 -National Income: Where it comes from and Where it goes M 3 - Demonstrate using the basic model of the longrun behavior of a well functioning economy with fully flexible prices: a. the determinants of the level of output (income) b. how income is distributed c. how output is allocated among alternative uses i.e., Consumption, Investment etc. d. what ensures that the supply of and demand for goods are equal d. how the government policy may alter the outcome 6 -Productivity and Long Run Economic Growth: Basics -Unemployment and its Natural Rate PE 25 PE 28 -Explain why productivity is the key determinant of a country s standard of living, -Explain the factors that determine a country s productivity -Discuss how a country s policies influence its productivity growth - Differentiate between cyclical and the natural rate of unemployment - Explain structural unemployment and how unemployment can result from minimum-wage laws, bargaining between firms and unions, and also when firms choose to pay efficiency wages 7 -Introduction to the Financial System -Asymmetric Information in the Financial System MB & FS 1 PE 26 (last 2 pages) MB & FS 7 -Define a financial system, its role and functions in an economy -Discuss some of the important financial institutions and markets in the U.S. economy (and in the Pakistani economy). -Explain why and how asymmetric information may lead to market failure -Describe the issues of moral hazard and adverse selection in financial markets using numerical examples. -Explain signaling, screening and monitoring

4 8 -Basics of Finance PE 27 -Explain the relationship between present value and future value, and the effects of compound growth - Analyze how risk-averse people reduce the risk they face 9 Money, Money Supply and the Banking System M 19 MB & FS 2 - Explain how asset prices are determined -Describe what money is, what functions money has in the economy and how it is measured -Explain how the banking system determines the supply of money, role of the central bank -Discuss somewhat more realistic banking with bank capital, leverage and capital requirements -Discuss why banks are inherintly fragile -Instruments of the monetary policy 10 Money and Prices in the Long Run M 4 -Explain the theories of money demand -Describe asset market equilibrium condition -Examine the effects of monetary policy when prices are flexible -Explain how the nominal interest rate responds to the inflation rate. -Define and discuss classical dichotomy and monetary neutrality in the long run -Define Inflation tax, discuss various costs that inflation imposes on society 11 Balance of Payments Accounts (BOP): a record of a country s international transactions AB 5.1 -Define the BOP accounting principles -Describe various components of BOP -Describe BOP identity 12 Open Economy in the Long Run M 5 -Develop a model of international flows of capital and goods, emphasizing that these ultimately depend upon the determinants of savings and investments -Develop a simple model of real exchange rate and showing its role in ensuring that the current account and the capital account sum to zero -Explain the determination of nominal exchange rate ECONOMY IN THE SHORT RUN 13 Introduction to Short Run Economic Fluctuations M 9 -Understand key stylized facts of the business cycle -Describe leading and lagging economic indicators -Describe how the short run and the long run differ (in macroeconomics) 14 Introduction to Short Run Economic Fluctuations..cont d M 9 -Explain the Aggregate Demand (AD) & Aggregate Supply (AS) - Differentiate between individual demand and AD -Examine economic fluctuations by analyzing shocks to AD and AS -Define and discuss stabilization policy using AD and AS 15 MIDTERM EXAM 16, 17 Aggregate Demand 1: Building the IS / LM model M 10 -Explain income/output determination in the short-run for given price level using simultaneous equilibrium in the goods market (IS) and the money market (LM) -Explain the concept of Multiplier -Derive the AD curve from the IS/LM model 18 Aggregate Demand 2: Applying the IS / LM model M 11 -Evaluate using IS/LM model the short-run consequences of exogenous shocks in the goods market and the money market -Analyze fiscal and monetary policy using IS/LM model -Describe how classical dichotomy may prevail in the long run using IS/LM AD/AS

5 19, 20 AD in Open Economy: Mundell-Fleming Model M 12 -Extend the IS/LM model to include the effects of international trade and finance -Monetary and Fiscal policies under fixed and floating exchange rates -Discuss speculative attacks -Explain The Impossible Trinity 21 Aggregate Supply PE 33 -Describe the three theories for an upward sloping short-run AS curve. -Demonstrate how output deviates from its natural rate when the actual price level deviates from the price level that people expected. 22 Short run Trade off between Inflation and Unemployment PE 35 - Explain why policymakers face a short-run tradeoff between inflation and unemployment -Explain why the inflation-unemployment tradeoff disappears in the long run - Describe how supply shocks can shift the inflation-unemployment trade-off -Discuss the implications of rational expectations for the trade-off between inflation and unemployment -Explain how policymakers credibility might affect the cost of reducing inflation SOME MICROFOUNDATIONS: 23 Consumption, Supply of Labor M 17, Handout -Explain different theories of Consumption 24 Investment, Revisiting Macroeconomic Models M 18, Handout -Formally derive the labor supply -Discuss the theories of Investment -Explain how this enhanced understanding of Consumption, Investment and Labor Market enriches the main macroeconomic models discussed in the course 25, 26 SELECTED MACROECONOMIC ISSUES IN PAKISTAN AND IN THE WORLD -ADB, IMF, SBP -The Economist -Roubini, N 27, 28 GROUPS PROJECT PRESENTATIONS N/A