Macroeconomics and Microeconomics difference - Essay Example

? Topic: Lecturer: Presentation: Introduction Microeconomics is the study of the behaviour of individual households and firms whereas macroeconomics is involved with the study of the behaviour of the economy as a whole (Baumol & Blinder, 2011). Microeconomics therefore analyzes the demand for goods and services by individuals in the market guided by the law of demand and law of supply. The quantity demanded or supplied is determined by the price in the market. The market clears when the quantity demanded is equal to quantity supplied. Macroeconomics deals with aggregate demand and aggregate supply in the economy hence includes components such as consumption, government expenditure, investments, exports and imports which are interrelated (Arora, 2008). The paper will discuss the numerous differences between microeconomics and macroeconomics and analyze the effects of change in consumption on employment. Microeconomics Microeconomics deals with individual demand and supply of individual goods and services in the market. The law of demand states that as price increases, the quantity of goods demanded decreases other things held constant hence quantity demanded and price are inversely related. The law of supply on the other hand, states that as price increases the quantity of goods supplied increases other things held constant hence a positive relationship between quantities supplied and price. The magnitude of change in quantity demanded depends on price elasticity of demand and supply (Mankiw & Taylor, 2006). However, there are many factors besides price that affects the quantity of goods demanded and supplied leading to a change in demand or change in supply. A change in price causes movements along the demand and supply curve other factors held constant. Wessels (2006) argues that there are bound to be changes which affect demand or supply such us level of income and weather changes. The demand for a good or service is affected by the price of the good, income of household and the firm, wealth, tastes and preferences, price of other products, number of households demanding a good or service (Anderton, 2000). If the income increases, households have more purchasing power hence demand more goods and services thereby shifting the demand curve to the right and if income decreases, households reduce the demand for goods thus shifting the curve downwards. Same case applies to increase or decrease in the wealth of firms and households. However, it depends on the type of good or service. For an inferior good, an increase in income or wealth leads to decrease in quantity demanded of the good but for normal goods, an increase in income or wealth leads to more demand for the good (Beggs, 2011). Mankiw (2011) notes that a change in demand as a result of change in taste and preference or price of related products depends on the type of goods affected. For example, if a consumer changes his/her preference from Pepsi to coke which are substitute goods, the demand for coke increases while demand for Pepsi decreases. For substitute goods, an increase in price of one good leads to an increase in quantity demanded of the other good. For example, if price of coke increases relative to the price of Pepsi, consumers shift demand from coke to Pepsi which serves the same purpose. For complimentary goods, an increase in price of one good leads to decrease in quantity demanded of the other good. Macroeconomics Macroeconomics deals with aggregate demand and aggregate supply in the economy. Aggregate demand comprises of; consumption, investment, government expenditure, exports and imports or the real national output (GDP). As Kyer and Maggs (1994) puts it, macroeconomics is not concerned with price elasticity, marginal costs and revenues as well as individual choices but rather government policies and the behaviour of the economy as a whole. The aggregate demand in the economy is not affected by price but rather other factors such as; expectations of households, income, wealth, interest rates, exchange rates among others. The supply side is affected by profit expectations of producers, production costs, weather, taxes, and number of firms among others (Cliffsnotes, 2011). In macroeconomics, there is no substitute, complementary, inferior or normal goods categories as all goods are added into one basket. The price level in the economy is determined by aggregate demand and aggregate supply. According to Tucker (2008), any changes in the components of the GDP leads to a shift in aggregate demand curve. For example an increase in consumption as a result of reduction of income tax base rate shifts the aggregate demand curve to the right and a decrease in consumption shifts the curve to the left. Riley (2006) argues that a change in any component causes a chain reaction in the circular of flow of income in the economy. For example, an increase in consumption leads to more production by producers and consequently more income for firms who hire more factors of production thus creating more income for households leading to increased spending, more output and employment. At macroeconomic level, an initial increase in consumption leads to increase in aggregate expenditure bigger than the initial stimulus thus generating employment and this is not the case in microeconomics. In microeconomics, an increase in consumption due to change in tastes and preferences, reduced prices, increase in income and wealth depends on the type of good (Mankiw, 2011). An increase in consumption due to change in taste or preference may have different effects. If it is a substitute good, the consumption of the other good will decline leading to low profits for producers. The producers in turn shift the factors of production to the more profitable good and reduce production of the less preferred good. This will thus not lead to increase in expenditure as consumers and producers just shift from one good to the other. If it is a complementary good, consumption of one good leads to increased demand for the other which then pushes the prices up as suppliers try to fulfil the demand. This consequently leads to decline in demand until equilibrium is reached where demand is equal to supply. At macroeconomic level, an increase in consumption leads to producers producing more of the product leading to increased investments (Shim & Siegel, 2005). Producers employ more factors of production to meet excess production hence creating income for business and households which they use to buy more goods and services. The injection in demand as a result of increased consumption stimulates further rounds of spending through multiplier effect hence there is a bigger stimulus than initial injection. This leads to more output and employment in the economy due to increased investment. According to Griffiths and Wall (2008), a higher the propensity to consume implies a greater multiplier effect hence more generation of employment. Conclusion Microeconomics deals with behaviour of individual firms and households whereas macroeconomics deals with the whole economy. Microeconomics assumes that all other things remain constant except the price for goods and services and that there are many types of goods; substitutes, complimentary, inferior and normal goods. However, if the other factors that affect quantity demanded and supplied change, it leads to change in demand and supply in the market. Macroeconomics is concerned with national income, inflation and interest rates that affect the aggregate demand and aggregate supply. The multiplier effect enables any changes in the components of aggregate demand to stimulate further reactions in the circular flow of income since all the components are interrelated thus producing a bigger stimulus than the initial stimulus unlike in microeconomics where there is no interrelation between elements. A change only affects an individual firm or household and price ensures the market stabilizes hence no employment is generated. References Anderton, A. (2000) Economics. 3 edn. London: Pearson Education Arora, K. 2008. Introductory Macroeconomics for Class XII. New Delhi: Tata McGraw-Hill Baumol, W., Blinder, A. 2011. Economics: Principles and Policy. 12 edn. USA: Cengage. Beggs, J. 2011. “Microeconomics Versus Macroeconomics.” About.com Guide. Accessed November 11, 2011, from http://economics.about.com/od/economics-basics/a/Microeconomics-Versus-Macroeconomics.htm Cliffsnotes.com. 2011. “Aggregate Demand (AD) Curve.” Accessed November 10, 2011, from http://www.cliffsnotes.com/study-guide/Aggregate-Demand-AD-Curve.topicArticleld-9789, articled-9737.html. Griffiths, A., Wall, S. 2008. Economics for Business and Management. 2 edn. England: FT/Prentice Hall. Kyer, B., Maggs, G. 1994. “A Macroeconomic Approach to Teaching Supply Side Economics”. Journal of Economic Education, Vol, 25. Mankiw, N., Taylor, M. 2006. Economics. London: Thomson learning. Mankiw, N. 2011. Principles of Economics. 6 edn. . USA: Cengage learning. Riley, G. 2006. “Macroeconomics: Multiplier and Accelerator Effects.” Tutor2u.net. Accessed November 10, 2011 from http://www.tutor2u.net/economics/revision-notes/as-macro-multiplier-accelerator.htm Shim, J., Siegel, J. 2005. Macroeconomics. 2edn. New York: Barron’s Educational Series. Tucker, Irvin. 2008. Macroeconomics for Today. USA: Cengage Learning. Wessels, W. 2006. Economics. 4 edn. New York: Barron’s. Read More