The upcoming discussion will update you about the differences between microeconomics and macroeconomics.
Economic theory is broadly divided into two branches—microeconomics and macroeconomics. The term ‘micro’ comes from the Greek word mikros which means small.
Accordingly, microeconomics studies the activity of the individual units in the economy. It is essentially a theory of decision-making which deals with the problems of maximisation or minimisation of an objective function of a decision-taking unit within the constraints imposed upon it.
Its subject-matter is the interactions of the behaviour patterns of various decision- taking units, as they are reflected in the market. In microeconomic model, households choose their purchase to maximise their utility (satisfaction), and firms make production decisions to maximise profits. Prices are formed in the markets where the outcomes of separate individual behaviours are coordinated.
How each price is formed, how different prices are related to each other, etc., are the central problems of micro-theory. Price and quantity of each product, demand and supply of each product and factor, demand and supply of each decision-taking unit and similar other things are the primary economic variables that arc dealt with in micro-theory.
Again, the term ‘macro’ comes from the Greek word makros which means large. Thus, macroeconomics is concerned with the behaviour of the economy as a whole — with booms and recessions, the economy’s total output of goods and services and the growth of output, the rate of inflation and unemployment, the balance of payments and so on. Macroeconomics studies the interaction of many house-holds and firms, but micro and macro are inextricably linked.
When we study the economics as a whole, we must consider the decisions of individual economic actors. For example, to understand what determines total consumption spending, we must think about a family decision as to how much to spend today and how much to save for the future. Since aggregate variables are simply the sum of the variables describing many individual decisions, macroeconomics is inevitably founded in microeconomics.
The distinction between microeconomics and macroeconomics is artificial since aggregates are derived from the sums of individual figures. Yet the distinction is justified because what is true for individual in isolation may not be true for the economy as a whole. For example, an individual may become richer by saving than spending.
However, if all individuals save more and spend less, the nation as a whole does not become richer. If every individual in the economy saves more than before the national income falls — this is the paradox of thrift in macroeconomics. The distinction is also justified because of the methodological differences in the two branches of economics. Microeconomics uses the partial equilibrium analysis where the ceteris paribus assumption is made.
Thus, when the price of a commodity is determined, it is assumed that other things remain unchanged. To have an overall idea about the totality of economic activities, we might take resort to the Walrasian General Equilibrium Analysis in which all markets and all individual quantities would be presented simultaneously with all their interrelations.
All the individual quantities would, then, be derived from the behaviours of all decision-making units. Each and every differential of individual behaviour would exhibit its proper role in the social integral.
Macroeconomics is a young and imperfect science. It was first introduced by R. Frisch in 1933. Before that macroeconomics was known as income theory and microeconomics as price theory. The price theory was mainly concerned with the determination of individual prices, whereas macroeconomics is concerned with the determination of the equilibrium level of income and employment in the economy.
This does not mean that income concepts are neglected in microeconomics and prices are neglected in macroeconomics. Microeconomic theory is mainly concerned with the determination of factor incomes such as wages, rent, interest and profit. Similarly, macroeconomics is also concerned with the determination of the price level. Where microeconomics is concerned with the determination of relative prices, macroeconomics determines the absolute price level.
Again, while microeconomics determines the relative factor shares, macroeconomics determines the aggregate income level. We study macroeconomics not only to explain economic events but also to improve economic policy. The monetary and fiscal tools of Government can influence the economy and macroeconomics helps policy-makers to evaluate policies. Macroeconomists are asked to explain the economic world as it is and to consider what it could do to improve the situation.