Mod 3: Microeconomics vs Macroeconomics; Positive & Normative; Birth of Macroeconomics
Concept
3.1 Microeconomics and macroeconomics; positive and normative
🏫 School level · NCERT Class 9–12 (the base for UPSC, BPSC, SSC and Bank exams)
One stall or the whole bazaar
Split the subject by the size of the question. Microeconomics studies individual units: a household deciding what to buy, a firm setting its price or output, the market for one good. Macroeconomics studies the totals: national income, total employment, the general price level, growth of output and the balance of payments. A rise in the price of onions in one mandi is a micro fact; a rise in the Consumer Price Index is a macro fact.
| Basis | Microeconomics | Macroeconomics |
|---|---|---|
| Unit studied | Individual consumer, firm, industry | Economy as a whole (aggregates) |
| Central problem | Price determination and resource allocation | Determination of income, employment and price level |
| Other name | Price theory | Income and employment theory |
| Main tools | Demand and supply of one good | Aggregate demand and aggregate supply |
| Usual assumption | Full employment, other things equal (ceteris paribus) | Income and employment can vary |
| Examples | Price of tea, wage of a carpenter, output of one mill | GDP, inflation rate, unemployment rate, fiscal deficit |
The Norwegian economist Ragnar Frisch first used the terms “micro-dynamic” and “macro-dynamic” in 1933; he shared the first Nobel Memorial Prize in Economics (1969) with Jan Tinbergen. The words come from Greek mikros (small) and makros (large).
| Positive (“what is”) | Normative (“what ought to be”) |
|---|---|
| Describes cause and effect; can be tested with data | Contains a value judgement; cannot be proved true or false |
| “A rise in onion prices reduces the quantity bought.” | “Elementary health care ought to be free for everyone.” |
| “India’s CPI inflation was higher in 2022 than in 2019.” | “The RBI should cut interest rates to help farmers.” |
Signal words for normative: ought, should, must, fair, better, desirable. Robbins treated economics as a positive science; Marshall and Pigou accepted a normative role.
- Micro/macro is about the size of the unit; positive/normative is about facts vs judgements; static/dynamic is about time (dynamic analysis traces change over time); closed/open is about foreign trade.
- Inflation is a macro topic even though it is about prices: it is the general price level, not the price of one good.
- Micro and macro are interdependent: total demand (macro) is the sum of household demands (micro), and inflation (macro) changes each firm’s costs (micro).
- Micro = individual units (price theory); macro = aggregates (income and employment theory).
- Terms first used by Ragnar Frisch, 1933.
- Positive = what is; normative = what ought to be.
- Inflation is macro: it is the general price level.
- Fallacy of composition: what holds for one may not hold for all.
- Which branch studies the price of tea? Answer: Microeconomics
- Greek root of macro? Answer: Makros, meaning large
- “Free health care ought to be universal” is positive or normative? Answer: Normative
MCQs
Answer this question, then use Next.
Which statement is normative?
Which of the following is a macroeconomic variable?
Which question belongs to macroeconomics, as NCERT Class 11 draws the line?
[SSC pattern] Microeconomics is also known as:
[SSC pattern] Macroeconomics is also called:
[School] Which of the following is studied in microeconomics?
[School] Which statement is positive (not normative)?
[UPSC level] The “fallacy of composition” means:
One-liners
Write your answer, then submit to see the correct answer.
Which branch studies the price of tea?
MicroeconomicsGreek root of macro?
Makros, meaning large“Free health care ought to be universal” is positive or normative?
NormativeConcept
3.2 How macroeconomics was born: the Depression, Keynes and the paradox of thrift
🏫 School level · NCERT Class 9–12 (the base for UPSC, BPSC, SSC and Bank exams)
From Say’s Law to effective demand
Until the 1930s most economists were classical (Adam Smith, David Ricardo, J. B. Say, J. S. Mill). They believed that free markets clear by themselves: prices and wages are flexible, so any unemployment is temporary, and “supply creates its own demand” (Say’s Law). The government should follow laissez-faire (let things be).
The Great Depression began with the Wall Street crash of 1929. In the USA output fell sharply and unemployment rose from about 3% to about 25% by 1933, and it stayed high for years. The classical theory could not explain such long, mass unemployment.
John Maynard Keynes published The General Theory of Employment, Interest and Money in 1936. He argued that output and employment depend on effective (aggregate) demand; demand can stay too low for long, and the government should raise it through public spending. NCERT Class 12 places the birth of macroeconomics as a separate branch here. Keynes is called the father of modern macroeconomics.
| Question | Classical | Keynesian |
|---|---|---|
| Is full employment automatic? | Yes, in the long run | No; equilibrium can occur with unemployment |
| What drives output? | Supply (Say’s Law) | Aggregate (effective) demand |
| Wages and prices | Flexible | Sticky in the short run |
| Role of government | Minimum (laissez-faire) | Active fiscal policy in a slump |
| Saving | A virtue; becomes investment through the interest rate | Too much saving can cut demand (paradox of thrift) |
A household that fears a bad year saves an extra ₹2,000 a month. Is this wise? What happens if every household does the same while investment stays unchanged?
- For one household it is prudent: micro reasoning says more saving means more security.
- If everyone cuts spending at once, firms sell less, cut shifts and lay off workers, so incomes fall.
- In equilibrium saving = investment. With investment unchanged, total saving ends up unchanged, but at a lower income.
- High and sustained economic growth (rising real GDP).
- Full employment (low unemployment).
- Price stability (India’s inflation target: 4% CPI with a band of 2–6%, under the RBI’s flexible inflation targeting framework).
- Balance of payments equilibrium and a stable exchange rate.
- Equitable distribution of income.
- Tools: fiscal policy (government taxes and spending, Finance Ministry) and monetary policy (interest rates and money supply, RBI).
- Classical: Say’s Law, flexible prices, automatic full employment, laissez-faire.
- Great Depression 1929–33 exposed the classical view.
- Keynes, General Theory 1936: effective demand; father of modern macro.
- Paradox of thrift: more saving by all can lower income.
- Macro goals: growth, full employment, price stability, BoP balance, equity.
- Who gave the law of markets? Answer: J. B. Say
- Year of the General Theory? Answer: 1936
- Which body sets India’s policy repo rate? Answer: The RBI’s Monetary Policy Committee
MCQs
Answer this question, then use Next.
The paradox of thrift says that:
NCERT Class 12 links the emergence of macroeconomics with:
[SSC pattern] “The General Theory of Employment, Interest and Money” was written by:
[SSC pattern] “Supply creates its own demand” is known as:
[School] Classical economists believed that the economy normally operates at:
[Bank PO pattern] Which of the following is NOT a goal of macroeconomic policy?
[RBI Grade B level] Under the paradox of thrift, if all households try to save more while planned investment stays constant, in the new equilibrium:
[UPSC level] Keynes’s main remedy for a depression was to:
One-liners
Write your answer, then submit to see the correct answer.
Who gave the law of markets?
J. B. SayYear of the General Theory?
1936Which body sets India’s policy repo rate?
The RBI’s Monetary Policy CommitteeConcept
🎯 Competitive Level (UPSC Pre · BPSC Pre · State PSC · SSC · Bank PO · RBI Grade B): Micro, macro and the policy response
| Exam | What it asks from this module |
|---|---|
| UPSC Prelims | policy response to a recession (2021); statements on macro goals |
| BPSC / State PSC | Keynes and his book, classical ideas, laissez-faire |
| SSC (CGL, CHSL, JE) / Railways | who coined micro/macro (SSC JE 2013), other names |
| Bank PO / RBI Grade B | paradox of thrift, Say’s Law, fiscal vs monetary tools |
Which among the following steps is most likely to be taken at the time of an economic recession? (a) Cut in tax rates accompanied by increase in interest rate (b) Increase in expenditure on public projects (c) Increase in tax rates accompanied by reduction of interest rate (d) Reduction of expenditure on public projects
- A recession = falling demand, output and jobs. The Keynesian cure is to raise aggregate demand.
- (a) and (c) mix an expansionary step with a contractionary one, so they cancel. (d) cuts demand further.
- More public spending on projects creates jobs and income directly and has a multiplier effect.
Who was the first economist to have coined the terms “Micro Economics” and “Macro Economics”? A. Milton Friedman B. Ragnar Frisch C. J. M. Keynes D. Paul Samuelson
- Frisch used the terms in 1933, three years before Keynes’s General Theory.
- Keynes founded modern macro theory but did not coin the word; Friedman is the monetarist; Samuelson wrote the textbook “Economics”.
Which pair is NOT correctly matched? (a) J. M. Keynes – The General Theory (b) J. B. Say – supply creates its own demand (c) Alfred Marshall – Principles of Economics (d) T. R. Malthus – The Wealth of Nations
- The Wealth of Nations (1776) is by Adam Smith. Malthus wrote An Essay on the Principle of Population (1798).
Know who uses which lever: the Government runs fiscal policy (Budget: taxes, spending, borrowing); the RBI’s Monetary Policy Committee (six members, set up in 2016) sets the policy repo rate to keep CPI inflation at 4% ± 2%. In a slump, fiscal stimulus and rate cuts both raise demand; in high inflation both are tightened.
- UPSC 2021: in a recession, raise spending on public projects.
- SSC JE 2013: Ragnar Frisch coined micro and macro.
- Fiscal policy = Government; monetary policy = RBI (MPC).
- Laissez-faire means? Answer: Non-interference of the state
MCQs
Answer this question, then use Next.
[UPSC Pre 2021] Which among the following steps is most likely to be taken at the time of an economic recession?
[SSC JE 2013] Who was the first economist to have coined the terms “Micro Economics” and “Macro Economics”?
[State PSC pattern] “Laissez-faire” means:
[BPSC pattern] Which pair is NOT correctly matched?
[RBI Grade B level] In India, the inflation target under flexible inflation targeting is:
[UPSC level] Consider: 1. Micro and macro economics are interdependent. 2. Inflation is a microeconomic topic because it concerns prices. 3. Total demand in an economy is the sum of individual demands. Which are correct?
One-liners
Write your answer, then submit to see the correct answer.
Laissez-faire means?
Non-interference of the state