IER Study Guide

Flashcards of key vocabulary terms and definitions from the Macroeconomics lecture notes.

Microeconomics

The part of economics that looks at individual decision-making units, like households and firms.

Microeconomics Viewpoint

Offers a bottom-up view of the economy. It looks at small units and builds a picture of how the whole economy works.

Macroeconomics

The part of economics that looks at the entire economy.

Macroeconomics Viewpoint

Offers a top-down view. It studies aggregate variables — totals and averages that describe the whole economy.

Economic theories and models

Simplified explanations of how things work.

Microeconomics Belief about markets

Markets work well on their own and are efficient because prices adjust easily and people behave logically.

Macroeconomics Belief about markets

Some prices are “sticky”, meaning they do not change quickly, which may require government action.

Sticky Prices

When prices don’t adjust, supply ≠ demand, and unemployment or surpluses can result.

Microeconomic foundations of macroeconomics

The idea that macro-level outcomes come from individual decisions.

"Second-best" solutions

Realistic policies that still try to improve the economy, even if they aren’t perfect.

Classical economics

Microeconomic models that believed that markets would automatically adjust to balance supply and demand, and unemployment wouldn’t last long.

Austerity

Cutting public spending.

“Beggar-thy-neighbor” policies

Each country tried to improve its own situation at others’ expense, which damaged the global economy.

Predatory currency depreciation

Countries intentionally weakened their currencies to gain trade advantages.

Keynes Belief

Governments can influence how much the economy produces (output) and how many people have jobs (employment).

Liberalism

Minimal government role, free markets.

Fiscal policy

How the government uses its own spending and taxation to influence the economy.

Expansionary Fiscal Policy

Boosts economic activity → increases demand and jobs. During a recession or slow growth.

Contractionary Fiscal Policy

Slows down the economy → reduces inflation. When the economy is overheating or prices rise too fast.

What Should Governments Do? (According to Keynes)

Manage overall demand in the economy, use fiscal policy — changing government spending and taxation — to help the economy during bad times, and stimulate demand when private sector demand is too low.

Control inflation

Keep prices stable — inflation should stay around 2–3%, which is healthy.

Increase employment

Government actions should help people find and keep jobs.

Support money’s value

Avoid major drops in the purchasing power of money.

Bretton Woods Agreement

Design a new international economic system after WWII

"Keynes at home"

Government intervention to keep jobs and growth.

"Smith abroad"

Support free trade and open markets.

IMF (International Monetary Fund)

Help maintain stable exchange rates and provide short-term financial help.

World Bank

Fund reconstruction and development projects in poorer countries.

GATT (General Agreement on Tariffs and Trade)

Reduce trade barriers.

Stagflation

Combination of stagnation (slow economy, high unemployment) and inflation (rising prices).

Monetarism

A school of economic thought that believes controlling the money supply is the most important tool for managing the economy — more important than government spending and taxes.

Central bank lowers interest rates or buys government bonds used during high unemployment or recession.

Monetary policy

Central bank raises interest rates or sells bonds to remove money from circulation used during high inflation or the economy is overheating.

Monetary policy

Monetary policy

Using the central bank’s tools (like interest rates and money supply) to influence the economy.

Global Policy Coordination is Needed For

Global imbalances, debt and fiscal policy, or financial crises.

Financial globalization

The removal of barriers that limit international financial transactions.

Capital controls

Rules that restrict money from moving across borders.

Eurodollar Market

Emerged in the 1960s, banks outside the U.S. held large amounts of U.S. dollars that were loaned and invested internationally, outside U.S. regulation.

Financial Instruments

Legal contracts that represent a financial value — often used to raise capital, invest, or manage risk.

Total output (goods and services) that producers in the economy are willing to supply at a given price level.

Aggregate Supply (AS)

Business cycle

The economy’s pattern of rising and falling output (ups and downs).

Impossible trinity

The trilemma, shows that countries cannot simultaneously achieve exchange rate stability, monetary policy autonomy, and full capital mobility.

Multilateral coordination

Countries cooperate to manage international trade, investment, and exchange rates.

Beggar-thy-neighbor policies

Countries pursue national gain at others' expense (e.g., currency devaluation), worsening global problems.

Domestic intervention

Use taxes, rules, and controls to protect their own economies.

Global coordination

Build stronger institutions (e.g. IMF, G20) to make rules for everyone.

Currency misalignments

A currency becomes too strong (hurts exports) or too weak (causes inflation).

Circular Flow of Income

A model that shows how money moves between households, businesses, and the government.

International coordination

Alignment of policies across countries to manage the global economy effectively.

Collapse of stable exchange rate systems

Set by stable systems broken down due to inflation, debt, and policy changes.

Financing domestic deficits through private capital

Countries now rely on private capital markets rather than state-controlled mechanisms, increasing vulnerability.

Lack of adjustment mechanisms

There are no automatic tools to correct trade or currency imbalances, prolonging crises.

Circumvention of public regulation

Financial actors often bypass national regulations, reducing government control.

Erosion of the Keynesian welfare state

Globalization has limited governments' ability to provide welfare and maintain social programs.

Decline in national policy autonomy

States now have less control over economic policies, which are increasingly influenced by global forces.

Growing instability and crisis risks

These trends contribute to systemic instability and increase the likelihood of economic crises.

Controversial implications

Global financial markets effects can have far-reaching consequences.

Difficulty maintaining post-war liberal order

The economic model developed after WWII has become harder to sustain due to internal and external pressures.

Global coordination

Countries align their macroeconomic policies to handle shared challenges, such as debt, inflation, and market regulation.

Currency wars and fiscal stimulus

Countries respond to crises by trying to boost their own economies, often at others’ expense.

Basel III regulations

Set minimum standards for global banking, but represent the lowest common denominator, lacking strength.

Global economic order is shifting

The post-war order is adapting to new power balances and realities, including the rise of emerging markets.

Multilateral surveillance

Institutions like the IMF, World Bank, WTO, G7, G8, and G20 monitor global policies, but their coordination is inconsistent.

Capital mobility and financial integration

Capital moves freely across borders, making domestic economic management more difficult.

Competitive devaluations

Countries may weaken their currencies to gain trade advantages, harming global stability.

The Impossible Trinity

Framework showing that countries cannot simultaneously achieve exchange rate stability, monetary policy autonomy and full capital mobility.

Bimetallism (before 1875)

Both gold and silver used as money; different countries followed different metal standards.

Classical Gold Standard (1875–1914)

Gold was the sole standard; exchange rates were fixed based on gold content.

Interwar Period (1915–1944)

Widespread currency instability; competitive devaluations; failed attempts to restore gold standard.

Bretton Woods System (1945–1972)

Fixed but adjustable exchange rates; U.S. dollar pegged to gold; creation of IMF and World Bank.

Flexible Exchange Rate Regime (1973–present)

Currencies float; central banks may intervene; gold abandoned as a reserve asset.

Gresham’s Law

The less valuable metal would circulate more widely because people hoarded the more valuable one. (“Bad money drives out good.”)

Price-specie-flow mechanism corrected imbalances

If a country had a trade deficit, gold would leave the country, reducing money supply and prices fell, exports became cheaper, and the balance was restored.

Dollar-gold standard

US dollar pegged to gold at $35 per ounce, adjustable peg, exchange rate discipline, capital controls allowed.

Preventing liquidity leaks

Focuses on how capital and credit are managed across borders.

Reorienting system design

Adapts institutions to new technological and knowledge-driven environments.

Jamaica Agreement (1976)

Ended gold’s role as a reserve asset, allowed central banks to intervene in currency markets, and half of IMF gold was returned to members.

Plaza Accord (1985)

agreed to depreciate the U.S. dollar to reduce trade imbalances.

Louvre Accord (1987)

agreed to stabilize exchange rates through coordinated macroeconomic policies.

Finance

The process of transferring savings from one entity to another for a defined period of time in return for a payment (usually interest or return on investment).

Domestic politics

Economic decisions are influenced by political cycles and voter preferences.

Financial market confidence

Currency values depend heavily on investor sentiment and expectations.

Euro as a Political Project (1950s)

The euro was envisioned during early European integration.

1990s convergence

Maastricht Treaty defined criteria and timeline for Economic and Monetary Union (EMU).

Liquidity

A bank’s ability to meet short-term obligations.

Solvency

A bank’s assets must exceed liabilities to remain viable.

Velocity of money

The rate at which money circulates through the economy, facilitating transactions.

Global Imbalances: G20 and IMF Responses

Focuses on capital mobility, exchange rate disclipline, and G20 Policy proposals.

Financial Stability Forum (1999)

Brings together major global regulatory authorities to coordinate responses to systemic risk.

GATT (1947)

Set binding rules for international trade.

MNCs in Global Trade

Multinational corporations account for over half of global imports and exports, underscoring their central role in global economic flows.

Trade and investment flows

Geographical Patterns due to reduced transportation and transaction costs.

MNCs promote

Horizontal structures over traditional vertical supply chains, fostering distributed production.

Key domestic aggregates MNCs influence

GDP growth due to corporate profitability.

MNC (Multinational Corporation)

A company with production or service operations in two or more countries.

Lobbying

Direct influence on legislation and regulation.

EU Policy Toward China

The EU must move beyond idealism and focus on a pragmatic engagement that is in mutual interests.