POLITICAL ECONOMY OF GROWTH SECS-P01, CFU 9 Finance and Development academic year 2016-17

1. POLITICAL ECONOMY OF GROWTHSECS-P01, CFU 9Finance and Developmentacademic year 2016-17 1. INTRODUCTION TO ECONOMICS Roberto Pasca di Magliano Fondazione Roma Sapienza-Cooperazione Internazionale roberto.pasca@uniroma1.it

2. What is Economics? Economicsis a social science whichstudies the choices of the economic agents and the interactionthatestablishesitselfamong the single choices. In otherwords, itstudies the modalitythroughwhichindividuals, organizations and enterprisesemployscarceresourcesto produce varioustypes of goods and services, aswellas the ways in whichthey are distributedamong the subjects (families, entreprises) to satisfytheirpresent or future needs. Economics assume that the choices of the agents are: • based on a criteria of rationality • aimed to maximizeobjectives of individualinterest(profits, utility, etc.) Roberto Pasca di Magliano

3. Partial list of topics (not enough) The list (evenifenriched) isnotenough to define the economic science. Thesetopics are not the sole interest of economicsbuttheyalsoconcern: • Otherdisciplines (sociology, law, etc.) • Social actors (enterprises, banks, tradeunions, etc.) • Institutions (eitherlocal, national or international) Itisnecessary to specifythe point of viewand the methodthat the economistchooses to use whilestudyingthesetopics. Roberto Pasca di Magliano

4. General Principles: Scarcity • Scarcity of resourceshappenseverytimethat, given the needs of a society at a given time, the meansavailable to satisfythemare notsufficient. • A consequence of scarcityisthat society, institutions, organizations and individuals are almostalwaysforced to choosewithin a limited set of possibilitiesbetweenobjectivesand scarcemeansapplicable to alternative uses. • Scarcemeansthatanyresourceacquires a value (price) Roberto Pasca di Magliano

5. General Principles: Reliable information • Itisassumedthatall the data relative to the prices of anygood and to the availabletechnologies: • are known • available a-priori both to the entrepriseswho produce goods, and to the consumers whobuythem. Roberto Pasca di Magliano

6. General Principles conclusion: Rationality, Scarsity and full Information • Fundamental principles on which are based most of economic analyses is the rationality of choices. • Rationalityassumes that economic agents’ behavior uses standard criteria as it is assumed that everybody is perfectly capable of assessing the costs and the benefits following each available set of alternative scenario. • Scarsity assumes that production resources are avallabile in limited quantities and then they have to be used alternatively in different production process • Perfect information assumes that all the economic agents has full access to data set and administrative information Roberto Pasca di Magliano

7. Microeconomics The maintopicsitdeals with are: 1. Consumer ChoiceTheory How a rational consumer decides to spendhisownincome in order to maximize the satisfaction (utility) that he draws from hispurchases 2. Theory of Production How a firmchooses the inputs to be used and in whichquantity, aswellashowitdecidesabout production mix 3. Market Structure Characteristics and degree of market powerheld by sellers and buyers Roberto Pasca di Magliano

8. Macroeconomics The main topics it deals with are: 1. National Income How to determine a country’s GDP, national consumption, saving, investment, public expenditure, etc. 2. Employment Causes, typologies (structural, conjonctural), consequences 3. Political economy • Fiscal policies (taxes, transfers, public investments) , as it is run by the State • Monetary policies (interest rate, currency exchange rate) as it is run by the Central Bank Roberto Pasca di Magliano

9. Macroeconomics The main topics it deals with are: 1. National Income How to determine a country’s GDP, national consumption, saving, investment, public expenditure, etc. 2. Employment Causes, typologies (structural, conjonctural), consequences 3. Political economy • Fiscal policies (taxes, transfers, public investments) , as it is run by the State • Monetary policies (interest rate, currency exchange rate) as it is run by the Central Bank Roberto Pasca di Magliano

10. Macroeconomics–Evidence from Great Depression ModernMacroeconomicsis due to John Maynard Keynes, author of The General Theory of Employment, Interest and Money. He argued: • Duringthe Great Depression (Wall Street, 1929)the loss of output by the private sectorresultsof a systemicshock ought to be filled by governmentspending. • Business lostaccess to capital, so ithaddismissedworkers. • Workershadless to spendas consumers, consumers boughtless from business • Higherincomespeoplehave a lowermarginalpropensity to consumetheirincomeswhilepeoplewith lowerincomes are inclined to spendtheirearningsimmediately • Thislowered the rate of growth. Spendingshouldtherefore target public worksprogrammes on a large enough scale to speed up growth to itspreviouslevels. Roberto Pasca di Magliano

11. Macroeconomics–Aggregate Demand Aggregate demand (D) is the total demand for final goods and services in the economy (Y) at a given time and price level. It is the demand for gross domestic product, even called effective demand D = C + I + G + (X – M) = Y < or = S where: • C is consumption (may also be known as consumer spending) = basic consumption (a) + propensity to consume available income b (Y – T), • I is Investment (demand componet as inversly related to interest rate) • G is Government spending, vomposed by taxes (T) devoted to public consumption and public investment • X – M is net export, i.e. surplu or deficit of the balance of payment • Y is national income • S is the maximum potential domestic production Roberto Pasca di Magliano

12. Keynesian economy: main issues to remember In the short run, during recession, economy is influenced by aggregate demand (Y) that is not general equal di potential productive capacity Productive capacity of the economyis influenced by a host of factors and sometimes behaves erratically, affecting production, employment, and inflation. Keynesian economists argue that private sector decisions sometimes lead to inefficient macroeconomic outcomes which require active policy responses by the public sector, in particular, monetary policy actions by the central bank and fiscal policy actions by the government, in order to stabilize output over the business cycle. Keynesian economics advocates a mixed economy – predominantly private sector, but with a role for government intervention during recessions. Roberto Pasca di Magliano

13. Macroeconomics–Aggregate Demand curve Roberto Pasca di Magliano

14. Macroeconomics–Aggregate Demand, dept role A Post-Keynesian theory of aggregate demand emphasizes the role of dept, which it considers a fundamental component of aggregate demand; the contribution of change in debt to aggregate demand is referred to by some as the credit impulse. Aggregate demand is spending, be it on consumption, investment, or other categories. Spending is related to income via: • Income – Spending = Net Savings • Rearranging this yields: • Spending = Income – Net Savings = Income + Net Increase in Debt In words: what you spend is what you earn, plus what you borrow: if you spend $110 and earned $100, then you must have net borrowed $10; conversely if you spend $90 and earn $100, then you have net savings of $10, or have reduced debt by $10, for net change in debt of –$10. Roberto Pasca di Magliano

15. Macroeconomics–Aggregate Demand, dept role implication From the perspective of debt, the Keynesian prescription of government deficit spending in the face of an economic crisis consists of the government net dis-saving (increasing its debt) to compensate for the shortfall in private debt: it replaces private debt with public debt. Other alternatives include seeking to restart the growth of private debt ("reflate the bubble"), or slow or stop its fall; and dept relief, which by lowering or eliminating debt stops credit from contracting (as it cannot fall below zero) and allows debt to either stabilize or grow. This has the further effect of redistributing wealth from creditors (who write off debts) to debtors (whose debts are relieved). Dept sustaibility (or service to dept) depends on the country’s credibility in the world capital market Roberto Pasca di Magliano