September 2, 2000  This month thousands of students will begin attending economics classes at high schools, colleges, and universities around the world.  For some of these students it will be the first time they have ever been exposed to the rigors of formal economics instruction.  They will likely be enrolled in Economics 101 -- Principles of Economics.  Others will be in their second or higher year of course work.  Those students will be taking upper division theory and advanced courses in various fields of specialization such as money and banking, international trade and finance, and environmental economics.  A much smaller number of students will have made it to graduate school in economics, business, or international relations.  Some of those students will be teaching assistants (helping younger students learn the principles) or research assistants (helping their professors with publishing projects).

Economics has recently become a more common major of study among college students.  Two years ago The Wall Street Journal published Tristan Mabry's article focusing on the growing popularity of economics at leading colleges and universities in the United States.  According to the article,  "The dismal science is in vogue again on campus.  After years of trailing history, English and biology as the top undergraduate major, economics is enjoying a surge in popularity with college students, especially at the nation's most elite institutions.  Economics, once considered one of the more difficult subjects to grasp, is the top major at Harvard, Princeton, Columbia, Stanford and the Universities of Pennsylvania and Chicago; second at Brown, Yale and the University of California at Berkeley; and third at Cornell and Dartmouth."

What accounts for the increasing interest in a discipline that is notorious for causing anxiety, depression, and nausea with its bewildering maze of analytical axioms, esoteric blends of science and philosophy, and heavy reliance of quantitative methods?  According to the article, one reason appears to be global prosperity.  Contemporary students are focused on their careers.  They rank a good job and high future income as the main reasons for attending college; and  they perceive economics to be a good vehicle toward those ends.  When Main Streets and Wall Streets around the world are thriving, globally oriented companies hire more economists.  The average starting salary for graduating economics majors at one of these companies is just over US $35,000.  That figure is higher than most other undergraduate majors, and starting salaries are higher for those with Masters degrees and Ph.D.'s.

Economics is also perceived as an excellent undergraduate major for someone pursuing a post-graduate law degree.  "Of all the majors, economics ranks in the top four or five consistently year after year for both applicants and offers made,"  said Edward Tom, director of admissions at the University of California at Berkeley's Boalt law school, to the Journal's reporter Mabry.  "Logical reasoning and analytical skills are critical to legal studies," added Tom.  Not surprisingly, economics majors average the highest ranking score of 155 out of a possible 180 on the Law School Admissions Test (LSAT).

Another more subtle reason for the growing popularity of economics is the end of the Cold War.  "Now that the Cold War is over," stated Yale University Professor Merton Peck, "Economic issues become the central core of policy debates."  Students are no longer focused on the ideological polemic of communism versus capitalism.  These days they debate the efficacy of fixed versus variable exchange rate systems.  Domestic fiscal policy, government debt, the role of central banks, and trade issues are the main topics of discussion over coffee at university cafeterias.  Also, environmental issues are very much on the minds of young people, and economics has much to say about how to improve air and water quality, protect endangered species, and preserve wilderness regions.

A third reason that economics has become more popular among students is that its importance and power to explain events is more commonly understood than it used to be.  The famous British economist John Maynard Keynes is often quoted from his landmark book, The General Theory of Employment, Interest, and Money (1936):  "The ideas of economists and political philosophers, both when they are right and when they are wrong,  are more powerful than is commonly understood.  Indeed, the world is ruled by little else.  Practical men, who believe themselves to be quite exempt from any intellectual influences, are usually the slaves of some defunct economist."  Sixty four years later the secret is out.  "Increasingly, economic issues are presented to citizens as an important determinant of how their life is going to play out,"  Professor Michael K. Salemi, chairman of the economics department at the University of North Carolina, is quoted in The Wall Street Journal article.

Economics is now considered to be a core subject at most high schools.  It's no longer a secret to young people that economic events and policies are powerful forces in shaping the course of human destiny.  Increasingly more high school students have already taken some economics before they enter college.  For these reasons today's first year college students are less intimidated by economics than they are intrigued by it.  They have a genuine thirst to learn more about how the economy works and the institutions which monitor and strive to steer it.

The freshman or sophomore students taking Economics 101 at colleges and universities in the academic year 2000/2001 will be learning more about the global economy than their predecessors.  Greater emphasis is being placed on the world economy, because global economic integration has become an important determinant of the macroeconomic performance of nations.  More and more nations around the world are opening their economies to international trade, diversifying their export base, and attracting foreign investment.  The foreign trade sector is now the fastest growing segment of most economies.  Within any given country, the financial health of its companies and the job security of their workers are increasingly dependent upon foreign sources for inputs and foreign sales for revenues.  Consumers are purchasing imports and traveling internationally more than ever before.

According to Michael Mussa, Economic Counselor and Director of Research IMF, "Global economic integration is not a new phenomenon."  However, "The degree of economic integration among different societies around the world has generally been rising.  Indeed, during the past half century, the pace of economic globalization has been particularly rapid.  And, with the exception of human migration, global economic integration today is greater than it ever has been and is likely to deepen going forward."

In his paper presented on August 25 in Jackson Hole, Wyoming at the international symposium on "Global Opportunities and Challenges," Mr. Mussa identified three fundamental factors that are driving economic globalization  The first is cost reducing improvements in the technology of transportation and communication.  Secondly, the tastes of individuals and societies have generally favored taking advantage of the opportunities provided by these declining costs.  Third, public policies have significantly influenced the character and pace of economic integration.  Mussa noted that during the past 50 years of remarkable economic growth, "World trade in goods and services has expanded at nearly double the pace of world real GDP.  As a result the volume of world trade in goods and services (the sum of both exports and imports) rose from barely one-tenth of world GDP in 1950 to about one-third of world GDP in 2000.  By this measure -- and by others as well -- there has indeed been an increase in the degree of global economic integration through trade in goods and services during the past half century."

Globalization is controversial.  Not everyone views the growing trend toward greater international economic integration as a positive development.  Anti-globalists perceive international institutions such as the World Trade Organization, the International Monetary Fund, and the World Bank as one-world entities that place business priorities over human rights, labor standards, and environmental protection.  Technologically driven globalization is an engine of growth and creates many new opportunities, but it displaces relatively inefficient firms and their workers in the process; and it causes environmental and social upheaval. These unintended consequences of progress, heightened global competition, and greater efficiency are at the crux of the controversy.

At the same symposium in Wyoming where Mr. Mussa presented his paper, Alan Greenspan, Chairman of the Federal Reserve Board of Governors, addressed the issue in his remarks:  "Globalization as most economists understand it involves the increasing interaction of national economic systems.  Of necessity, these systems are reasonably compatible and, in at least some important respects, market oriented.  Certainly, market-directed capitalism has become the paradigm for most of the world, as central-planning regimes have fallen into disfavor since their undisputed failures around the world in the four decades following World War II.  But there remains an active intellectual debate over the elements of capitalism that are perceived as most essential for a productive and civil society. . . . .   The conceptual battleground has moved far from the stark terms of the earlier capitalist-socialist confrontations. . . . .  The debate has now shifted to the nature and extent of actions appropriate for governments to take in order to ameliorate some of the less desirable characteristics that are perceived to accompany unfettered competition."

This year's crop of Economics 101 students will have the opportunity to participate in this emerging debate for the new millennium.  The key analytical model they will use to analyze the performance of market oriented economies in a global context is that of Aggregate Demand and Aggregate Supply.  The AD-AS model is included as one or more chapters in virtually every leading introductory textbook.  It is displayed by a diagram which measures a given country's price level on the vertical axis and real GDP on the horizontal axis.  Aggregate Demand (AD) is comprised of consumer spending, business investment, government purchases, and net exports; it is inversely related to the general price level.  Simply put, people will buy more quantity (Q) at lower prices (P), all other things held constant.  Aggregate Supply (AS), on the other hand, is directly related to the general price level.  Simply put, business firms will supply more at higher prices. (See Diagram Below).

Market oriented economies will naturally seek the equilibrium level of output and prices (where the AD and AS lines cross).  Nominal GDP (P1xQ1) is shown by the yellow shaded area.  If AD were to increase (or decrease), the AD curve would shift outward (or inward).  Nominal GDP would rise (and fall) accordingly.  So would the real GDP, but not by as much because real GDP measures output at constant (base year) prices.  Fiscal, trade, and monetary polices are used by governments on the margin to find an acceptable level of real GDP near full employment without too much inflation or too much pollution.  This becomes more apparent when we superimpose the AD-AS model on the playing field of The Global Economics Game.

The image above displays the AD-AS model superimposed on the playing field of The Global Economics Game.  Each square in the playing field represents a given country's macroeconomic performance.  Moving from left to right indicates faster economic growth.  Moving up the playing field indicates higher prices.  Cyclical unemployment rises and falls inversely with growth; when GDP increases, cyclical unemployment falls and vice versa.  However, structural unemployment can be caused by increases in aggregate supply (from AS0 to AS1); and excessive unbridled growth can cause too much pollution (E2).  Because economics involves trade-offs and conflicting goals, economic policy is constantly striving for an optimal mix of output, unemployment, prices, and pollution.  That optimal mix is assumed to be the very center square of the playing field (E0).  Moving away from the center square results in lower scores.  The red numbered zones in the corners indicate negative scores and are highly undesirable.

For example, contrived commodity shortages, natural disasters, and labor strikes can reduce Aggregate Supply (from AS0 to AS2) so that an economy would move from E0 to E7 toward stagflation.  On the other hand, cost saving technological breakthroughs and greater competition from freer trade have the effect of increasing AS so that an economy would move toward E3 and the cybernation corner.  A deficiency in Aggregate Demand (AD) would drive an economy in the direction of E5 and depression in the lower left corner.  Excessive AD would move an economy in the opposite direction diagonally toward E1 and hyperinflation in the upper right corner.

Returning to the issue of globalization, the trade-offs are apparent from the playing field's matrix.  The benefits derived from technologically driven globalization are lower prices, more output, and greater efficiency.  [An economy moves diagonally downward toward the lower right corner of the playing field].  However, the costs are structurally displaced workers, the social disharmony caused by greater income inequality, and the damage done to the environment where external costs are unaccounted for.  If the public perceives that the economy is moving too far diagonally down or too rapidly to the right on the playing field, then they will call for public policy measures to reverse the trend.  Trade restrictions and environmental regulations can be used to do this.  Economics 101 teaches that it makes more sense to subsidize and re-train workers who have been displaced by market driven changing patterns of trade.  However, it also teaches that it makes perfectly good sense to use supply-side regulatory policies to thwart growth if its costs to the environment are exceeding its benefits on the margin.  (Technically, this is called internalizing an externality).  The objective is to equate marginal benefit and marginal cost.

The marginal benefit equal to marginal cost principle also applies to demand-side macroeconomic policy.  Students taking Economics 101 this year will begin to understand why central banks in the industrialized world have recently been using monetary policy to tighten credit and raise interest rates (See Table Below).  The perceived enemy is potential future inflation.  Strong aggregate demand can generate economic expansion, but excessive aggregate demand can cause inflation.  When central bank policy makers are convinced that the costs of future inflation will exceed the benefits of cyclical expansion,  they will implement a restrictive monetary policy to curtail aggregate demand.  Higher interest rates make it more difficult for consumers and businesses to borrow and spend.

Interest Rates: 3-month money market (annual percent)
Year Ago
United States
Source: The Economist (August 26th - September 1st 2000)

Market oriented economies are notorious for their unpredictability, instability, and cyclical fluctuations.  The myriad of forces driving aggregate demand and aggregate supply are constantly in flux.  Well intended macroeconomic policy measures run the risk of being ill-timed -- either too little and too late or too much and too soon.  An overly restrictive monetary policy, for example, has the potential to precipitate a recession.  Increased globalization adds still another dimension of uncertainty to the equation.  Monitoring the macroeconomic performance of nations, evaluating the soundness of fiscal, trade, and monetary policies, and balancing conflicting goals in a global setting are the core topics of modern economics that will mystify and engage this year's students.

It is indeed a fascinating subject.  Those of us who have chosen economics for our careers never seem to become bored by it,  because it perpetually addresses the most important social, business, and personal issues of the day.  In that sense Economics 101 doesn't change over time -- only the issues do.  Most of the students taking Economics 101 in the year 2000 will derive a great deal of benefit from the experience.  Even though it will cost them time and money,  the most important economic axiom they will learn is that anything is worth doing if the benefits exceed or are equal to the costs.

Sources and Recommended Links:

Mabry, Tristan. "Economics Enjoys a Bull Run at Colleges." (The Wall Street Journal, November 30, 1998).

Mussa, Michael. "Factors Driving Global Economic Integration." August 25, 2000)

The Federal Reserve Board. "Remarks by Chairman Alan Greenspan." (August 25, 2000)

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