What is macroeconomics?
Microeconomics studies one buyer, one firm or one market. Macroeconomics studies the whole economy: total output, total income, total employment and the general price level.
Big questions: Why do some years have more jobs than others? Why do prices of almost everything rise together? To answer them we first learn to count the total output of a country. That count is national income.
Consumption goods and capital goods
A final good is bought by its final user and will not be processed or resold in the same year. Final goods are of two types.
- Consumption goods: meet our wants directly. Bread, milk, clothes, a TV bought by a family. Some are used up at once (non-durable: food); some last years (durable: fridge).
- Capital goods: fixed assets used again and again to produce other goods. Machines, tools, buildings, a tractor, a factory's delivery van. They lose value slowly through use.
Same good, different use: a car bought by a family is a consumption good; the same car bought by a taxi company is a capital good. The use decides the type, not the thing.
Final goods and intermediate goods
Intermediate goods are bought by one firm from another and used up (or resold) in the same year. Wheat bought by a miller, flour bought by a baker, electricity used by a factory.
Farmer sells wheat ₹40 → miller sells flour ₹70 → baker sells bread to a family ₹100. If we add 40 + 70 + 100 = 210, the wheat is counted three times. This mistake is called double counting. So national income counts only final goods (₹100), or the value added at each stage (40 + 30 + 30 = 100).
How to tell them apart
Ask two questions: Who bought it? For what? Bought by a household for its own use → final. Bought by a firm for investment (a machine) → final (capital good). Bought by a firm to use up in production or to resell this year → intermediate.
Stocks and flows
A stock is a quantity measured at a point of time: wealth, capital, money supply, water in a tank, your bank balance on 31 March.
A flow is measured over a period of time: income per month, national income per year, investment per year, depreciation, spending.
| Stock | Flow |
|---|---|
| Capital | Investment |
| Wealth | Income |
| Money supply | Spending of money |
| Population on 1 March | Births per year |
Flows change stocks: investment (flow) adds to the capital stock.
Gross investment, depreciation and net investment
Investment (capital formation) = addition to the stock of capital during a year: new machines, buildings, and also an increase in stocks of unsold goods (inventory).
Depreciation (consumption of fixed capital) = fall in the value of capital because of normal wear and tear and expected obsolescence (a machine going out of date). It does not include accidents or floods.
Gross investment = total new capital goods in the year. Net investment = gross investment − depreciation.
If gross investment 3, depreciation 1 → net investment 2, capital stock grows. If gross investment equals depreciation, net investment is zero: we only replace worn machines.
Key formulas and definitions
- Net investment = Gross investment − Depreciation
- Capital stock (end of year) = Capital stock (start) + Net investment
- Value of final output = Sum of value added at every stage
Worked examples
1. Classify: (a) flour bought by a restaurant, (b) flour bought by a family, (c) an oven bought by a bakery.
(a) Intermediate: used up in making food for sale. (b) Final consumption good. (c) Final capital good: used for years to make bread.
2. A farmer sells cotton for ₹200 to a mill; the mill sells cloth for ₹500 to a tailor; the tailor sells shirts for ₹900 to families. What is the value of final output?
Only the shirts are final: ₹900. Adding 200 + 500 + 900 = 1600 would be double counting.
3. Gross investment ₹600 crore, depreciation ₹150 crore. Find net investment.
Net investment = 600 − 150 = ₹450 crore.
4. Capital stock on 1 April 2025 is ₹5000 crore. Gross investment in the year is ₹800 crore and depreciation ₹300 crore. Find the capital stock on 1 April 2026.
Net investment = 800 − 300 = 500. New stock = 5000 + 500 = ₹5500 crore.
5. Say whether stock or flow: (a) exports of India in 2025, (b) foreign exchange reserves on 31 March, (c) interest on a loan.
(a) Flow (over a year). (b) Stock (at a point). (c) Flow (earned over a period).
6. Net investment is ₹0. What does it tell you?
Gross investment exactly equals depreciation: new machines only replace worn-out ones, so the capital stock stays the same.
Common mistakes
- Thinking that the name of a good decides if it is final. The use and the buyer decide: a car can be consumption or capital.
- Adding the value of all goods sold in the economy. That counts intermediate goods again and again (double counting).
- Calling income a stock. Income is always per period, so it is a flow; wealth is the stock.
- Including loss from fire or flood in depreciation. Depreciation is only normal wear and tear and expected obsolescence.