Module XV·Article II·~1 min read
Microfoundations: from Individuals to Aggregates
Micro Foundations for Macro and Investment
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Microfoundations: from Individuals to Aggregates
Modern macroeconomics is built on microfoundations — aggregated behavior is derived from optimizing decisions of individuals and firms.
Why microfoundations? Lucas critique: aggregated relationships change when policy changes. Structural parameters — at the micro level.
Consistency: macro models must be compatible with micro theory.
From micro to macro
Aggregate demand: the sum of individual demands, depending on income, prices, expectations.
Aggregate supply: the sum of firms’ outputs, maximizing profit.
Savings: the result of intertemporal optimization of households.
Investment: the result of firms’ optimization, taking into account capital costs.
Representative Agent
Model: the whole economy is represented by a single “typical” agent.
Simplification: enables analytical solutions.
Criticism: ignores heterogeneity, distribution, aggregation issues.
Heterogeneous Agents
Modern approach: models with different agents (by wealth, income, preferences).
Advantages: better explains dynamics, distribution, policy effects.
Complexity: computationally intensive models.
For the Investor
Understanding macro: how micro parameters (elasticities, preferences) determine macro responses.
Policy analysis: structural models for evaluating policy changes.
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