Selling Labor Services

Some of the income that households earn from selling labor services is saved. There is therefore a link, through the household sector, between the labor market and the credit market. So we can follow a connection from the production of goods and services to the supply of credit: if firms produce more, they generate more labor income, so there is more saving supplied by households to the credit market. There is also a link from the markets for goods and services to the demand for credit: firms borrow to purchase investment goods. These markets are also linked—directly or indirectly—to foreign exchange markets. Whenever firms purchase imported goods, such as oil, this generates a demand for foreign exchange. When firms expand output, demand more labor, and so generate additional household income, households spend some of this income on imports, again generating a demand for foreign exchange. When households and firms in other countries want to buy our goods and services, that generates a supply of foreign exchange. And many transactions in credit markets also generate a demand for or supply of foreign exchange. Comparative Statics in an Interconnected World We could go on, but the point should be clear: the markets in every economy are intimately interconnected. This has a critical implication for our study of macroeconomics, which is that it both complicates and enriches our comparative static analyses. When a shift in supply or demand in one market affects the equilibrium price and quantity in that market, there are changes in other markets as well. [1] In this section, we show how these interactions across markets help us understand the propagation of the 2008 crisis from the US housing market to the economies of the world. We have already hinted at some of these linkages, but now we make them more explicit. Housing and Credit Markets in the 2008 Crisis The story began with the first comparative static example that we looked at: a leftward shift in demand for housing. Potential buyers of houses started worrying that the futureprice of houses would decrease. This made people more reluctant to buy houses. Meanwhile, a tightening of lending standards made it harder for people to obtain loans.