Welcome to the video explaining the macroeconomic flow between agents from two complimentary theoretical perspectives. Social economics and institutional economics. It will help you to understand why the first theory speaks about the economy as being embedded in society and. And how the second theory connects households, firms, and the state through institutions. In social economics we understand the economy is embedded in society. This implies that we explicitly include the community economy in the picture next to the market and the state. Households are a part of communities and as such can be considered to have a social contract with each other and with the government and firms. A social contract is an implicit agreement about rights and duties toward each other and about the distribution of costs and benefits in the economy. Social economist Albert Harshman indicated that the social contract between state firm and households has three forms. Exit, meaning that you have the choice of not to engage in a transaction. Voice, meaning you can collectively demand certain rights and distributions. And loyalty, which stands for citizens' engagement with each other in the communities, and what it means for their economic choices. Finally, by explicitly including communities and nature, social economics also makes explicit that there's lots of unpaid labor supply per households going into communities and nature. For example, through voluntary work, conservation activities, civic activism, and caring for the sick and elderly. In the embedded economy, the social contract with firms helps them to reduce transaction cost. For example, through a good relationships with labor unions which prefer strikes. Moreover, it gives firms legitimacy In other words, a license to operate. If consumers trust firms they will show loyalty, which makes for sales more stable. The social contract with the government consist of political relationships. Through which households express their voice and social relationships. Expressing values such as trust and social cohesion or many studies have shown that economies do better with higher levels of trust, more social cohesion, a more stable political relationships. Finally, there's the community economy. It provides labor to the labor market and unpaid labor services to itself and to nature through activities for the conservation of nature, so this is crucial for maintaining the embeddedness of the economy in society and nature. Necessary for the economy to flourish, according to social economists. If we don't care for nature, global warming may reduce agricultural production and the availability of fresh water, for example, the diagram, summarizes what I have just explained. It shows the Embedded Economic Flow. The previous video showed you the basic of a flow diagram, remember. It also has households, the government and firms, and it flows of labor L, consumption C, income Y, and net government expenditures G minus T. This one has three extensions. It adds society around the economy and it adds nature as to why circle in which society and economy are embedded. It adds a circle around households, labels, communities. This leads to additional flows of unpaid labor with a symbol of L up, and unpaid consumption with a symbol C up, hence, social economics makes unpaid activities, such as unpaid work, and the consumption of unpaid goods, visible. Now comes the second theoretical perspective. Institutional economics. The macroeconomy theory of institutions looks at institutions that influence economic behaviour collectively. Hence, it studies the effects of institutional change on the economy as a whole. For example, the effect of changes in taxation on consumer expenditures, the big C from the macroeconomic equation in a previous video. Let me take you through an example of such a tax effect analysis. Disposable income is what is left after paying taxes. It can therefore be defined as gross income, Yg, minus taxes paid, T. Of course, people can always consume out of their disposable income. Not out of their gross income. If they do, they will have debts to the tax office. So consumption, C, now uses disposable income, rather than gross income. C = C* which is autonomous consumption as before, but now the propensity to consume, c, is a share out of disposable income, IG minus T. Of course, we can still write it in a simple form as before, so that C = C*+cY. But this time we know that Y is not gross income, but disposable income. As a consequence, when tax is increased, disposable income decreases. And hence, consumption decreases. As a consequence, societies in which the social norm accepts relatively high taxation, as an Scandinavia, disposable income is relatively low. But this is not a problem for aggregate demand in economy, because of high levels of tax revenue, government expenditures on public goods, and welfare policies, can be high as well. So it is basically a matter of the historically developed institutions to determine wether aggregate demand consists of more private consumption and less government expenditures, or the other way around. Similarly, countries have to own social norms about the legitimacy to borrow for purchasing consumer goods or first save the money up for it. When a country has a strong institutions favoring consumerism, fashion, materialism and status, it's likely that people borrow in order to spend. This will induce an increase in aggregate consumption, this is not compensated by declining any of the other variables in a micro economic equation. So it will boost GDP. But there's a hidden cost, namely consumer debt. In future, consumers will need to pay back there debt. And this will require more savings enhance less consumption. So the increase in GDP can only be temporary. More consumption now, when relying on credit, will imply lower consumption later, when a debt must be paid back, plus interest. The diagram on this slide summarizes what I've just explained. As you see on the left-hand side, informal institutions are now added as a whole new source of influence on the economic behavior, for example, consumer reason. There are now also additional flows in the diagram between the government on the one hand and households and firms on the other hand. These are labelled, FI, for Formal Institutions. For example, a high or a low text regime. Which immediately affects the size of the text flows. Finally, I've edit a block called RoW. This means rest of the world. I've edited here, because we should not forget that economies trade with each other. This block now allows me to add flows of imports IM and exports EX. Of course, this is not only relevant in institutional economics, but also in the other theoretical approaches. But trade is strongly affected by institutions, so it's meaningful to add it here. This ends the video on the social and institutional theories of the macroeconomic flow. The next two videos will each explain macroeconomic flow from two more theories. Both Keynesian economics and neoclassical economics. John Maynard Keynes was a typical macroeconomist. So you might want to pay extra attention to the next video. His work in the 1930s and 1940s, changed macroeconomics in a fundamental way.