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Explaining Technological Change, Population, and Growth in Economics

This lecture explores the causes of the technological revolution and its impact on income, living standards, and population growth. It discusses economic models, building an economic model, equilibrium, and the characteristics of a good economic model. The lecture also covers key concepts such as ceteris paribus, incentives, relative prices, and economic rent. It explains the factors behind the Industrial Revolution and the firm's choices in technology selection.

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Explaining Technological Change, Population, and Growth in Economics

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  1. EC107 Economics 1 2019-20 Technological Change, Population, and Growth This Lecture follows closely CORE: Unit 2 Context: the recent rapid, sustained increase in income and living standards is largely due to technological progress (see Lecture 1) However, these major changes started very suddenly, about 200 years ago. How did the technological revolution start? Why did it not start earlier? Robin Naylor, Department of Economics, Warwick

  2. EC107 Economics 1 2019-20 Aim of this lecture We will use economic models to explain the rapid growth in real wages and population in the last 2 centuries, and the stagnation in the centuries before that. Robin Naylor, Department of Economics, Warwick

  3. EC107 Economics 1 2019-20 What do we mean by ‘models’ in Economics and why do we need them? What happens in an economy depends on the actions and interactions of millions of people. We use models to see the big picture. • To create an effective model we need to distinguish between: • the essential features of the economy that are relevant to the question we want to answer, which should be included in the model • unimportant details that can be ignored • Models necessarily omit many details. This is their feature, not a bug. Robin Naylor, Department of Economics, Warwick

  4. EC107 Economics 1 2019-20 Building an Economic model Capture the elements of the economy that we think matter for our question Describe how agents act, and how they interact with each other and with the elements of the model Determine the outcomes of these actions (often the ‘equilibrium’) Study what happens to the (equilibrium) outcomes when conditions change Equilibrium of a model = situation that is self-perpetuating. Something of interest does not change unless an external force is introduced that alters the model's description of the situation. Robin Naylor, Department of Economics, Warwick

  5. EC107 Economics 1 2019-20 What does a good Economic model look like? • It is clear: it helps us better understand something important • It predicts accurately: its predictions are consistent with evidence • It improves communication: it helps us to understand what we agree (and disagree) about • It is useful: We can use it to find ways to improve how the economy works Robin Naylor, Department of Economics, Warwick

  6. Key concepts EC107 Economics 1 2019-20 • Less is more: Ceteris paribus = simplification that involves "holding other things (in/outside the model) constant”. • Incentives = economic rewards or punishments, which influence the benefits and costs of alternative courses of action. • Relative prices help us compare alternatives. • Economic rent = the benefit received from a choice, taking into account the next best alternative(reservation option or ‘opportunity cost’) • Forms the basis of how we make choices. Robin Naylor, Department of Economics, Warwick

  7. EC107 Economics 1 2019-20 Explaining Growth and the Industrial Revolution • Why did the Industrial Revolution happen first in the 18th Century, on an island off the coast of Europe? • There are many alternative explanations • relatively high cost of labour & cheap local sources of energy • Europe’s scientific revolution and Enlightenment • political and cultural characteristics of nations as a whole • cultural attributes such as hard work and savings • abundance of coal and access to colonies Robin Naylor, Department of Economics, Warwick

  8. Modelling Technology EC107 Economics 1 2019-20 Consider a situation in which there are 5 different ways to produce 100 metres of cloth, using labour (number of workers) and energy (tonnes of coal) as inputs. In the diagram, E-technology is relatively labour-intensive; A-technology is relatively energy-intensive. Robin Naylor, Department of Economics, Warwick

  9. Firm’s choices: avoiding inferior technologies EC107 Economics 1 2019-20 Firms choose between technologies (specific combinations of inputs) to produce outputs. Some technologies are dominated by other technologies. But how does the firm choose between A, B and E? Robin Naylor, Department of Economics, Warwick

  10. Firm’s choices: minimising cost EC107 Economics 1 2019-20 Firms aim to maximise their profit, which means producing cloth at the least possible cost. This is why the firms’ choice of technology depends on economic information about relative prices of inputs. Robin Naylor, Department of Economics, Warwick

  11. Firm’s choices: iso-cost lines EC107 Economics 1 2019-20 Iso-cost lines = combinations of inputs that give the same cost (slope = relative price of inputs) We can derive it from the cost equation by re-arranging it: The firm will choose the least-cost technology. Robin Naylor, Department of Economics, Warwick

  12. Why might a firm’s choices change with relative prices? EC107 Economics 1 2019-20 Technology was labour-intensive before the Industrial Revolution (technology B). Why? Assume that output is the same at A and B. In the diagram, labour is initially cheap: wages are relatively low. Hence the iso-cost lines have a shallow slope and the B-technology is preferred to the A-technology as B lies on a lower iso-cost line. Robin Naylor, Department of Economics, Warwick

  13. Why might a firm’s choices change with relative prices? EC107 Economics 1 2019-20 Assume that wages now rise. Hence the iso-cost lines have a steeper slope. Which technology is now preferred: A or B? What happens to the firm’s profits? Technology was labour-intensive before the Industrial Revolution (technology B). Increase in wages relative to price of coal in Britain create the incentive to innovate more capital-intensive technologies (technology A). Robin Naylor, Department of Economics, Warwick

  14. EC107 Economics 1 2019-20 The benefits of innovation Because relative prices of inputs have changed, a firm that will switch to the new cost-minimising technology will have an advantage over its competitors. The change in profit is equal to the fall in costs associated with adopting the new technology. This is the innovation rent. Robin Naylor, Department of Economics, Warwick

  15. EC107 Economics 1 2019-20 Creative destruction The first adopter is called an entrepreneur. An entrepreneurial firm is willing to try out new technologies and to start new businesses. The first adopters will enjoy Schumpeterian (innovation) rents. Creative destruction = the process by which old technologies and the firms that do not adapt are swept away by the new, because they cannot compete in the market. Robin Naylor, Department of Economics, Warwick

  16. Technological change and the Industrial Revolution EC107 Economics 1 2019-20 • One of the first sectors to undergo technological change was textiles • Before the Industrial Revolution, making clothes for the household were time-consuming tasks • By the late 19th century, a single spinning mule operated by a very small number of people could replace more than 1,000 spinsters (see also Spinning Jenny; Water-powered textile mill) • These machines were powered by water wheels and later by coal-powered steam engines instead of using human labour Robin Naylor, Department of Economics, Warwick

  17. Why was Britain first? EC107 Economics 1 2019-20 An important factor English wages were higher than wages elsewhere, and coal was cheaper in Britain than in the other countries in the chart Robin Naylor, Department of Economics, Warwick

  18. Why was Britain first? EC107 Economics 1 2019-20 The combination of the capacity to innovate and changing relative prices of inputs led to a switch to energy-intensive technology. Robin Naylor, Department of Economics, Warwick

  19. Explaining long-term stagnation prior to the Industrial Revolution EC107 Economics 1 2019-20 To help us explain the stagnation in population and living standards before the 18th century and the Malthusian Trap, we will benefit from understanding the properties of Production Functions. 2. Period of high real wages leads to rising population . 1. Low population leads to rising real wages. 3. Rising population leads to falling real wages. Robin Naylor, Department of Economics, Warwick

  20. The Diminishing average product of labour EC107 Economics 1 2019-20 Production function shows the maximum output for a given set of inputs and for a given technology. In the diagram, if we hold one input (land) fixed, and expand the other input (labour), the average output per worker is going to fall. This is the law of diminishing average product of labour. Robin Naylor, Department of Economics, Warwick

  21. EC107 Economics 1 2019-20 Malthus’ model Key ideas: Population expands if living standards increase But the law of diminishing average product of labour implies that as more people work on the land, their income will inevitably fall In equilibrium, living standards will be forced down to subsistence level. Population and income will stay constant in the long run. Robin Naylor, Department of Economics, Warwick

  22. Malthus’ Law EC107 Economics 1 2019-20 Model predicts a self-correcting response to new technology. In the long run, an increase in productivity will result in increased population but not increased wages. Robin Naylor, Department of Economics, Warwick

  23. Was Malthus’ correct? EC107 Economics 1 2019-20 As the population falls between 1280 and 1490, real wages rise. This is followed by rising population and falling wages to 1600. The relationship between real wages and population in England between 1280-1600 show evidence of this “Malthusian trap”. But what about the subsequent “hockey-stick” growth? Robin Naylor, Department of Economics, Warwick

  24. Escaping the Malthusian trap EC107 Economics 1 2019-20 • 3 conditions are required to stay in the Malthusian trap: • Diminishing average product of labour • Rising population in response to increases in wages • An absence of improvements in technology to offset the diminishing average product of labour • The permanent technological revolution meant that third condition no longer holds, and explains why Britain was able to escape the Malthusian trap. • A further factor was that workers’ wages became more protected through social and political forces. Can you identify these? Robin Naylor, Department of Economics, Warwick

  25. Escaping the Malthusian trap EC107 Economics 1 2019-20 Robin Naylor, Department of Economics, Warwick

  26. Summary of Lecture 2 EC107 Economics 1 2019-20 • Introduction to economic models • Application of models for insights on the technological revolution and the ‘hockey-stick’ of economic growth: • Model of a firm: high wages (relative to capital, including energy) motivated technological innovation • Malthus’ model: permanent technological change enabled economies to escape economic stagnation • Why did Britain industrialise first? (See Bob Allen video) Robin Naylor, Department of Economics, Warwick

  27. EC107 Economics 1 2019-20 Looking ahead to Lecture 3 • More about models: An economic model of decision making under constraints • How individuals respond to technological change: explaining trends in choices of working hours across time Robin Naylor, Department of Economics, Warwick

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