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Chapter 30 Economic growth

Chapter 30 Economic growth. David Begg, Stanley Fischer and Rudiger Dornbusch, Economics , 8th Edition, McGraw-Hill, 2005 PowerPoint presentation by Alex Tackie and Damian Ward. Economic growth is. Often measured by the rate of change of real GDP although this has many deficiencies

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Chapter 30 Economic growth

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  1. Chapter 30Economic growth David Begg, Stanley Fischer and Rudiger Dornbusch, Economics, 8th Edition, McGraw-Hill, 2005 PowerPoint presentation by Alex Tackie and Damian Ward

  2. Economic growth is • Often measured by the rate of change of real GDP • although this has many deficiencies • it omits output that is not bought/sold • e.g. leisure, pollution, congestion • it also neglects income distribution • so higher GDP per capita does not necessarily mean greater happiness • but it helps.

  3. The production function... • shows the maximum output that can be produced using specified quantities of inputs, given existing technical knowledge • Output = f(capital • labour • land • raw materials • technology)

  4. Increasing output • Capital • output per worker may increase with capital per worker • Labour • population growth • participation rates • human capital • Land • fixed supply, but quality may be improved

  5. Increasing output (2) • Raw materials • important distinction between • depletable resources (coal, oil) • renewable resources (timber, fish) • Technical knowledge • inventions, R&D • Economies of scale may reinforce the long-run growth process

  6. Technical knowledge • The state of technical knowledge changes through time because of: • inventions • embodiment of knowledge in capital • learning by doing • Research and development (R&D) • patent systems address a market failure which otherwise would lead to there being too little R&D.

  7. Growth and accumulation • Suppose Y = A × f(K, L) • i.e. variable inputs capital (K) and labour (L) combine to produce a given output • A represents technical knowledge • At very low levels of income, savings may be zero as all resources are needed for consumption • so capital cannot be created through investment • and output may not be able to grow through time.

  8. Theories of growth: some key terms • Along a steady-state path • output, capital and labour are all growing at the same rate, so output per worker and capital per worker are constant. • Capital-widening • extends the existing capital per worker to new extra workers. • Capital deepening • raises capital per worker for all workers.

  9. The Solow (neoclassical) growth model • Assume • labour grows at a constant rate n • constant savings ratio s • capital per worker is k; this is constant in the steady state • adding more capital per worker increases output per worker (y) • but with diminishing returns.

  10. y nk shows the investment per person that maintains capital per person while labour grows nk Y* sy E y shows output per person sy shows both saving and investment per person In the steady state E, investment is just sufficient to keep capital per person constant at k*. k* Per capita output is y*, and output and capital grow with population. The Solow (neoclassical) growth model Output per person, y Capital per person, k

  11. Suppose the original steady state is at E. y** s'y y* An increase in the savings ratio to s' F E takes the economy to a new steady state at F. k* k** A higher savings rate y nk sy Output per person, y Capital per person and output per person have increased ... Capital per person, k but the growth rate is unchanged … output and labour continue to grow at the rate n.

  12. The convergence hypothesis • … asserts that poor countries will grow more quickly than average, but rich countries will grow more slowly than average. • i.e. poor countries should ‘catch up’ • but social and political differences may enable some economies to catch up more effectively than others.

  13. Endogenous growth theory • … recognises that there may be significant externalities to capital • known as ‘endogenous’ growth theory because it suggests that growth may depend on parameters than can be influenced by private behaviour or public policy • governments should subsidise human and physical capital formation

  14. The costs of economic growth • Malthus in the 18th century warned of limits to growth • but he underestimated the potential impact of technical change • The price system helps to ensure a proper use of finite resources • Growth may bring costs • pollution, congestion, poor quality of life • But lack of growth may impose costs also • The assessment of the desirable growth rate remains a normative issue

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