Chapter

Production and Growth

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Economic Growth Around the World

• Growth rate of real GDP over time– Measures how rapidly real GDP per person

grows over time• Is the economy developing and how fast?

– Typically use average GDP growth rate over intervals of 5 or more years• smooth out short-run fluctuations• shows trend, or long-term, rate of growth

2

Table

The variety of growth experiences

1

3

Country Period Real GDP per personat beginning of period

Real GDP per personat end of period

Growth rate(per year)

JapanBrazilChinaMexicoGermanyCanadaArgentinaUnited StatesIndiaUnited KingdomIndonesiaBangladeshPakistan

1890–20061900–20061900–20061900–20061870–20061870–20061900–20061870–20061900–20061870–20061900–20061900–20061900–2006

$1,408 729670

1,0852,0452,2242,1473,752632

4,502834583690

$33,150 8,8807,740

11,410 31,830 34,61015,39044,260 3,800

35,5803,9502,3402,500

2.76% 2.392.342.242.042.041.881.831.711.531.481.321.22

Productivity: its Role and Determinants

• Productivity– Quantity of goods and services produced from

each unit of labor input (output per unit labor – hours?)

– Output per person (per hour)• Increases in productivity due to:

– Improved technology– “Working smarter” – better educated

• Why productivity is so important– Key determinant of living standards

4

Productivity: its Role and Determinants

• How productivity is determined– Physical capital

• Stock of equipment and structures• Used to produce goods and services

– Human capital• Knowledge and skills that workers acquire

through education, training, and experience

5

Productivity: its Role and Determinants

• How productivity is determined– Natural resources

• Inputs into the production of goods and services• Provided by nature, such as land, rivers, and

mineral deposits

– Technological knowledge• Society’s understanding of the best ways to

produce goods and services

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Real GDP in the United States

2

7

This figure shows quarterly data on real GDP for the U.S. economy since 1965. Recessions—periods of falling real GDP—are marked with the shaded vertical bars.

GNP Growth is Not Steady

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Real GDP (year to year) and Trend Rate of Growth

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US GDP Growth RateSince the Great Recession

TO

REFRESH

| COMPARE

SIGNUP TO:EXPORT DATA| GET FORECAST

TRENDMOV AVGMEANMAXMIN

EMBED CHART

January2010May2013CHART TYPE

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Productivity vs. CompensationEconomic Policy Institute

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13

Income Inequality in Developed CountriesUsing the Gini Coefficient (> G -> Grtr Inequality)

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15

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Economic Growth and Public Policy

• Saving and investment (in new technology)• Raise future productivity

– Invest more current resources in the production of capital

– Trade-off• Devote fewer resources to produce goods and

services for current consumption

• Policy options– Tax cuts for the rich as they save more (> .2)– Savings incentives for all

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Economic Growth and Public Policy

• Diminishing returns and the catch-up effect• Higher savings rate

– More funds available for Investment• Investment - > increase in Capital stock

– Rising productivity (technological shift)– More rapid growth in GDP

• Increases current labor force’s productivity

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The real middle-class challenge - Samuelson

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CEA found:

that inequality isn’t the main cause of sluggish middle-class incomes. It’s poor productivity.

Rhetorical solutions:

• more infrastructure spending;

•better schools;

•simpler taxes;

•more research.

Though some policies may be desirable, there’s no guarantee they will improve productivity. Influencing productivity is hard because it depends on so much (management and workers, technology, market behavior, government policies and more).

Economic Growth and Public Policy

• Diminishing returns and the catch-up effect• Diminishing returns

– Marginal returns on investment:• Benefit (increase in output) from an extra unit of an

input of K

– Marg return declines as the quantity of the input increases

• More mature economies– Smaller increases in productivity with Investment

than “newer” industrializing economies

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Figure

Outputper Worker

Illustrating the production function

1

21

Output per Worker

This figure shows how the amount of capital per worker influences the amount of output per worker. Other determinants of output, including human capital, natural resources, and technology, are held constant. The curve becomes flatter as the amount of capital increases because of diminishing returns to capital

1

1

1. When the economy has a low level of capital, anextra unit of capital leads to a large increase in output.

2. When the economy has ahigh level of capital, anextra unit of capital leads toa small increase in output.

Economic Growth and Public Policy

• Diminishing returns and the catch-up effect• Catch-up effect

– Countries that start off poor– Tend to grow more rapidly than countries that

start off rich• Poor countries

– Low productivity– Even small amounts of capital investment

• Increase workers’ productivity substantially

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Economic Growth and Public Policy

• Diminishing returns and the catch-up effect• Rich countries

– High productivity– Additional capital investment

• Small effect on productivity

• Poor countries– Tend to grow faster than rich countries

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Economic Growth and Public Policy

• Education – Investment in human capital– Gap between wages of educated and

uneducated workers– Opportunity cost: wages forgone– Conveys positive externality

• Problem for poor countries– Brain drain

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Economic Growth and Public Policy

• Health and nutrition – Healthier workers – more productive– The right investments in the health of the

population• One way for a nation to increase productivity and

raise living standards

– Historical trends: long-run economic growth• Improved health - from better nutrition• Taller workers – higher wages – better

productivity

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Economic Growth and Public Policy

• Health and nutrition – Vicious circle in poor countries

• Are poor – Because populations are not healthy

• Populations are not healthy– Because they are poor

» Cannot afford better healthcare and nutrition

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Economic Growth and Public Policy

• Property rights and political stability• Foster economic growth

– Protect property rights• Ability of people to exercise authority over the

resources they own• Courts – enforce property rights

– Promote political stability

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Economic Growth and Public Policy

• Research and development• Knowledge – public good

– Farming methods– Aerospace research

• Air Force; NASA

– Research grants• National Science Foundation• National Institutes of Health

– Tax breaks – Patent system

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Economic Growth and Public Policy

• Population growth• Large population

– Large labor force– More consumers

• Stretching natural resources?• Diluting the capital stock

– High population growth• Reduces GDP per worker

– Promoting technological progress29