© rainer maurer, pforzheim - 1 - prof. dr. rainer maurer macroeconomics 2. the long-run development...

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- 1 -Prof. Dr. Rainer Maurer

MacroeconomicsMacroeconomics

2. The Long-run Development of Economies2. The Long-run Development of Economies

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MacroeconomicsMacroeconomics

2. The Long-run Development of Economies2. The Long-run Development of Economies2.1. The Solow-Swan Model of a Closed Economy2.1. The Solow-Swan Model of a Closed Economy

2.2. Several Doctrines for a Sustainable Steady State2.2. Several Doctrines for a Sustainable Steady State 2.2.1. Steady States and Exhaustible Resources2.2.1. Steady States and Exhaustible Resources 2.2.3. Solow's Constant Capital Rule2.2.3. Solow's Constant Capital Rule

2.2.3. Alternative Doctrines2.2.3. Alternative Doctrines2.3. Understanding Structural Change2.3. Understanding Structural Change2.4. Questions for Review2.4. Questions for Review

Literature: Literature: ◆ Chapter 24, Mankiw, N.G.: Principles of Economics, Harcourt College PublisherChapter 24, Mankiw, N.G.: Principles of Economics, Harcourt College Publisher◆ Kapitel 15, Siebert, Horst; Einführung in die Volkswirtschaftslehre; Kohlhammer.Kapitel 15, Siebert, Horst; Einführung in die Volkswirtschaftslehre; Kohlhammer.◆ Kapitel 27, Abschnitt 9, Baßler, Ulrich, et al.; Grundlagen und Probleme der Kapitel 27, Abschnitt 9, Baßler, Ulrich, et al.; Grundlagen und Probleme der

Volkswirtschaft, Schäfer-Pöschel.Volkswirtschaft, Schäfer-Pöschel.

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2.1. The Solow-Swan Model of a Closed Economy2.1. The Solow-Swan Model of a Closed Economy

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Gleitender 7-jahres Durchschnitt des BIPs BIP

Mrd. €Mrd. € Development of German GDP in Prices of 1995

7-Years Moving Average of GDP Actual GDPSource: SVG, Jg. 2004/5

2,6% p.a.

1,1% p.a.

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Per-Capita-GDP at PPP-Dollar of 2005(Index 1950=100)

- 6 -Prof. Dr. Rainer MaurerSource: Penn World Tables, NBER

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➤ The The Neoclassical Growth Model Neoclassical Growth Model of Solow-Swan:of Solow-Swan:

■Simplified Model of a Closed Economy:Simplified Model of a Closed Economy:

◆The assumptions are identical with the neoclassical The assumptions are identical with the neoclassical macro-model (s. Chapter 2.1.).macro-model (s. Chapter 2.1.).

◆Different Point of View: While the Different Point of View: While the neoclassical neoclassical macromodelmacromodel describes changes within a period describes changes within a period (=(=static modelstatic model), the ), the Solow-Swan-ModelSolow-Swan-Model describes the describes the development of an economy over several periods development of an economy over several periods (=(=dynamic modeldynamic model).).

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➤ Basic ideaBasic idea of the Solow-Swan model (1): of the Solow-Swan model (1):■GDP will grow, if a country is able to GDP will grow, if a country is able to accumulate production accumulate production

factorsfactors from one year to the other: from one year to the other:■Accumulating production factors are not completely worn out Accumulating production factors are not completely worn out

in the production of one period, e.g.:in the production of one period, e.g.:

◆Capital EquipmentCapital Equipment (Machines, Production Facilities) (Machines, Production Facilities)

◆Human CapitalHuman Capital (Knowledge and Abilities of Humans) (Knowledge and Abilities of Humans)

◆Technical Knowledge Technical Knowledge (Blueprints, Incorporated Knowledge)(Blueprints, Incorporated Knowledge)

◆Public GoodsPublic Goods (Legal security, homeland & national security, (Legal security, homeland & national security, transportation infrastructure etc.)transportation infrastructure etc.)

■To To simplifysimplify the analysis, we start with the analysis, we start with keeping all production keeping all production factors but capitalfactors but capital equipment equipment constantconstant..

■Later on, we will analyze, what happens, if one of the other Later on, we will analyze, what happens, if one of the other production factors changes.production factors changes.

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The Basic Idea of the Solow-Swan ModelThe Basic Idea of the Solow-Swan Model ..

Investment > Depreciation

Growth of Capital Stock

+

Payment for Prod. Factors

Savings = Investment

Payment for Consumption of Households

1st Period

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+

The Basic Idea of the Solow-Swan Model The Basic Idea of the Solow-Swan Model ..

+




2nd Period

Consumption of Households

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+


+ +




3rd Period


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➤ Growth Performance after Three Periods:Growth Performance after Three Periods:

= Growth


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➤ How long does GDP growth go on ?How long does GDP growth go on ?

= How long does the capital stock grow ?= How long does the capital stock grow ?

➤ As long as As long as gross investment (gross investment (IItt)) is largeris larger than than capital capital

depreciationdepreciation ((λ*λ*KKtt)) (= yearly wearout of capital equipment): (= yearly wearout of capital equipment):

KKt+1t+1 = K = Ktt + I + Itt – – λ * λ * KKt t (see Chapter 2.1., F. 38)(see Chapter 2.1., F. 38)

➤ Since the capital market interest rate ensures the equivalence Since the capital market interest rate ensures the equivalence of investment and savings, this means that a closed economy of investment and savings, this means that a closed economy grows as long as grows as long as savingssavings are are largerlarger than than capital depreciationcapital depreciation..


> => K=> Kt+1t+1 > K > Ktt

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+ + +


Investment = Depreciation

Steady State!No additional dredge!

= No further Growth of the Capital Stock




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➤ Graphical Exposition of the Solow-Swan-Model:Graphical Exposition of the Solow-Swan-Model:■To simplify the graphical exposition, we assume that To simplify the graphical exposition, we assume that savingssavings

are always a are always a constantconstant fractionfraction “s” of “s” of household incomehousehold income::

■Example: For a savings ratio of 10% (s = 0,1) Example: For a savings ratio of 10% (s = 0,1) and an income of 100 000 € (= Y) savings equal and an income of 100 000 € (= Y) savings equal 10 000 € (s * Y = 0.1 * 100 000 = 10 000). 10 000 € (s * Y = 0.1 * 100 000 = 10 000).

■From the empirical point of view, saving ratios of most From the empirical point of view, saving ratios of most countries lie in the range of 5% - 15%. Germany has a countries lie in the range of 5% - 15%. Germany has a savings ratio of roughly 11%.savings ratio of roughly 11%.

tt

tt

Y*sS

Income*sSavings


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Y

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If this curve describes GDP dependent on the capital stock K,

how will the savings curve look like?

Y(A,B,P,L,H,K)

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S = s * Y(A,B,P,L,H,K)

Y(A,B,P,L,H,K)

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➤ What do households make with their savings?What do households make with their savings?■They offer their savings as credits to the capital market.They offer their savings as credits to the capital market.

➤ Who demands household savings on the capital market?Who demands household savings on the capital market?■FirmsFirms

➤ What equilibrates household savings with firms demand What equilibrates household savings with firms demand for credits?for credits?■The interest rate (market mechanism)The interest rate (market mechanism)


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i*

I = S

The Capital MarketThe Capital Market

i

I(i,K)

I, S

S = s*Y

Excess Supply => Interest decreases.

i1

i2

Excess Demand => Interest increases.

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The Capital MarketThe Capital Market

i

I(i,K)

I, S

S = s*Y

i1

i2

The interest rate equilibrates savings supply of households S=s*Y with

credit demand of firms I(i,K). Therefore savings equal investment: I(i,K) = S = s*Y.

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➤ Consequently, the Consequently, the market mechanismmarket mechanism of the capital of the capital market “takes care” for the market “takes care” for the equivalence of investment and equivalence of investment and savingssavings..

➤ This simplifies the following analysis, since we can This simplifies the following analysis, since we can equateequate savings and investmentsavings and investment..

➤ In other words: Once we have determined savings, we In other words: Once we have determined savings, we have determined investment.have determined investment.

S(Y) = I(i)S(Y) = I(i)


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2.1. The Solow-Swan Model of a Closed Economy 2.1. The Solow-Swan Model of a Closed Economy

S = s*Y= I

K * λ

K * λ = per Period Depreciation of Capital Stock

=> λ = 5/7 = 71% = Depreciation Ratio

5

7

Y(A,B,P,L,H,K)

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K * λ

Up to where will GDP grow, if the capital stock equals Kt?

Kt

S = s*Y= I

Y(A,B,P,L,H,K)

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K*λ

Kt

Yt

Ct

St = It

S = s*Y= I

Y(A,B,P,L,H,K)

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Y

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K*λ

Yt

Ct

Kt * λ

= ΔKt+1 = Kt+1 – Kt

S = s*Y= I

Y(A,B,P,L,H,K)

Kt

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K*λ

Yt

Ct

= ΔKt+1 = Kt+1 - Kt

Kt Kt+1ΔKt+1

Kt * λ

S = s*Y= I

Y(A,B,P,L,H,K)

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Ct+1

= ΔKt+2 = Kt+2 – Kt+1

Kt+2

Yt

Kt ΔKt+2

Kt+1 * λ

S = s*Y= I

Kt+1

Y(A,B,P,L,H,K)

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K*λYt+1 Ct+2

= ΔKt+3 = Kt+3 – Kt+2

Kt+3

Yt

Kt ΔKt+3

Yt+2

Kt+2 * λ

S = s*Y= I

Kt+1 Kt+2

Y(A,B,P,L,H,K)

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K*λYt+1

= ΔKt+4 = Kt+4 – Kt+3

Yt

Kt

Ct+3

Kt+4ΔKt+4

Yt+2

Yt+3

Kt+3 * λ

S = s*Y= I

Kt+1 Kt+2 Kt+3

Y(A,B,P,L,H,K)

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K*λ

s*Y(A,B,P,L,H,K)= I

K *

Y*

C*

K*+1 – K*

= 0

I*t = Kt * λ

Kt+1 Kt+2 Kt+3 Kt+4

Yt+1

Yt

Yt+2

Yt+3

Yt+4

Steady State!

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➤ What happens to the capital stock of a country, if one of the What happens to the capital stock of a country, if one of the other production factors is increased (for some reason)?other production factors is increased (for some reason)?


=>K ?

Y f K, B, L, H, P, A

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K*λ

s*Y(A0,B,P,L,H,K)= I

K*t

Y*t

Y(A1,B,P,L,H,K)

Yt Primary Effect

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Y*t

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Y(A0,B,P,L,H,K)



Yt

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s*Y(A1,B,P,L,H,K)

Yt

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Yt

Ct

Kt+1 - Kt

Y(A1,B,P,L,H,K)

s*Y(A1,B,P,L,H,K)

Kt * λ

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s*Y(A1,B,P,L,H,K)

Secondary Effect

Primary Effect

Y*t

Y(A1,B,P,L,H,K)

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K*λ

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Y*

What factors determine the long

run steady state level of GDP?

Y(A1,B,P,L,H,K)

s*Y(A1,B,P,L,H,K)

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India

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Per-Capita-GDP at PPP-Dollar of 2005(Index 1950=100)

- 54 -Prof. Dr. Rainer MaurerSource: Penn World Tables, NBER

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➤ An empirical test of the Solow-Swan model has to take care of the An empirical test of the Solow-Swan model has to take care of the fact that it is typically unknown, whether a country has reached its fact that it is typically unknown, whether a country has reached its Steady-State equilibrium or notSteady-State equilibrium or not..

➤ Therefore, the empirical hypotheses has to be Therefore, the empirical hypotheses has to be modifiedmodified in a way in a way that is also valid out of steady state.that is also valid out of steady state.

➤ This leads to the following equation:This leads to the following equation:

➤ Variables to the right side of the equation are called “Variables to the right side of the equation are called “explanatory explanatory variablesvariables”, because the Solow-Swan model states that they ”, because the Solow-Swan model states that they explainexplain the the behavior of GDP.behavior of GDP.


i,t 0 1 i i 2 k,i 3 h,i 4 i,0ln y b b * ln n b * ln s b * ln s b * ln y

Depreciation Ratio

Population Growth

Investment Ratio for Human

Capital

Investment Ratio for Capital

Equipment

Per-Capita GDP in the Base

Period

Per-Capita

BIP

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➤ Given this equation, it is possible to use statistical methods (OLS-Given this equation, it is possible to use statistical methods (OLS-Regression) to find values for the Regression) to find values for the bbii-coefficients-coefficients that that minimize the minimize the average distance between the actual values of yaverage distance between the actual values of y i,ti,t and the estimated and the estimated valuesvalues. If it is not possible to find such b. If it is not possible to find such b ii-coefficients, the empirical -coefficients, the empirical hypothesis (and its underlying theory) is “hypothesis (and its underlying theory) is “refuted by the datarefuted by the data”.”.

➤ For the above equation, an OLS-Regression for For the above equation, an OLS-Regression for 73 countries73 countries from from 1960-851960-85 yields the following result: yields the following result:

➤ Standard statistical measures show that the estimated bStandard statistical measures show that the estimated b ii-value fulfill -value fulfill the above equation with a reasonable likelihood. Therefore, the the above equation with a reasonable likelihood. Therefore, the hypothesishypothesis is is not refutednot refuted by the data. by the data.

➤ The The R²-ValueR²-Value shows that the equation is able to shows that the equation is able to explain 89%explain 89% of the of the variance of per-capita GDP of the 74 countries of the underlying variance of per-capita GDP of the 74 countries of the underlying sample.sample.


t i k,i h,i 0ln y 1,6 0,9 * ln n 0,7 * ln s 0,2 * ln s 0,7 * ln y

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➤ The following graphs also reveal the strong effect of the capital stock growth on GDP growth for Germany.


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0%

1%

2%

3%

4%

5%

1970 1975 1980 1985 1990 1995 2000 2005

Capital Stock Growth (7-Years Moving Average)

Capital Stock Growth Trend of Germany (Prices = 1995)

Source: AMECO-Database EU-Commission

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0%

1%

2%

3%

4%

5%

1970 1975 1980 1985 1990 1995 2000 2005

Capital Stock Growth (7-Years Moving Average)

GDP-Growth (7-Years Moving Average)

Growth Trend of Captial Stock and GDP of Germany (Prices = 1995)

Source: AMECO-Database EU-Commission

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2.2. Several Doctrines for a Sustainable Steady State2.2. Several Doctrines for a Sustainable Steady State 2.2.1. Steady States and Exhaustible Resources2.2.1. Steady States and Exhaustible Resources

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➤ The "The "steady statesteady state" of an economy, as derived in the preceding section, " of an economy, as derived in the preceding section, is a situation, where GDP is a situation, where GDP neither grows nor shrinks neither grows nor shrinks over time.over time.

➤ In this version of the In this version of the Solow-Swan modelSolow-Swan model, such a situation is possible, , such a situation is possible, because the problem of because the problem of exhaustible resources is neglectedexhaustible resources is neglected..

➤ The implicit assumption was, all production factors are eitherThe implicit assumption was, all production factors are either

1.1. ""renewable resourcesrenewable resources“ (they reproduce themselves in every period).“ (they reproduce themselves in every period).

2.2. or they are or they are accumulatingaccumulating, i.e. they are used up in every period to a , i.e. they are used up in every period to a certain amount ("capital depreciation"), but this amount can be certain amount ("capital depreciation"), but this amount can be replaced by replaced by investmentinvestment..

➤ This version of the Solow-Swan model takes not care of the problem of This version of the Solow-Swan model takes not care of the problem of "exhaustible" resources"exhaustible" resources, i.e. production factors that do , i.e. production factors that do not reproduce not reproduce themselves themselves and/or and/or whose erosion cannot be replaced whose erosion cannot be replaced by investment by investment goods. For example: goods. For example: fossil fuels, metals, minerals…fossil fuels, metals, minerals…

➤ It is clear that It is clear that in the presence of a exhaustible resourcesin the presence of a exhaustible resources, which are , which are necessary for GDP production, the achievement of a necessary for GDP production, the achievement of a durabledurable steady steady state state can become can become much more difficultmuch more difficult..

2.2. Several Doctrines for a Sustainable Steady State2.2. Several Doctrines for a Sustainable Steady State2.2.1. Steady States and Exhaustible Resources2.2.1. Steady States and Exhaustible Resources

-\ Exercise 18

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➤ A useful A useful reclassificationreclassification of production factors: of production factors:

B,L,P,H,A,KfY

Accumulating production factors, which are produced

with production factors:

K = Physical CapitalA = Technological KnowledgeH = Human CapitalP= Public Goods

Renewable Resources:

Exhaustible Resources:

Ideal type: Solar, Wind & Geothermal Energy

Ideal type: Fossil Fuels, Metals, Minerals,

Conditional: Labor, Forests, Water, Air, Uptake Capacity of Environment…

(IF "OVERUSED")

Conditional: Labor, Forests, Water, Air,

Uptake Capacity of Environment…

(IF NOT "OVERUSED")

Renewable (exhaustible) if produced with renewable (exhaustible) resources.

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B,L,P,H,A,KfY

Accumulating production factors, which are produced

with production factors:

Renewable Resources:

Exhaustible Resources:


Investment = Depreciation

Steady State

➤ A useful A useful reclassificationreclassification of production factors: of production factors:


Steady state possible, if not "overused"

Steady state possible if substitutable…

Steady state possible, if produced with renewable or substitutable

resources.

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2.2. Several Doctrines for a Sustainable Steady State2.2. Several Doctrines for a Sustainable Steady State 2.2.2. Alternative Doctrines 2.2.2. Alternative Doctrines

Solar Energy per Year=3,85 Millionen Exajoules

Human Energy Consumption

per Year = 497 EJ

Solar energy that arrives at the earth in 1 hour and 8 minutes equals 100% of our yearly

human energy consumption.=>

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2.2. Several Doctrines for a Sustainable Steady State2.2. Several Doctrines for a Sustainable Steady State 2.2.1. Steady States and Exhaustible Resources2.2.1. Steady States and Exhaustible Resources 2.2.3. Solow's Constant Capital Rule2.2.3. Solow's Constant Capital Rule

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➤ Solow's "Solow's "elasticity of substitution optimismelasticity of substitution optimism":":

2.2. Several Doctrines for a Sustainable Steady State2.2. Several Doctrines for a Sustainable Steady State4.2.2. Solow's Constant Capital Rule4.2.2. Solow's Constant Capital Rule

„The world can, in effect, get along without natural resources, so exhaustion is just an event, not a catastrophe.“

Solow, R. (1974): The Economics of Resources or the Resources of Economics, American Economic Review

➤ Solow shows that, if there is "Solow shows that, if there is "enough substitutabilityenough substitutability" between " between exhaustible resources and accumulating production factors, it will exhaustible resources and accumulating production factors, it will always be always be possible to meet possible to meet the following the following maximin-welfare criterionmaximin-welfare criterion::

"…the current generation is always entitled to take as much out of the common intertemporal pool as it can, provided

only that it leaves behind the possibility that each succeeding generation can be as well off as this one.“

Solow, R. (1986): On the Intergenerational Allocation of Natural Resources, in: Scandinavian Journal of Economics

➤ In other words, this criterion is fulfilled, if the In other words, this criterion is fulfilled, if the current generation leaves current generation leaves enough production factors to all future generations, that these enough production factors to all future generations, that these generations can realize per-capita consumption levels at least as high generations can realize per-capita consumption levels at least as high as the current generation (as the current generation (maximin-criterionmaximin-criterion).).

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2.2. Several Doctrines for a Sustainable Steady State2.2. Several Doctrines for a Sustainable Steady State4.2.2. Solow's Constant Capital Rule4.2.2. Solow's Constant Capital Rule

➤ Solow's constant capital rule, sometime also called "Solow's constant capital rule, sometime also called "neoclassical neoclassical sustainabilitysustainability" or "" or "very weak sustainabilityvery weak sustainability" (VWS) is based on two kind " (VWS) is based on two kind of value judgments:of value judgments:1.1. A A normative value judgment normative value judgment (or "ethical rule"), according to which " the (or "ethical rule"), according to which " the

current generation shall leave enough production factors to all future current generation shall leave enough production factors to all future generations, such that these generations can realize at least as high per-generations, such that these generations can realize at least as high per-capita consumption levels as the current generation (capita consumption levels as the current generation (maximin-criterionmaximin-criterion).")."

2.2. An An empirical value judgment empirical value judgment (or "technical presumption"), according to (or "technical presumption"), according to which one of the above three sets for "which one of the above three sets for "enough substitutabilityenough substitutability" (sl. 68) " (sl. 68) between accumulating and exhaustible production factors is always fulfilled.between accumulating and exhaustible production factors is always fulfilled.

➤ As always such value judgments are As always such value judgments are debatabledebatable, i.e. there is , i.e. there is no logical no logical necessity to accept themnecessity to accept them..

➤ In the following a couple of well-known alternative point of views are In the following a couple of well-known alternative point of views are surveyed:surveyed:

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2.2. Several Doctrines for a Sustainable Steady State2.2. Several Doctrines for a Sustainable Steady State2.2.1. Steady States and Exhaustible Resources2.2.1. Steady States and Exhaustible Resources

2.2.3. Solow's Constant Capital Rule2.2.3. Solow's Constant Capital Rule2.2.3. Alternative Doctrines2.2.3. Alternative Doctrines

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Name Ethical Value Judgment

Empirical Value Judgment

Conclusion Supporter

Open Hedo-nism

„After us the deluge!“

Not necessary given this ethical value judgment !

=> No need to care about the interests of future generations

Madame de

Pompadour ???

Episte-mo-logical Scep-ticism (Anthro-pocentric)

It would be irresponsible to restrict the often still precarious welfare situation of current generations based on highly uncertain forecasts about the welfare of future generations.

The history of technological discovery shows that it is no possible to forecast the long-run future in a half-way reliable way.

=> People naturally take care for their children - whose future is closer and therefore easier to forecast. That’s sufficient!

Narveson (2012) (Philo-sopher, University of Waterloo)

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“Very weak sustain-ability”

(Anthro-pocentric)

Future generations should be able to consume at least as much as the current generation (Maximin-Principle)

It will be possible in the long run to substitute all exhaustible resources either by other resources or by technological knowledge.

=> No government intervention neces-sary. The market mechanism is able to solve the problem of inter-temporal resource allocation in an efficient way.

Solow (1974a) (1974b) (1986)

“Weak sustain-ability”

(Anthro-pocentric)

Future generations should be able to consume at least as much as the current generation (Maximin-Principle)

A complete substitution of all exhaustible resources by other production factors is most likely not possible,

=> It is necessary to respect minimum li-mits for exhaustible resources and the regeneration limits of renewable re-sources - as far as necessary for a sur-vival of the human population (= an-thropocentric view).

London School: Barbier/ Markandya (1989) (1990), Pearce/ Turner (1990)

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Strong Sustain-ability

(Non-Anthro-pocentric)

Keeping the stock of natural capital (natural resources + ecological syst-ems) quantitatively (not on a market value basis…) con-stant, no matter how high the op-portunity costs in terms of forgone consumption are

Whether exhaustible resources are substitutable or not is of no impor-tance, since hu-man consumption has to adjust to the premise of keeping constant the stock of natural capital.

=>Economic growth is only allowed for, if there is enough technological pro-gress that permits an increase of GDP without reducing the stock of natural capital.

Herman Daly

(1991 a)(1991 b)

Critical Sustain-ability (Non-Anthro-pocentric)

Keeping the stock of natural capital quan-titatively constant, no matter the oppor-tunity costs of for-gone consumption.

No economic gro-wth is allowed for, since all economic growth produces unwanted by-products.

=>Economic or Population growth has to be stopped. Only “non-material” growth is allowed for.

Deep Ecology Movement:Næss(1972),Drengson/ Inoue (1995)

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2.2. Several Doctrines for a Sustainable Steady State2.2. Several Doctrines for a Sustainable Steady State

4.2.1. Solow's Constant Capital Rule4.2.1. Solow's Constant Capital Rule

2.2.2. Alternative Doctrines2.2.2. Alternative Doctrines

2.3. Understanding Structural Change2.3. Understanding Structural Change

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0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

1970 1975 1980 1985 1990 1995 2000

Other Private Service Industries1)

Industry

Wholesale and Retail Trade &

Banking, Insurance, Real Estate &Business Services

Government Services

Structure of German GDP by Production (in Percent of Total GDP; Current Prices)

Agriculture and Forestry

Hotel and Catering Industries

48 %

71 %

48 %

28 %

Source: SVG, Jg. 2004/5

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0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

1970 1975 1980 1985 1990 1995 2000

.

Structure of German Employees

Wholesale and Retail Trade &Business Services

Government ServicesShare of Employees per Sector in % of all Employees

Real Estate,Banking,Insurance

Other Private Service Industries1)

Hotel and Catering Industries

Industry

Agriculture and Forestry

Source: SVG, Jg. 2004/5

46 %

71 %

45 %

27 %

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47%

41%

33%

25%

16% 15%

10%

6%3% 2% 1% 1% 1%

21%

28%

37%

43%

49%

53%

49%

53%

48%

41%

38%

30%

27%

33%31% 31% 32%

36%33%

40% 41%

57%

61%

69%

73%

48%

0%

10%

20%

30%

40%

50%

60%

70%

80%

1850 1870 1890 1910 1925 1938 1950 1960 1970 1980 1990 2000 2009

Landwirtschaft Industrie Dienstleistungen

Quelle: Geißler, Rainer (2006): Die Sozialstruktur Deutschlands, Statistisches Bundesamt, Calculations by Caroline Hauber & Ann-Cathrin Lietzau in their term paper "Wie viel Industrie braucht ein Land?"

Long-run Development of the Structure of German GDP by Production (in Percent of Total GDP; Current Prices)

47%

41%

33%

25%

16% 15%

10%

6%3% 2% 1% 1% 1%

21%

28%

37%

43%

49%

53%

49%

53%

48%

41%

38%

30%

27%

33%31% 31% 32%

36%33%

40% 41%

57%

61%

69%

73%

48%

0%

10%

20%

30%

40%

50%

60%

70%

80%

1850 1870 1890 1910 1925 1938 1950 1960 1970 1980 1990 2000 2009

Agriculture Industry Services

Source: Geißler, Rainer (2006): Die Sozialstruktur Deutschlands, Statistisches Bundesamt, Calculations by Caroline Hauber & Ann-Cathrin Lietzau in their term paper "Wie viel Industrie braucht ein Land?"

Long-run Development of the Structure of German GDP by Production (in Percent of Total GDP; Current Prices)

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➤ Why Why does in the long-run value added grow does in the long-run value added grow strongerstronger in the in the service service sector sector than in the industrial sector?than in the industrial sector?

➤ Two major explanations:Two major explanations:

1.1. In the long run the In the long run the demand for services grows strongerdemand for services grows stronger than the than the demand for industrial goods.demand for industrial goods.

2.2. For many For many industrial goods prices fall fasterindustrial goods prices fall faster as production as production quantities grow.quantities grow.

➤ Each of both explanations is already sufficient to cause an increase Each of both explanations is already sufficient to cause an increase of the service sector share in GDP.of the service sector share in GDP.

➤ If both act together, this will increase the speed of structural change.If both act together, this will increase the speed of structural change.

2. The Long-run Development of Economies 2. The Long-run Development of Economies 2.3. Understanding Structural Change 2.3. Understanding Structural Change

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➤ ExplanationsExplanations for the for the income dependencyincome dependency of the demand for of the demand for goods:goods:

1.1. When incomes grow, households increase first their When incomes grow, households increase first their endowment with endowment with necessary durable consumer goodsnecessary durable consumer goods (housing, (housing, furniture, household appliances, cars…). furniture, household appliances, cars…). Only afterOnly after this this endowment with necessities is completed, households demand endowment with necessities is completed, households demand services services (traveling, restaurants, cinema, theater, sport…), (traveling, restaurants, cinema, theater, sport…), which are typically which are typically not as necessary not as necessary as durable consumer as durable consumer goods.goods.

2.2. When incomes grow, most households prefer to have When incomes grow, most households prefer to have more more leisure time leisure time (long-run trend of reduction of working hours). (long-run trend of reduction of working hours). More leisure time activities cause a higher demand for services More leisure time activities cause a higher demand for services (entertainment, sporting facilities, cultural events, tourism etc.).(entertainment, sporting facilities, cultural events, tourism etc.).


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➤ ExplanationsExplanations for the for the income dependencyincome dependency of the demand for of the demand for goods:goods:

3.3. When incomes grow, When incomes grow, net wealth net wealth does also grow („heir does also grow („heir generation“). Higher net wealth causes a higher generation“). Higher net wealth causes a higher demand for demand for financial consultancy financial consultancy (bank services, wealth (bank services, wealth management, information services).management, information services).

4.4. When incomes grow, When incomes grow, live expectancylive expectancy does also grow. does also grow. Higher live expectancy, causes a higher Higher live expectancy, causes a higher demand for demand for healthhealth services. services.


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➤ Simplification: “Two-sector-economy”Simplification: “Two-sector-economy”

yySS = quantities service goods = quantities service goods

ppSS = price service goods = price service goods

yyII = quantities industrial goods = quantities industrial goods

ppII = price industrial goods = price industrial goods

=> GDP = y=> GDP = ySS * p * pSS + y + yII * p * pI I | neglect of | neglect of

intermediate goods intermediate goods

=> GDP = value added service sector=> GDP = value added service sector

+ value added industrial sector+ value added industrial sector


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0

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0 1 2 3 4 5 6 7 8 9 10

YS

PS

S(PS)

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IISS

SS

p*yp*y

p*y

If demand for services grows faster as demand for industrial goods, the share of services (yySS * p * pSS)) in GDP (yySS * p * pSS + y + yII * p * pII) grows.D(PS)t+1

PS,t

YS,t

PS,t+1

YS,t+1

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➤ The The income elasticityincome elasticity of the demand for services: of the demand for services:

➤ If the If the elasticity is larger than 1elasticity is larger than 1, demand for services grows more , demand for services grows more that 1% if income grows 1%.that 1% if income grows 1%. A larger fraction of income is spent for services.A larger fraction of income is spent for services. A smaller fraction of income is spent for other goods.A smaller fraction of income is spent for other goods.


S S S S

Y Y

X * P X * P prozentualer Anstieg der Dl.nachfrageX,Y

Y * P Y * P prozentualer Einkommensanstieg

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The The empiricalempirical income elasticityincome elasticity of the demand for services of the demand for services

BlundeIl (1988) United Kingdom 1,2 - 1,7

Hammes et al. (1989)USA,

France, Canada1,1 - 1,4

G. Hansen (1993) West Germany 1,3 - 2,0

Falvey / Gemmell (1996) 60 Countries 1,0 - 1,6

H.-J. Hansen (1996) West Germany 1,5 - 4,0

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2.2. Explanation for structural change:Explanation for structural change:

■A A productivityproductivity biasbias causes causes the the pricesprices for for industrial goodsindustrial goods to to decreasedecrease strongerstronger as the production quantities grow: as the production quantities grow:

◆ In many In many industriesindustries the technological possibilities the technological possibilities for for productivity growth areproductivity growth are largerlarger than in the service sector. For than in the service sector. For example, in many industries production is more and more example, in many industries production is more and more carried out by automates and robots, while in most service carried out by automates and robots, while in most service sectors (hair dresser, restaurants, music bands, tourism etc.) sectors (hair dresser, restaurants, music bands, tourism etc.) this is not possible. this is not possible.

◆ Under competitionUnder competition, technological progress causes a , technological progress causes a decrease decrease of prices strongerof prices stronger than the than the increase of productionincrease of production quantities in quantities in many industry sectors. Taken for itself, this causes a long-run many industry sectors. Taken for itself, this causes a long-run increase in the share of the service sector in total GDP:increase in the share of the service sector in total GDP:


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0

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0 1 2 3 4 5 6 7 8 9 10

YI

PI

S(PI)t

D(PI)

If supply of industrial goods grows such that prices fall faster than quantities grow, the share of services (yySS * p * pSS) ) in GDP (yySS * p * pSS + y + yII * p * pII) grows.

PI,t

YI,t

PI,t+1

YI,t+1

S(PI) t+1

-

+

IISS

SS

p*yp*y

p*y

However: Increase of supply leads only to decrease of sales, if demand reacts inelastic |ε(x,p)|<1, i.e. if prices fall faster than quantities!

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0

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PI,t+1

YI,t+1

S(PS) t+1

-

+

However: Increase of supply leads only to decrease of sales, if demand reacts inelastic |ε(x,p)|<1, i.e. if prices fall faster than quantities!

In this example, demand is elastic |ε(x,p)|>1 so that sales grow.

|ε(x,p)|=1

However: If supply grows in the long run such that the price falls below the point, where demand becomes inelastic, industrial sales fall!

|ε(x,p)|<1

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➤ However, also However, also other factorsother factors may may also attributealso attribute to the increase of to the increase of the service sector share in total GDP, as the following the service sector share in total GDP, as the following newspaper articles shows:newspaper articles shows:

„„Levis wandert aus“Levis wandert aus“

➤ What relation exists between the location decision of Levis and What relation exists between the location decision of Levis and the structural change in the US?the structural change in the US?

➤ Do similar examples exist for Germany?Do similar examples exist for Germany?


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■ Hence, the Hence, the old industrial old industrial countries lose industrial production and countries lose industrial production and specialize more and more into service sector production, where they specialize more and more into service sector production, where they still hold cost advantages compared to emerging countries (still hold cost advantages compared to emerging countries (R&DR&D, , management and management and head quarter functionshead quarter functions staystay in the old industrial in the old industrial countries, while industrial countries, while industrial production migratesproduction migrates to the emerging to the emerging countries.).countries.).

■ As a consequence, production quantities in As a consequence, production quantities in industrial productionindustrial production decreasesdecreases, while , while productionproduction quantities in the quantities in the service sectorservice sector grow: grow:


IISS

SS

p*yp*y

p*y

Effect on service sector share in GDP:

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➤ Intensified division of labor (Outsourcing):Intensified division of labor (Outsourcing):■ The progress in information and telecommunication industries allows The progress in information and telecommunication industries allows

more outsourcing of service sector activitiesmore outsourcing of service sector activities from industrial firms into from industrial firms into autonomous service sector firms (building services, security autonomous service sector firms (building services, security services, factory canteen, legal department, marketing etc.).services, factory canteen, legal department, marketing etc.).

■ Example: Example:

◆A car producer owns a A car producer owns a canteen for its staffcanteen for its staff. => The value added . => The value added of the canteen is part of the value added of the car producer and of the canteen is part of the value added of the car producer and hence (by statistical convention) part of industrial production.hence (by statistical convention) part of industrial production.

◆The car producer outsources the canteen. => The canteen is The car producer outsources the canteen. => The canteen is now an autonomous enterprise and its production is (by now an autonomous enterprise and its production is (by statistical convention) accounted for service sector production.statistical convention) accounted for service sector production.

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➤ Intensified division of labor (Outsourcing):Intensified division of labor (Outsourcing):■Value added in Value added in industrial production decreasesindustrial production decreases therefore, therefore,

while value added in while value added in service sector industries growsservice sector industries grows (advertising, R&D, consulting, legal services, cleaning (advertising, R&D, consulting, legal services, cleaning services, security services).services, security services).


IISS

SS

p*yp*y

p*y

Effect on service sector share in GDP:

(Same as with globalization…)

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2.4. Questions for Review2.4. Questions for Review

➤ You should be able to answer the following questions at the You should be able to answer the following questions at the end of this chapter. All of the questions can be answered end of this chapter. All of the questions can be answered with the help of the lecture notes. If you have difficulties in with the help of the lecture notes. If you have difficulties in answering a question, discuss this question with me at the answering a question, discuss this question with me at the end of the lecture, attend my colloquium or send me an E-end of the lecture, attend my colloquium or send me an E-Mail.Mail.

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1.1. What empirical phenomena does the theory of economic growth What empirical phenomena does the theory of economic growth explain?explain?

2.2. What empirical phenomena does the theory of the business cycle What empirical phenomena does the theory of the business cycle explain?explain?

3.3. What factors of production play an important role in the growth What factors of production play an important role in the growth model of Solow-Swan and what is the difference between them?model of Solow-Swan and what is the difference between them?

4.4. What is the savings ratio and how does this ratio affect the growth What is the savings ratio and how does this ratio affect the growth mechanism in the Solow-Swan model?mechanism in the Solow-Swan model?

5.5. What is the depreciation ratio and how does this ratio affect the What is the depreciation ratio and how does this ratio affect the growth mechanism in the Solow-Swan model?growth mechanism in the Solow-Swan model?

6.6. Under what condition does the capital stock grow in the Solow-Under what condition does the capital stock grow in the Solow-Swan model of a closed economy?Swan model of a closed economy?

7.7. Under what condition does the capital stock shrink in the Solow-Under what condition does the capital stock shrink in the Solow-Swan model of a closed economy?Swan model of a closed economy?

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8.8. When does capital stock growth stop in the Solow-Swan model of a When does capital stock growth stop in the Solow-Swan model of a closed economy?closed economy?

9.9. What parameters determine the level of the steady state capital stock What parameters determine the level of the steady state capital stock in the Solow-Swan model of a closed economy?in the Solow-Swan model of a closed economy?

10.10. What relationship exists in the Solow-Swan model between capital What relationship exists in the Solow-Swan model between capital stock and GDP?stock and GDP?

11.11. Start with a steady state situation in the Solow-Swan model of a Start with a steady state situation in the Solow-Swan model of a closed economy and describe the effect of a one time increase in the closed economy and describe the effect of a one time increase in the stock of human capital.stock of human capital.

13.13. What is the effect of continuous growth of technological knowledge What is the effect of continuous growth of technological knowledge (A) on the level of the capital stock in the Solow-Swan model of a (A) on the level of the capital stock in the Solow-Swan model of a closed economy? closed economy?

14.14. What is the effect of continuous growth of technological knowledge What is the effect of continuous growth of technological knowledge (A) on the level of the GDP in the Solow-Swan model of a closed (A) on the level of the GDP in the Solow-Swan model of a closed economy? economy?

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Y

K


15.15. Analyze the effect of a one time raise of the stock of technological Analyze the effect of a one time raise of the stock of technological knowledge from Aknowledge from A11 to A to A22 on the steady state equilibrium in the on the steady state equilibrium in the

following diagram.following diagram.

Y(A1,B,P,L,H1,K)

K*λ

s*Y(A1,B,P,L,H1,K)

© R

AIN

ER

MA

UR

ER

, P

forz

heim


0

2

4

6

8

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30

0 2 4 6 8 10 12 14 16 18 20 22 24 26 28 30 32 34 36 38 40

Y

K


16.16. Analyze the effect of a one time decrease in the depreciation ratio Analyze the effect of a one time decrease in the depreciation ratio λλ11 on the steady state equilibrium in the following diagram. on the steady state equilibrium in the following diagram.

Y(A,B,P,L,H,K)

K*λ1

s*Y(A,B,P,L,H,K)

© R

AIN

ER

MA

UR

ER

, P

forz

heim


0

2

4

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0 2 4 6 8 10 12 14 16 18 20 22 24 26 28 30 32 34 36 38 40

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17.17. Analyze the effect of a one time increase in the savings ratio sAnalyze the effect of a one time increase in the savings ratio s11 on on

the steady state equilibrium in the following diagram.the steady state equilibrium in the following diagram.

Y(A,B,P,L,H,K)K*λ

s1*Y(A,B,P,L,H,K)

© R

AIN

ER

MA

UR

ER

, P

forz

heim


0

2

4

6

8

10

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0 2 4 6 8 10 12 14 16 18 20 22 24 26 28 30 32 34 36 38 40

Y

K

2.4. Questions for Review 2.4. Questions for Review

18. 18. Analyze the effect of a decrease in the availability of an exhaustible Analyze the effect of a decrease in the availability of an exhaustible resource on the steady state of this economy.resource on the steady state of this economy.

Y(A,B,P,L,H,K)

K*λ1

s*Y(A,B,P,L,H,K)

© R

AIN

ER

MA

UR

ER

, P

forz

heim



19.19. If you were in the position of a politician, who wants to improve the If you were in the position of a politician, who wants to improve the growth performance of his country, what kind of measures would growth performance of his country, what kind of measures would you choose?you choose?

20.20. Explain the basic pattern of structural change observable?Explain the basic pattern of structural change observable?

21.21. Explain the consequences of income growth on structural change.Explain the consequences of income growth on structural change.

22.22. What is the impact of the "productivity bias" on structural change?What is the impact of the "productivity bias" on structural change?

23.23. What are the effects of "globalization" on structural change?What are the effects of "globalization" on structural change?

24.24. How does the "outsourcing" trend in private companies effect How does the "outsourcing" trend in private companies effect structural change?structural change?

© rainer maurer, pforzheim - 1 - prof. dr. rainer maurer macroeconomics 2. the long-run development...

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