copyright © 2002 by thomson learning, inc. a lecture presentation in powerpoint to accompany...

Copyright © 2002 by Thomson Learning, Inc.

A Lecture Presentation in PowerPoint

to accompany

Exploring EconomicsSecond Edition

by Robert L. Sexton

Copyright © 2002 Thomson Learning, Inc. Thomson Learning™ is a trademark used herein under license.

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Printed in the United States of America ISBN 0030342333


Chapter 19Economic Growth in the

Global Economy


19.1 Economic Growth

John Maynard Keynes primarily concerned with explaining and

reducing short‑term fluctuations in the level of business activity

once said, “in the long run we are all dead.” He wanted to smooth out the business

cycle, largely because of the implications that cyclical fluctuations had for buyers and sellers in terms of unemployment and price instability.



Keynes’ concerns were important and legitimate.

At the same time, his flippant remark about the long run ignores the fact that human welfare is greatly influenced by long-term changes in a nation's capacity to produce goods and services.



Emphasis on the short-run business cycle ignores the longer term dynamic changes that affect output, leisure, real incomes and life styles.

Many would argue that in the long run, economic growth is a crucial determinant of well-being.


Time0 Time0

Growth Versus StabilityR

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Out

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Important questions we wish to explore about economic growth include: What are the determinants of long-run

economic change in our ability to produce goods and services?

What are some of the consequences of rapid economic change?

Why are some nations rich while others are poor?

Does growth in output improve our economic welfare?



Economic growth is usually measured by the annual percent change in real output of goods and services per capita (real GDP per capita).

Along the production possibilities curve, the economy is producing at its potential output.



How much the economy will produce at its potential output, sometimes called its natural level of output, depends on the quantity and quality of an economy’s resources, including labor, capital, and natural resources.



Technology can increase the economy’s production capabilities.

Improvements in and greater stocks of land, labor, and capital can shift out the production possibilities curve.

Another way of saying that economic growth has shifted the production possibilities curve out is to say that growth has increased potential output.


Consumer Goods0

Economic Growth and the Shifting Production Possibilities Curves

Cap

ital G

oods



A nation with greater economic growth will end up with a much higher standard of living, ceteris paribus.

A simple formula called the Rule of 70 can tell how long it will take a nation to double its output. The number of years necessary is

approximately equal to the nation’s growth rate divided into 70.



The “richest” or “most-developed” countries today have many times the per capita output of the “poorest” or “least-developed” countries.

The international differences in income, output, and wealth are striking and have caused a great deal of friction between developed and less-developed countries.


Growth in Real Per Capita GDP, Selected Industrial Countries

United States 2.3% 2.1%Japan 3.5 0.9Germany 2.4 1.4France 2.0 1.7Italy 2.1 1.8United Kingdom 2.4 2.5Canada 1.1 2.1

Ten-Year Averages

1982–1991 1992–2001

SOURCE: International Monetary Fund, World Economic Outlook, September 2000


19.2 Determinants of Economic Growth

Many economists have had theories of economic growth.

Adam Smith The wealth of nations is derived from

accumulation of capital, which results from thrift and savings.

He thought specialization and division of labor were important.

He criticized then-accepted ideas of mercantilism. barriers to trade between people and countries need for various types of governmental regulation



Karl Marx Essentially, all value ultimately derives

from labor and economic growth, therefore, depends on increasing contributions by labor.

Joseph Schumpeter Growth depends to a considerable extent

on innovation and technological change, for which the role of managerial or entrepreneurial skills was particularly vital.



Thomas Malthus In the long run, per capita economic growth

will not occur at all! Montesquieu

A French philosopher, he argued that output levels are lower in tropical zones, partly because work effort is less intense in the heat of the tropics.



Many separate explanations of economic growth have been proposed, but none of them, by themselves, can completely explain economic growth.

However, each of the explanations may be part of a more complicated reality.

Economic growth is a complex process involving many important factors, no one of which completely dominates.



Nearly everyone agrees that several factors have contributed to economic growth in some or all countries. growth in the quantity and quality of labor

resources used increase in the use of inputs provided by

land growth in physical capital inputs technological advances allowing greater

output than previously possible



Labor is needed in all forms of productive activity.

Other things being equal, an increase in labor input does not necessarily increase output per capita.



If the increase in labor input results from an increase in population, per capita growth might not occur because the increase in output could be offset by the increase in population.



If a greater proportion of the population works or if workers put in longer hours, output per capita will increase— assuming that the additional work activity adds something to output.



Qualitative improvements in workers (learning new skills, for example) can also enhance output.

It has become popular to view labor as "human capital" that can be augmented or improved by education and on‑the‑job training.



Abundant natural resources also can enhance output whereas a limited resource base is an important obstacle to economic growth.



Resources are not the whole story. The natural resource base can affect

the initial development process, but sustained growth is influenced by other factors.

There is nearly universal agreement that capital formation has played a significant role in the economic development of nations.



Technological advances stem from man's ingenuity and creativity in developing new ways of combining the factors of production to enhance the amount of output from a given quantity of resources.

It involves invention and innovation. Innovation is the adoption of a new product

or process.



New technology must be introduced into productive use by managers or entrepreneurs who must weigh their estimates of benefits of the new technology against their estimates of costs.

The entrepreneur is an important economic factor in the growth process.



Technological advances permit us to economize on one or more inputs used in the production process.

It can permit savings of labor, as occurs when a new machine is invented that does the work of many workers.

It can also be land (natural resource) saving or even capital saving.



Nuclear fission has permitted us to build power plants that economize on the use of coal, a natural resource.



The reduction in transportation time that accompanied the invention of the railroad allowed businesses to reduce the capital they needed in the form of inventories. Because goods could be obtained quickly,

businesses could reduce the stock kept on their shelves.


19.3 Raising the Level of Economic Growth

Economic growth means more than an increase in the real income (output) of the population.

Changes in output are accompanied by a number of other important changes.

There are a number of policies that a nation can pursue to increase economic growth.



One of the most important determinants of economic growth is the saving rate. In order to consume more in the future, we

must save more now. Generally speaking, higher levels of saving

will lead to higher levels of investment and capital formation and, therefore, to greater economic growth.



Sustained rapid economic growth is associated with high rates of saving and investment around the world.

Investment alone does not guarantee economic growth, which hinges importantly on the quality and the type of investment as well as on investment in human capital and improvements in technology.


10

9

8

7

6

04015 20 25 30 350

Gross National Saving (percent of GDP)

Saving Rates and GDP Growth During High-Growth Periods in Selected Economies

Vietnam1991–94 Greece

1961–73

Botswana1979–94

Fed. Rep. ofGermany1951–55

Japan1961–73

China1978–94

Rep. of Korea1983–94

Singapore1961–94

Hong Kong1961–94

Malaysia1987–94

Thailand1987–94

Indonesia1968–94

Portugal1965–73

Chile1987–94

Mauritius1985–94

Côte d’Ivoire1968–78



Some scholars believe that the importance of research and development (R&D) is understated.

can include new products, management improvements, production innovations, or simply learning by doing



It is clear that investments in R&D and rewarding innovators with patents has paid big dividends in the past 50 to 60 years.



There is an important link between research and development and capital investment.

When capital depreciates over time, it is replaced with new equipment that embodies the latest technology. Consequently, R&D may work hand-in-

hand with investment to improve growth and productivity.



Economic growth rates tend to be higher in countries where the government enforces property rights.

In most developed countries, property rights are effectively protected by the government, but in developing countries, this is not normally the case.



And if the government is not enforcing property rights, the private sector must respond in costly ways that stifle economic growth. private security bribes corruption confiscation the risk of takeovers from a new

government



Free Trade can lead to greater output because of the principle of comparative advantage. If two nations or individuals with different

resource endowments and production capabilities specialize in producing a smaller number of goods and services, then they are relatively better at and engage in trade.

Both parties will benefit as total output rises.



Education, investment in human capital, is just as important as improvements in physical capital.

Accepting a reduction in current income to acquire education and training can increase future earning ability, which can raise the standard of living.



With economic growth, illiteracy rates fall and formal education grows.

The correlation between per capita output and the proportion of the population that is unable to read or write is striking.

Improvements in literacy stimulate economic growth by reducing barriers to the flow of information and raise labor productivity.



Since children in developing countries are an important part of the labor force at a young age, there is a higher opportunity cost of education in terms of forgone contribution to family income.

Education is a consequence of economic growth, becoming a consumption good, as well as a cause of economic growth, creating human capital.


Literacy and Economic Development

United States $30,200 97%Japan 24,000 99Italy 21,500 97Brazil 6,300 81India 1,600 52Haiti 1,070 53Ethiopia 530 28NOTE: The literacy rates are based on the ability to read and write at an elementary school level.

SOURCE: Time Almanac, 2000.

CountryOutput

per CapitaAdult

Literacy Rates


19.4 Population and Economic Growth

The impact of population growth on per capita economic growth is far from obvious.

If population were to expand faster than output, per capita output would fall; population growth would be growth‑inhibiting.



With a greater population comes a greater labor force.

Economies of large scale production may exist in some forms of production, so larger markets associated with greater populations lead to more efficient-sized production units.



Very rapid population growth did not seem to impede American economic growth in the mid-19th century.

America's economic growth until at least World War I was accompanied by population growth that was among the highest in the world for the time.



In many of the less-developed countries today, rapid population growth threatens sustained economic growth.

These are countries that have low land-labor ratios and are predominantly agricultural with very modest natural resources, especially land.



Two centuries ago, the English economist Rev. Thomas Malthus formulated a model that predicted that per capita economic growth would eventually become negative, and that wages would ultimately reach an equilibrium at a subsistence level, or just large enough to provide enough income to stay alive.



Malthus assumed an agricultural society where goods were produced by two inputs, land and labor.



Malthus assumed that the supply of land was fixed in quantity. He assumed that the sexual desires of

humans would work to increase population. As population increased, the number of

workers would increase. Thus with greater labor inputs available,

output would also go up.

continued . . .



At some point output would increase by diminishing amounts because of the law of diminishing returns, which states that if you add variable amounts of one input (in this case labor) to fixed quantities of another input (in this case land), output would rise but by diminishing amounts.

As the land‑labor ratio falls, there is less land per worker.



Fortunately, Malthus’ theory proved spectacularly wrong for much of the world.

While the law of diminishing returns is a valid concept, Malthus' other assumptions were unrealistic. Agricultural land is not completely fixed in

quantity or quality. Irrigation, fertilizer, and conservation

techniques have increased arable land.



Malthus implicitly assumed there would be no technological advance, and ignored the real possibility that improved technology, often embodied in capital, could overcome the impact of the law of diminishing returns.

The Malthusian assumption that sexual desire would necessarily lead to population increase did not take birth control techniques into account.



The Malthusian assumptions are not too widely at variance with several less-developed countries today.

Some nations are having substantial population increases, with a virtually fixed supply of land and little technological advance.



Population growth has a negative impact on per capita output in this case, since the added output derived from having more workers on the land is very small.



In short, for some places in the modern world, the Malthusian model may be relevant.

It is scarcely surprising that population control is considered to be critical in many less-developed countries.



The implementation of birth control has been far from routine.

While greater population may lower per capita output, other things equal, from the perspective of an individual family, the production of children means greater security in old age, more labor for the farm now, etc.



In most countries, population control efforts have been only modestly successful.

It remains a key factor in the growth patterns in countries with high populations in relation to natural resources and capital equipment.

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