17:LongTerm Economic Growth

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17Long-TermEconomic Growth

• What are the long-term growth trends in the
  United States and other countries?
• What are the main factors that influence
  long-term growth?
• What policies might be used to speed up economic
  growth?

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Economic Miracles

• U.S. real GDP per person almost doubled between
  1960 and 1995.
• However, this growth has been uneven with periods
  of recession and expansion.
• Incomes in Asian economics have grown eightfold
  between 1960 and 1995.

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Long-Term Growth Trends

• Long-term growth is the trend growth rate of
  potential GDP.
• Potential GDP grows for two reasons
• Population growth
• Growth in potential GDP per person
• Only the second brings rising living standards.

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Growth in the U.S. Economy

• U.S. economic growth averaged 1.7 percent per
  year between 1895 and 1995.
• During the 1960s growth was 2.5 percent per year.
• Since 1973 growth has slowed to 1.4 percent per
  year due to the slowing of productivity growth.

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A Hundred Years of Economic Growth in the United
States
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Two Extraordinary Events

• The Great Depression of the 1930s saw a fall in
  real GDP unlike anything else in the past 100
  years.
• The boom created by World War II was a major
  expansion of real GDP.
• However, between 1929 and 1953, growth averaged
  1.8 percent a year.

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Real GDP Growth inthe World Economy

• Among the richest countries, the United States
  and Canada have had the highest real GDP per
  person since 1960.
• However, Japan has been growing the fastest -
  until recently.
• Africa and Central and South America grew at a
  slower rate.

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Figure 10.2 page 215
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Figure 10.2 page 215
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Catch-Up in Asia

• Hong Kong, Korea, Singapore, and Taiwan are
  catching up with the United States.
• China has a high growth rate, but started very
  far behind the United States and still has a long
  way to go.
• Continued growth of Chinas economy is important
  for
• world gdp for 21st century

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Note the rate of growth here has slowed in 97.98
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The Sources ofEconomic Growth

• Societies that do not experience economic growth
  lack some fundamental social institutions and
  arrangements that are essential preconditions for
  economic growth
• Markets
• Property rights
• Monetary exchange

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Markets

• Markets enable buyers and sellers to get
  information and to do business with each other.
• Market prices send signals to buyers and sellers
  that create incentives to increase or decrease
  the quantities demanded and supplied.
• Markets encourage specialization and trade.

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Property Rights

• Property rights are the social arrangements that
  govern the ownership, use, and disposal of
  factors of production such as
• physical property (land, buildings)
• financial property (claims by one person against
  another)
• intellectual property (inventions)

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Monetary Exchange

• Monetary exchange facilitates transactions of all
  kinds, including the orderly transfer of private
  property from one person to another.
• Property rights and monetary exchange create
  incentives for people to specialize and trade, to
  save and invest, and to invent new technologies.

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Specialization and Growth

• Specialization leads to growth, improving the
  standard of living.
• For growth to continue, people must have
  incentives to pursue three activities
• Saving and investment in new capital
• Investment in human capital
• Discovery of new technologies

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Saving and Investmentin New Capital

• Saving and investment in new capital increase the
  amount of capital per worker and increase human
  productivity.
• Production methods that use large amounts of
  capital per worker (such as assembly lines) are
  much more productive than using hand tools.

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Investment inHuman Capital

• Human capital is the accumulated skill and
  knowledge of human beings.
• Investment in human capital is a source of both
  increased productivity and technological advance.

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Discovery of New Technologies

• Technological change makes an enormous
  contribution to our increased productivity.
• It arises from research and development as well
  as trial and error.
• Most technologies must be embodied in physical
  capital.

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Growth Accounting

• Labor Productivity
• Labor productivity is real GDP per hour of work.
• Equals real GDP divided by aggregate labor hours
• Determines how much income an hour of labor
  generates

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Growth Accounting
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Growth Accounting

• Growth accounting divides growth into two
  components.
• 1) Growth in capital per hour of labor
• 2) Technological change
• Includes everything that contributes to labor
  productivity growth that is not included in
  growth in capital per hour

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Growth Accounting

• The Productivity Function
• A relationship that shows how real GDP per hour
  of labor changes as the amount of capital per
  hour of labor changes with a given state of
  technology.

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Growth Accounting

• The Productivity Function
• The shape of the productivity function reflects
  the law of diminishing returns.
• The law of diminishing returns states that as the
  quantity of one input increases with the
  quantities of all other inputs remaining the
  same, output increases but by ever smaller
  increments.

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How Productivity Grows
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Real GDP per hour of work (1992 dollars)
20
0
30
60
Capital per hour of work (1992 dollars)
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How Productivity Grows
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PF0
25
Real GDP per hour of work (1992 dollars)
20
GDP/HWAF(CAP/HW)
0
30
60
Capital per hour of work (1992 dollars)
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How Productivity Grows
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PF0
25
Real GDP per hour of work (1992 dollars)
20
0
30
60
Capital per hour of work (1992 dollars)
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How Productivity Grows
PF0
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PF0
25
Real GDP per hour of work (1992 dollars)
Effect of technological change
20
Effect of increase in capital stock
0
30
60
Capital per hour of work (1992 dollars)
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Growth Accounting

• The Productivity Function
• Applying the law of diminishing returns to
  capital, the law states that if a given number of
  hours of labor use more capital, the additional
  output that results from the additional capital
  gets smaller as the amount of capital increases.
• The one third rule explains how much less.

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Growth Accounting

• The One Third Rule
• Robert Solow of MIT discovered that on average,
  with no change in technology, a 1 percent
  increase in capital per hour of labor brings a
  one third of a 1 percent increase in real GDP per
  hour of labor.

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Growth Accounting

• Accounting for the Productivity Growth Slowdown
  and Speedup
• We can use the one third rule to study U.S.
  productivity growth and the productivity growth
  slowdown.

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Growth Accounting

• Accounting for the Productivity Growth Slowdown
  and Speedup
• 1960 to 1973
• The economy grew due to rapid technological
  changes.
• Real GDP per hour expanded by 39
• Capital per hour increased by 24
• With no change in technology, the economy would
  have expanded by only 8 (1/3 of 24)

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Growth Accounting

• Accounting for the Productivity Growth Slowdown
  and Speedup
• 1973 to 1983
• Predominantly, the reason for the productivity
  growth slowdown can be attributed to a decline in
  the rate of technological change.
• Real GDP per hour expanded by 8
• Capital per hour increased by 15
• With no change in technology, the economy would
  have expanded by 5 (1/3 of 15)

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Growth Accounting

• Accounting for the Productivity Growth Slowdown
  and Speedup
• 1983 to 1995
• The economy grew due to more rapid technological
  change.
• Real GDP per hour expanded by 18.5
• Capital per hour increased by 11
• With no change in technology, the economy would
  have expanded by only 3.7 (1/3 of 11)

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Growth Accounting and the Productivity Growth
Slowdown
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Growth Accounting

• Technological Change During the Productivity
  Growth Slowdown
• Technology was directed toward coping with two
  major problems.
• 1) Energy price shocks
• 2) The environment

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Growth Accounting

• Technological Change During the Productivity
  Growth Slowdown
• Energy Price Shocks
• 19731974 and 19791980
• Fuel inefficient methods of transportation and
  production were scrapped at an increased rate
• Technological change focused on saving energy
  rather than enhancing productivity

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Growth Accounting

• Technological Change During the Productivity
  Growth Slowdown
• The Environment
• The 1970s saw an expansion of laws and resources
  devoted to protecting the environment and
  improving the quality of the workplace.
• These benefits are not included in real GDP.