Long-Run Growth

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Long-Run Growth
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Robert Lucas

• "Is there some action a government of India could
  take that would lead the Indian Economy to grow
  like Indonesias or Egypts? If so, what exactly?
  If not, what is it about the nature of India
  that makes it so? The consequences for human
  welfare involved in questions like these are
  simply staggering Once one starts to think about
  them it is hard to think of anything else.

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Why is Growth important?

• Measures of Welfare
• http//www.gapminder.org/index.html

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Economic Growth from 1,000,000 B.C. to the Present
World economic growth was essentially zero in the
years before 1300, and it was very slowan
average of only 0.2 percent per yearbefore 1800.
The Industrial Revolution made possible the
sustained increases in real GDP per capita that
have allowed some countries to attain high
standards of living.
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Long-Run Growth

• Economic growth refers to an increase in the
  total output of an economy. Defined by some
  economists as an increase of real GDP per capita.

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Long-Run Growth

• Modern economic growth is the period of rapid and
  sustained increase in real output per capita that
  began in the Western World with the Industrial
  Revolution.

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The Growth ProcessFrom Agriculture to Industry

• The production possibility frontier (ppf) shows
  all the combinations of output that can be
  produced if all societys scarce resources are
  fully and efficiently employed.

• Economic growth expands societys production
  possibilities, shifting the ppf up and to the
  right.

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The Growth ProcessFrom Agriculture to Industry

• Before the Industrial Revolution in Great
  Britain, every society in the world was agrarian.
• Beginning in England around 1750, technical
  change and capital accumulation increased
  productivity in two important industries
  agriculture and textiles.
• More could be produced with fewer resources,
  leading to new products, more output, and wider
  choice.

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The Sources of Economic Growth

• An aggregate production function is the
  mathematical representation of the relationship
  between inputs and national output, or gross
  domestic product.

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The Sources of Economic Growth

• If you think of GDP as a function of both labor
  and capital, you can see that an increase in GDP
  can come about through
• An increase in the labor supply
• An increase in physical or human capital
• An increase in productivity (the amount of
  product produced by each unit of capital or labor)

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An Increase in Labor Supply

• An increasing labor supply can generate more
  output, but if the capital stock remains fixed,
  the new labor will be less productive
  (diminishing returns).

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An Increase in Labor Supply

• Malthus and Ricardo predicted a gloomy future as
  population outstripped the lands capacity to
  produce. However, they forgot the impact of
  technological change and capital accumulation.

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An Increase in Labor Supply

• Growth in the labor force, without a
  corresponding increase in the capital stock or
  technological change, might lead to growth of
  output but declining productivity and a lower
  standard of living.

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An Increase in Labor Supply
Economic Growth from an Increase in Labor More Output but Diminishing Returns and Lower Labor Productivity Economic Growth from an Increase in Labor More Output but Diminishing Returns and Lower Labor Productivity Economic Growth from an Increase in Labor More Output but Diminishing Returns and Lower Labor Productivity Economic Growth from an Increase in Labor More Output but Diminishing Returns and Lower Labor Productivity Economic Growth from an Increase in Labor More Output but Diminishing Returns and Lower Labor Productivity
PERIOD QUANTITYOF LABORL(HOURS) QUANTITYOF CAPITALK(UNITS) TOTALOUTPUTY(UNITS) MEASUREDLABORPRODUCTIVITYY/L
1 100 100 300 3.0
2 110 100 320 2.9
3 120 100 339 2.8
4 130 100 357 2.7
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An Increase in Labor Supply

• Labor productivity is the output per worker hour
  the amount of output produced by an average
  worker in 1 hour.

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An Increase in Labor Supply
Employment, Labor Force, and Population Growth, 1947 2002 Employment, Labor Force, and Population Growth, 1947 2002 Employment, Labor Force, and Population Growth, 1947 2002 Employment, Labor Force, and Population Growth, 1947 2002 Employment, Labor Force, and Population Growth, 1947 2002 Employment, Labor Force, and Population Growth, 1947 2002 Employment, Labor Force, and Population Growth, 1947 2002 Employment, Labor Force, and Population Growth, 1947 2002
CIVILIANNONINSTITUTIONALPOPULATIONOVER 16 YEARS OLD(MILLIONS) CIVILIANNONINSTITUTIONALPOPULATIONOVER 16 YEARS OLD(MILLIONS) CIVILIANLABORFORCE CIVILIANLABORFORCE CIVILIANLABORFORCE EMPLOYMENT(MILLIONS) EMPLOYMENT(MILLIONS)
CIVILIANNONINSTITUTIONALPOPULATIONOVER 16 YEARS OLD(MILLIONS) CIVILIANNONINSTITUTIONALPOPULATIONOVER 16 YEARS OLD(MILLIONS) Number(Millions) Number(Millions) Percentageof Population EMPLOYMENT(MILLIONS) EMPLOYMENT(MILLIONS)
1947 101 .8 59 .4 58.3 57 .0
1960 117 .3 69 .6 59.3 65 .8
1970 137 .1 82 .8 60.4 78 .7
1980 167 .7 106 .9 63.7 99 .3
1990 189 .2 125 .8 66.5 118 .8
2002 214 .0 142 .5 66.6 134 .3

Percentage change, 1947 2002 110 .2 139 .9 135 .6
Annual rate 1 .4 1 .6 1 .6
Source Economic Report of the President, 2003, Table B-35. Source Economic Report of the President, 2003, Table B-35. Source Economic Report of the President, 2003, Table B-35. Source Economic Report of the President, 2003, Table B-35. Source Economic Report of the President, 2003, Table B-35. Source Economic Report of the President, 2003, Table B-35. Source Economic Report of the President, 2003, Table B-35. Source Economic Report of the President, 2003, Table B-35.
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An Increase in Labor Supply

• As long as the economy and the capital stock are
  expanding rapidly enough, new entrants into the
  labor force do not displace other workers.

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Increases in Physical Capital

• An increase in the stock of capital can increase
  output, even if it is not accompanied by an
  increase in the labor force.

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Increases in Physical Capital
Economic Growth from an Increase in Capital More Output, Diminishing Returns to Added Capital, Higher Measured Labor Productivity Economic Growth from an Increase in Capital More Output, Diminishing Returns to Added Capital, Higher Measured Labor Productivity Economic Growth from an Increase in Capital More Output, Diminishing Returns to Added Capital, Higher Measured Labor Productivity Economic Growth from an Increase in Capital More Output, Diminishing Returns to Added Capital, Higher Measured Labor Productivity Economic Growth from an Increase in Capital More Output, Diminishing Returns to Added Capital, Higher Measured Labor Productivity
PERIOD QUANTITYOF LABORL(HOURS) QUANTITYOF CAPITALK(UNITS) TOTALOUTPUTY(UNITS) MEASUREDLABORPRODUCTIVITYY/L
1 100 100 300 3.0
2 100 110 310 3.1
3 100 120 319 3.2
4 100 130 327 3.3
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Increases in Physical Capital

• The increase in capital stock is the difference
  between gross investment and depreciation.
• Capital has been increasing faster than the labor
  force since 1960. When capital expands more
  rapidly than labor, the ratio of capital to labor
  (K/L) increases, and this too is a source of
  increasing productivity.

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Increases in Physical Capital
Fixed Private Nonresidential Net Capital Stock, 1960 2001(Billions of 1996 Dollars) Fixed Private Nonresidential Net Capital Stock, 1960 2001(Billions of 1996 Dollars) Fixed Private Nonresidential Net Capital Stock, 1960 2001(Billions of 1996 Dollars) Fixed Private Nonresidential Net Capital Stock, 1960 2001(Billions of 1996 Dollars) Fixed Private Nonresidential Net Capital Stock, 1960 2001(Billions of 1996 Dollars)
EQUIPMENT EQUIPMENT STRUCTURES STRUCTURES
1960 672 .7 2,015 .7
1970 1,154 .8 2,744 .2
1980 1,989 .8 3,589 .1
1990 2,722 .5 4,703 .5
2001 4,480 .0 5,682 .5

Percentage change, 1960 2001 566 .0 181 .9
Annual rate 4 .7 2 .6
Source Survey of Current Business, September 2002, Table 15, p. 37. Source Survey of Current Business, September 2002, Table 15, p. 37. Source Survey of Current Business, September 2002, Table 15, p. 37. Source Survey of Current Business, September 2002, Table 15, p. 37. Source Survey of Current Business, September 2002, Table 15, p. 37.
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Increases in Human Capital
Years of School Completed by People Over 25 Years Old, 1940 2000 Years of School Completed by People Over 25 Years Old, 1940 2000 Years of School Completed by People Over 25 Years Old, 1940 2000 Years of School Completed by People Over 25 Years Old, 1940 2000
PERCENTAGEWITH LESSTHAN 5YEARS OFSCHOOL PERCENTAGEWITH 4 YEARSOF HIGH SCHOOLOR MORE PERCENTAGEWITH 4 YEARSOF COLLEGEOR MORE
1940 13.7 24.5 4.6
1950 11.1 34.3 6.2
1960 8.3 41.1 7.7
1970 5.5 52.3 10.7
1980 3.6 66.5 16.2
1990 NA 77.6 21.3
2000 NA 84.1 25.6
NA not available.Source Statistical Abstract of the United States, 1990, Table 215 and 2002, Table 208. NA not available.Source Statistical Abstract of the United States, 1990, Table 215 and 2002, Table 208. NA not available.Source Statistical Abstract of the United States, 1990, Table 215 and 2002, Table 208. NA not available.Source Statistical Abstract of the United States, 1990, Table 215 and 2002, Table 208.
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Increases in Productivity

• Growth that cannot be explained by increases in
  the quantity of inputs can be explained only by
  an increase in the productivity of those inputs.

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Increases in Productivity

• The productivity of an input is the amount
  produced per unit of an input.
• Factors that affect the productivity of an input
  include technological change, other advances in
  knowledge, and economies of scale.

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Increases in Productivity

• Technological change affects productivity in two
  stages
• First there is an advance in knowledge, or an
  invention.
• Then there is innovation, or the use of new
  knowledge to produce a new product or to produce
  an existing product more efficiently.
• There are capital-saving innovations, and
  labor-saving innovations.

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Increases in Productivity

• External economies of scale are cost savings that
  result from increases in the size of industries.
• Production abatement requirements divert capital
  and labor from the production of measured output,
  therefore reducing measured productivity.

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Growth and Productivityin the United States
Growth of Real GDP in the United States, 1871 2000 Growth of Real GDP in the United States, 1871 2000 Growth of Real GDP in the United States, 1871 2000 Growth of Real GDP in the United States, 1871 2000 Growth of Real GDP in the United States, 1871 2000
PERIOD AVERAGEGROWTHRATEPER YEAR PERIOD AVERAGEGROWTHRATEPER YEAR
1871-1889 5.5 1950-1960 3.5
1889-1909 4.0 1960-1970 4.2
1909-1929 2.8 1970-1980 3.2
1929-1940 1.6 1980-1990 3.2
1940-1950 5.6 1990-2000 3.2
Sources Historical Statistics of the United States Colonial Times to 1970, Tables F47-70, F98-124 U.S. Department of Commerce, Bureau of Economic Analysis. Sources Historical Statistics of the United States Colonial Times to 1970, Tables F47-70, F98-124 U.S. Department of Commerce, Bureau of Economic Analysis. Sources Historical Statistics of the United States Colonial Times to 1970, Tables F47-70, F98-124 U.S. Department of Commerce, Bureau of Economic Analysis. Sources Historical Statistics of the United States Colonial Times to 1970, Tables F47-70, F98-124 U.S. Department of Commerce, Bureau of Economic Analysis. Sources Historical Statistics of the United States Colonial Times to 1970, Tables F47-70, F98-124 U.S. Department of Commerce, Bureau of Economic Analysis.
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Growth and Productivityin the United States
Growth of Real GDP in the United States and Other Countries, 1981 1998 Growth of Real GDP in the United States and Other Countries, 1981 1998
COUNTRY AVERAGEGROWTH RATEPER YEAR
United States 3.2
Japan 2.3
Germany 2.2
France 2.1
Italy 2.0
United Kingdom 2.6
Canada 3.1
Africa 2.7
Asia (excluding Japan) 7.2
Source Economic Report of the President, 2002, computed from Table B-112. Source Economic Report of the President, 2002, computed from Table B-112.
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Sources of Growth in theU.S. Economy, 1929 1982
Sources of Growth in the United States, 1929 1982 Sources of Growth in the United States, 1929 1982 Sources of Growth in the United States, 1929 1982 Sources of Growth in the United States, 1929 1982 Sources of Growth in the United States, 1929 1982 Sources of Growth in the United States, 1929 1982
PERCENT OF GROWTH ATTRIBUTABLE TO EACH SOURCE PERCENT OF GROWTH ATTRIBUTABLE TO EACH SOURCE PERCENT OF GROWTH ATTRIBUTABLE TO EACH SOURCE PERCENT OF GROWTH ATTRIBUTABLE TO EACH SOURCE
1929 1982 1929 1948 1948 1973 1973 1979
Increases in inputs Increases in inputs 53 49 45 94
Labor 20 26 14 47
Capital 14 3 16 29
Education (human capital) 19 20 15 18
Increases in productivity Increases in productivity 47 51 55 6
Advances in knowledge 31 30 39 8
Other factorsa 16 21 16 - 2
Annual growth rate Annual growth rate 2.8 2.4 3.6 2.6
in real nationalincome
aEconomies of scale, weather, pollution abatement, worker safety and health, crime, labor disputes, and so forth.Source Edward Denison, Trends in American Economic Growth, 1929 1982 (Washington Brookings Institution, 1985). aEconomies of scale, weather, pollution abatement, worker safety and health, crime, labor disputes, and so forth.Source Edward Denison, Trends in American Economic Growth, 1929 1982 (Washington Brookings Institution, 1985). aEconomies of scale, weather, pollution abatement, worker safety and health, crime, labor disputes, and so forth.Source Edward Denison, Trends in American Economic Growth, 1929 1982 (Washington Brookings Institution, 1985). aEconomies of scale, weather, pollution abatement, worker safety and health, crime, labor disputes, and so forth.Source Edward Denison, Trends in American Economic Growth, 1929 1982 (Washington Brookings Institution, 1985). aEconomies of scale, weather, pollution abatement, worker safety and health, crime, labor disputes, and so forth.Source Edward Denison, Trends in American Economic Growth, 1929 1982 (Washington Brookings Institution, 1985). aEconomies of scale, weather, pollution abatement, worker safety and health, crime, labor disputes, and so forth.Source Edward Denison, Trends in American Economic Growth, 1929 1982 (Washington Brookings Institution, 1985).
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Labor Productivity 1952 2003
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Labor Productivity 1952 2003

• Some of the explanations for the slowdown in
  productivity growth in the 1970s include
• A low rate of saving
• Increased environmental and government
  regulations
• Lack of spending in RD
• High energy costs

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Labor Productivity 1952 2003

• Many of these factors turned around in the 1980s
  and 1990s, yet productivity growth remained low.

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Economic Growth and Public Policy

• Policy provisions to improve the quality of
  education include the new Education Individual
  Retirement Account that allows savings to earn
  tax free returns as long as the balance is used
  to pay for educational expenses.

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Economic Growth and Public Policy

• Policies to increase the saving rate include
  individual retirement accounts that accumulate
  earnings without paying income tax.

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Economic Growth and Public Policy

• The amount of capital accumulation is ultimately
  constrained by its rate of saving.
• The tax system and the social security system in
  the United States are biased against saving.

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Economic Growth and Public Policy

• Some public finance economists favor shifting to
  a system of consumption taxation rather than
  income taxation to reduce the tax burden on
  saving.

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Economic Growth and Public Policy

• Other public policies to stimulate economic
  growth include
• Policies to stimulate investment
• Policies to increase research and development
• Reduced regulations
• Industrial policy, or government involvement in
  the allocation of capital across manufacturing
  sectors.

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The Pro-growth Argument

• Advocates of growth believe growth is progress.
• New technologies and production methods lead to
  new and better products. Capital accumulation
  and new technology improve the quality of life.

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The Progrowth Argument

• Growth saves the most valuable commoditytime.
• Growth also improves the quality of things that
  yield satisfaction directly.

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The Progrowth Argument

• Growth produces jobs and higher incomes. With
  higher incomes we can better afford the
  sacrifices needed to help the poor.
• When population growth is not accompanied by
  growth in output, unemployment and poverty
  increase.

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The Antigrowth Argument

• Growth has negative effects on the quality of
  life.
• Growth encourages the creation of artificial
  needs.
• Consumer sovereignty is the notion that people
  are free to choose, and that things that people
  do not want will not sell. The consumer rules.

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The Anti-growth Argument

• Growth means the rapid depletion of a finite
  quantity of resources.
• Growth requires an unfair income distribution and
  propagates it.

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Economic Growthin Developing andTransitional
Economies
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• Natures Inequalities
• Geography
• Institutions matter(Daron Acemoglu)
• Solows Surprise
• Capital matters, but only to a point.
• Growth comes from Technology (productivity)

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Economic Growth in Developingand Transitional
Economies

• The universality of scarcity makes economic
  analysis relevant to all nations.
• Economic problems and policy instruments are
  different, but economic thinking about these
  problems can be transferred easily from country
  to country.

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Life in the Developing NationsPopulation and
Poverty

• The United States and other industrialized
  economies rarely face the difficulties faced by
  developing nations
• chronic food shortages
• explosive population growth
• hyperinflations
• low productivity and low GDP per capita
• primitive shelter
• illiteracy
• infant mortality

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Life in the Developing NationsPopulation and
Poverty
Indicators of Economic Development Indicators of Economic Development Indicators of Economic Development Indicators of Economic Development Indicators of Economic Development Indicators of Economic Development
COUNTRY GROUP POPULATION(MILLIONS)2002 GROSS NATIONAL INCOME PER CAPITA,2002(DOLLARS) ANNUAL HEALTH EXPENDITURES PER CAPITA2001(DOLLARS) INFANT MORTALITY,2001(DEATHS BEFOREAGE FIVE PER1,000 BIRTHS) PERCENTAGE OF POPULATION IN URBAN AREAS,2001
Low-income (e.g., China, Ethiopia, Haiti, India) 2,495 430 21.5 121.7 32
Lower middle-income (e.g., Guatemala, Poland, Philippines, Thailand) 2,411 1,390 72.3 42.2 42
Upper middle-income (e.g., Brazil, Malaysia, Mexico) 331 5,040 308.9 28.6 76
Industrial market economies (e.g., Japan, Germany, New Zealand, United States) 965 26,310 2,736 7.1 79
Source World Bank, WWW.WORLDBANK.ORG Source World Bank, WWW.WORLDBANK.ORG Source World Bank, WWW.WORLDBANK.ORG Source World Bank, WWW.WORLDBANK.ORG Source World Bank, WWW.WORLDBANK.ORG Source World Bank, WWW.WORLDBANK.ORG
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Life in the Developing NationsPopulation and
Poverty

• In the year 2002, the world population reached
  over 6.2 billion people. Most of the worlds
  more than 200 nations belong to the developing
  world.
• While the developed nations account for only
  about one-quarter of the worlds population, they
  consume about three-quarters of the worlds
  output.
• Developing countries have three-fourths of the
  worlds population, but only one-fourth of the
  worlds income.

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Economic DevelopmentSources and Strategies

• Almost all developing nations have a scarcity of
  physical capital relative to other resources,
  especially labor.
• The vicious-circle-of-poverty hypothesis suggests
  that poverty is self-perpetuating because poor
  nations are unable to save and invest enough to
  accumulate the capital stock that would help them
  grow.
• Poverty alone cannot explain capital shortages,
  and poverty is not necessarily self-perpetuating.

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The Sources ofEconomic Development

• Capital flight is the tendency for both human
  capital and financial capital to leave developing
  countries in search of higher rates of return
  elsewhere.
• Price ceilings, import controls, and
  expropriation are some of the policies that
  discourage investment.
• The absence of productive capital prevents income
  from rising.

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The Sources ofEconomic Development

• Just as financial capital seeks the highest
  return, so does human capital
• Brain drain is the tendency for talented people
  from developing countries to become educated in a
  developed country and remain there after
  graduation.
• Development cannot proceed without human
  resources capable of initiating and managing
  economic activity.

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The Sourcesof Economic Development

• Social overhead capital is the basic
  infrastructure projects such as roads, power
  generation, and irrigation systems that add to a
  nations productive capacity.
• In developing economies, government provision of
  public goods is highly deficient, and many
  socially useful projects cannot be successfully
  undertaken by the private sector.

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Strategies for Economic Development

• A developing economy with insufficient human and
  physical capital faces some very basic
  trade-offs. Three of these trade-offs are
• Agriculture versus industry.
• Exports versus import substitution.
• Central planning versus the market.

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Agriculture or Industry?

• Industry has some apparent attractions over
  agriculture
• The building of factories is an important step
  toward increasing the stock of capital.
• Developed economies have experienced a structural
  transition from agriculture to industrialization
  and greater provision of services.
• However, industrialization in many developed
  countries has not brought the benefits that were
  expected.

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Agriculture or Industry?
The Structure of Production in Selected Developed and Developing Economies, 2001 The Structure of Production in Selected Developed and Developing Economies, 2001 The Structure of Production in Selected Developed and Developing Economies, 2001 The Structure of Production in Selected Developed and Developing Economies, 2001 The Structure of Production in Selected Developed and Developing Economies, 2001
COUNTRY PER CAPITAGROSS NATIONAL INCOME (GNI)
COUNTRY PER CAPITAGROSS NATIONAL INCOME (GNI) PERCENTAGE OF GROSS DOMESTIC PRODUCT PERCENTAGE OF GROSS DOMESTIC PRODUCT PERCENTAGE OF GROSS DOMESTIC PRODUCT
COUNTRY PER CAPITAGROSS NATIONAL INCOME (GNI) AGRICULTURE INDUSTRY SERVICES
Tanzania 270 45 16 39
Bangladesh 360 23 25 52
China 840 15 57 34
Thailand 1,440 10 41 49
Colombia 1,890 13 30 57
Brazil 3,070 9 34 57
Korea 9,460 4 42 54
United States 34,280 2 25 73
Japan 35,610 1 32 67
Source World Bank, WWW.WORLDBANK.ORG, 2003. Source World Bank, WWW.WORLDBANK.ORG, 2003. Source World Bank, WWW.WORLDBANK.ORG, 2003. Source World Bank, WWW.WORLDBANK.ORG, 2003. Source World Bank, WWW.WORLDBANK.ORG, 2003.
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Exports or Import Substitution?

• Import substitution is an industrial trade
  strategy that favors developing local industries
  that can manufacture goods to replace imports.

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Exports or Import Substitution?

• The import-substitution strategy has failed
  almost everywhere for the following reasons
• Domestic industries, sheltered from international
  competition, develop major economic
  inefficiencies.
• Import substitution encouraged the production of
  capital-intensive production methods, which
  limited the creation of jobs.
• The cost of the resulting output was far greater
  than the price of that output in world markets.

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Exports or Import Substitution?

• Export promotion is a trade policy designed to
  encourage exports.
• Several countries including Japan, the four
  little dragons, Brazil, Colombia, and Turkey,
  have had some success with outward-looking trade
  policy.
• Government policies to promote exports include
  subsidies to export industries and the
  maintenance of a favorable exchange rate
  environment.

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Central Planning or the Market?

• Today, planning takes many forms in developing
  nations.
• The economic appeal of planning lies in its
  ability to channel savings into productive
  investment and to coordinate economic activities
  that otherwise might not exist.
• The reality of central planning is that it is
  technically difficult, highly politicized, and
  difficult to administer.

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Central Planning or the Market?

• Market-oriented reforms recommended by
  international agencies include
• the elimination of price controls,
• privatization of state-run enterprises, and
• reductions in import restraints.

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Central Planning or the Market?

• The International Monetary Fund is an
  international agency whose primary goals are to
  stabilize international exchange rates and to
  lend money to countries that have problems
  financing their international transactions.

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Central Planning or the Market?

• The World Bank is an international agency that
  lends money to individual countries for projects
  that promote economic development.

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Growth Versus DevelopmentThe Policy Cycle

• Structural adjustment is a series of programs in
  developing nations designed to
• reduce the size of their public sectors through
  privatization and/or expenditure reductions,
• decrease their budget deficits,
• control inflation, and
• encourage private saving and investment through
  tax reform.

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Issues in Economic Development

• The growth of the population in developing
  nations is about 1.7 percent per year, compared
  to only 0.5 percent per year in industrial market
  economies.
• Thomas Malthus, Englands first professor of
  political economy, believed populations grow
  geometrically. He believed that due to the
  diminished marginal productivity of land, food
  supplies grow much more slowly.

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The Growth of World Population, Projected to 2020
A.D.
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Population Growth

• Population growth is determined by the
  relationship between births and deaths.
• The fertility rate, or birth rate, equals

• The mortality rate, or death rate, equals

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Population Growth

• The natural rate of population increase is the
  difference between the birth rate and the death
  rate. It does not take migration into account.
• Any nation that wants to slow its rate of
  population growth will probably find it necessary
  to have in place economic incentives for fewer
  children as well as family planning programs.

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Developing-Country Debt Burdens

• Debt rescheduling is an agreement between banks
  and borrowers through which a new schedule of
  repayments of the debt is negotiated often some
  of the debt is written off and the repayment
  period is extended.
• A stabilization program is an agreement between a
  borrower country and the International Monetary
  Fund in which the country agrees to revamp its
  economic policies to provide incentives for
  higher export earnings and lower imports.

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Political Systems and Economic Systems
Socialism, Capitalism, and Communism

• Democracy and dictatorship refer to political
  systems.
• A democracy is a system of government in which
  ultimate power rests with the people, who make
  governmental decisions either directly through
  voting or indirectly through representatives.
• A dictatorship is a political system in which
  ultimate power is concentrated in either a small
  elite group or a single person.

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Political Systems and Economic Systems
Socialism, Capitalism, and Communism

• Two major economic systems have existed
  socialism and capitalism.

• A socialist economy is one in which most
  capitalfactories, equipment, buildings,
  railroads, and so forthis owned by the
  government rather than by private citizens.
  Social ownership is another term that is used to
  describe a socialist economy.

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Political Systems and Economic Systems
Socialism, Capitalism, and Communism

• Two major economic systems have existed
  socialism and capitalism.

• A capitalist economy is one in which most capital
  is privately owned.

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Political Systems and Economic Systems
Socialism, Capitalism, and Communism

• Communism is an economic system in which the
  people control the means of production (capital
  and land) directly, without the intervention of a
  government or state.

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Political Systems and Economic Systems
Socialism, Capitalism, and Communism

• Comparing economies today, the real distinction
  is between centrally planned socialism and
  capitalism, not between capitalism and communism.
• No pure socialist economies and no pure
  capitalist economies exist.
• The United States supports many government
  enterprises, including the postal system,
  although public ownership is the exception.

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Political Systems and Economic Systems
Socialism, Capitalism, and Communism

• Whether particular kinds of political systems
  tend to be associated with particular kinds of
  economic systems is debatable.
• There are capitalist economies with democratic
  political institutions socialist economies that
  maintain strong democratic traditions and
  democratic countries with strong socialist
  institutions.
• At the heart of both the market system and
  democracy is individual freedom.

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Central Planning Versus the Market

• Just as there are no pure capitalist and no pure
  socialist economies, there are no pure market
  economies and no pure planned economies.
• A market-socialist economy is an economy that
  combines government ownership with market
  allocation.

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• Easterly
• Policy doesnt matter for growth, except dont
  have bad policies.
• Stay away from extreme inflation
• etc

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Review Terms and Concepts

• aggregate production function
• consumer sovereignty
• economic growth
• industrial policy
• innovation

invention labor productivity modern economic
growth productivity of an input
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Review Terms and Concepts

• brain drain
• capital flight
• capitalist economy
• communism
• debt rescheduling
• export promotion
• fertility rate
• import substitution
• International Monetary Fund, IMF
• market-socialist economy

mortality rate natural rate of population
increase shock therapy social overhead
capital socialist economy stabilization
program structural adjustment tragedy of
commons vicious-circle-of-poverty
hypothesis World Bank
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The Transition to a Market Economy

• Economists generally agree on six basic
  requirements for a successful transition from
  socialism to a market-based system

1. macroeconomic stabilization
2. deregulation of prices and liberalization of
   trade
3. privatization of state-owned enterprises and
   development of new private industry

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The Transition to a Market Economy

• Economists generally agree on six basic
  requirements for a successful transition from
  socialism to a market-based system

1. the establishment of market-supporting
   institutions, such as property and contract laws,
   accounting systems, and so forth
2. a social safety net to deal with unemployment and
   poverty and
3. external assistance.

86
The Transition to a Market Economy

• The tragedy of commons is the idea that
  collective ownership may not provide the proper
  private incentives for efficiency because
  individuals do not bear the full costs of their
  own decisions but do enjoy the full benefits.

87
The Transition to a Market Economy

• Shock therapy is the approach to transition from
  socialism to market capitalism that advocates
  rapid deregulation of prices, liberalization of
  trade, and privatization.
• Advocates of a gradualist approach believe that
  the best course of action is to build up market
  institutions first, gradually decontrol prices,
  and privatize only the most efficient government
  enterprises.