Chapter 26: Economic Growth

Supply factors

(1) Increases in the quantity and quality of natural resources (2) Increases in the quantity and quality of human resources (3) Increases in the supply (or stock) or capital goods (4) Improvements in technology Any increases or improvements in these factors will increase the potential SIZE of an economy's GDP

Growth-promoting institutional structures

(1) Strong property rights - people are more likely to invest if these investments are protected (2) Patents and copyrights - incentive for inventors and authors (3) Efficient financial institutions - channeling savings generated by households to the businesses, entrepreneurs, and inventors that do most of society's investing and inventing (banks/stock and bond markets) (4) Literacy and widespread education - putting new technologies to productive use (5) Free trade - allows countries to specialize (lowest opportunity costs!) and promotes the rapid spread of ideas (6) A competitive market system - prices and profits serve as signals that tell firms what to make and how much of it to produce (invisible hand)

Five factors that explain changes in productivity growth rates

(1) Technological advance (largest contributor - 40%) (2) The amount of capital each worker has to work with [capital and labor are most often complementary - BUT an increase in both does not necessarily result in more productivity)] (3) Education and training (4) Economies of scale (5) Resource allocation [low-productivity employment -> high-productivity employment] Ex. agriculture -> manufacturing *The long-run movement toward liberalized international trade (fewer tariffs, import quotas, and other barriers) through international agreements has improved the allocation of resources, increased labor productivity, and expanded real output globally Productivity growth is important because real output, real income, and real wages are linked to labor productivity

Start-up firm

A new firm focused on creating and introducing a particular new product or employing a specific new production or distribution method Ex. Intel (microchips); Apple (personal computers); Cisco Systems (Internet switching systems)

Learning by doing

Achieving greater productivity and lower average total cost through gains in knowledge and skill that accompany repetition of a task; a source of economies of scale

Increasing returns

An increase in a firm's output by a larger percentage than the percentage increase in its inputs Labor productivity per worker increases Increasing returns boost labor productivity and reduce per-unit production costs These cost reductions are examples of economies of scale The sources of increasing returns are (1) more specialized inputs, (2) spreading of development costs, (3) simultaneous consumption, (4) network effects, and (5) learning by doing

Follower countries

Countries that adopt advanced technologies that previously were developed and used by leader countries. Grow much faster than leader countries because they can adopt rather than invent - much less costly = possible for poorer countries to experience extremely rapid increases in living standards When they catch up to leader countries, their real GDP per capita falls to the level of these developed countries (2/3% per year)

Leader countries

Countries that develop and use the most advanced technologies, which then become available to follower countries. Because they are so advanced, these countries must invent to become even richer - inventing and implementing new technology is slow and costly, therefore real GDP per capita grows by an average annual rate of just 2 or 3 percent per year Growth rates of these countries are limited by the rate at which new technologies can be invented and applied

Modern economic growth

Era characterized by sustained and ongoing increases in living standards that can cause dramatic increases in the standard of living within less than a single human lifetime (huge contrast to pre-Industrial Revolution economic standards) - the issue: modern economic growth is unevenly distributed around the world = vast differences in per capita GDP levels today Starting growth earlier = more wealth (U.S. v. Africa) Cultural influence: increases in wealth and living standards have allowed ordinary people to have time for leisure activities and the arts Social influence: countries experiencing modern economic growth have abolished feudalism, instituted universal public education, and eliminated ancient social norms (for the most part) and legal restrictions against women and minorities doing certain jobs or holding certain positions Political influence: countries have tended to move toward democracy Average human lifespan has more than doubled* *Small differences in growth rates matter when these rates are compounded over time (even just a percentage)

Infrastructure

Highways and bridges, public transit systems, wastewater treatment facilities, water systems, airports, educational facilities, etc. Public investment in infrastructure has grown over the years Investment in public capital (infrastructure) promotes private investment (factories and retail stores along new routes)

Demand factor

In order to achieve the higher production potential created when supply factors increase or improve, households, businesses, and the government must also expand purchases of goods and services so as to provide a market for all the new output that can potentially be produced If this occurs, no unplanned increases in inventories and resources will remain fully employed Increases in total spending must occur in order to realize output gains made available by increased production capacity

Network effects

Increases in the value of a product to each user, including existing users, as the total number of users rises Ex. Facebook, cell phones, the Internet

Rule of 70

Mathematical approximation that provides a quantitative grasp of the effect of economic growth. Tells us that we can find the number of years it will take for some measure to double, given its annual percentage increase, by using the following formula: Approximate number of years required to double real GDP = (70)/(Annual percentage rate of growth) Ex. A 3 percent annual rate of growth will double real GDP in about 23 years

Economic growth

Measured as either an increase in real GDP occurring over some time period or an increase in real GDP per capita occurring over some time period. Calculated as a percentage rate of growth per quarter (3-month period) or per year The expansion of total output relative to population results in rising real wages and incomes and thus higher standards of living - growth lessens the burden of scarcity (cannot be completely rid of it) A dynamic process in which the supply, demand, and efficiency factors all interact Other things equal, stronger productivity growth and heightened global competition allow the economy to achieve a higher rate of economic growth

Labor productivity

Real output per hour of work Depends on (1) technological progress, (2) the quantity of capital goods available to workers, (3) the quality of labor itself, and (4) the efficiency with which inputs are allocated, combined, and managed Real GDP = (hours of work) x (labor productivity) A nation's economic growth from one year to the next depends on its increase in labor inputs and its increase in labor productivity Labor inputs = (size of employed labor force) x (average hours of work)

Economies of scale

Reductions in per-unit production costs resulting from increases in output levels As firms expand their size and output, they are able to use larger, more productive equipment and employ methods of manufacturing and delivery that increase productivity - can also better redeem investments in developing new products and production methods

Growth accounting

System used to assess the importance of the supply-side elements that contribute to changes in real GDP. The two categories of these elements are (1) increases in hours of work and (2) increases in labor productivity

Information technology

Technology used to connect all parts of the world (and more specifically businesses to households and businesses to businesses) which has been advanced through the combination of the computer, fiber-optic cable, wireless technology, and the Internet

Real GDP per capita

The amount of real output per person in a country (takes into consideration the size of a nation's population). Helpful in comparing living standards Real GDP per capita = (Real GDP)/(Population)

Determinants of growth

The four supply factors, one demand factor, and one efficiency factor that directly affect the rate and quality of economic growth

Human capital

The knowledge and skill that make a worker productive - education and training contribute to a worker's stock of human capital Investment in human capital includes formal education and on-the-job training Investment in human capital is an important means of increasing labor productivity and earnings (ex. women!!) *More education does not necessarily mean more productivity - quality of education matters too

Labor-force participation rate

The percentage of the working-age population actually in the labor force *Labor-force size depends on the size of the working-age population and the labor-force participation rate

Efficiency factor

To reach full production potential, an economy must achieve economic efficiency as well as full employment Productive efficiency: economy must use resources in the least costly way Allocative: economy must produce specific mix of goods and services that maximizes people's well-being Expansion of production considered in demand factor must be paired with the allocative and productive efficiency of the efficiency factor