ECON 1102 Week 12 Post Lecture
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Transcript of ECON 1102 Week 12 Post Lecture
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The Open EconomyEconomic Growth
Read Chapter 10 & 11
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1. What is economic growth?
2. What determines economic growth
3. How to promote economic growth4. Costs/limits to growth?
5. Developing a model of economic growth
Read: Bernanke Chapter 10 and Chapter 11
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Record of transactions between residents of a country andnon-residents
Current Account
Transactions leading to a change of ownership ofcommoditiesor a direct flow of income
Capital Account
Transactions involving the purchase or sale of
assets
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Balance on merchandise trade(exports less imports ofgoods)
(plus) Net services
(plus) Net income(includes labour and propertyincome; interest, dividend and royalty payments)
(plus) Current transfers(migrant funds, foreign aid)
(equals) Balance on Current Account
When the balance is negative, it is known as acurrent account deficit; when positive, a current
account surplus
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That part of the balance of payments that recordstransactions leading to a change of ownership ofcommodities, or a direct flow of income or similarpayment, is known as:
A. net external assets
B. the current account
C. the balance on merchandise trade
D. terms of trade
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That part of the balance of payments that recordstransactions leading to a change of ownership ofcommodities, or a direct flow of income or similarpayment, is known as:
A. net external assets
B.the current account
C. the balance on merchandise trade
D. terms of trade
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That part of the balance of payments that recordstransactions leading to either the purchase or sale ofdomestic assets is known as:
A. net external assets
B. the current account
C. the balance on merchandise trade
D. the capital account
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That part of the balance of payments that recordstransactions leading to either the purchase or sale ofdomestic assets is known as:
A. net external assets
B. the current account
C. the balance on merchandise trade
D.the capital account
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Which of the following is a debit item in the Australian currentaccount?
A. The sale of wool to Italy
B. An Australian consulting company receives payment from anoverseas firm
C. The fees paid by overseas students at an Australian university
D. An Australian company pays for consulting services from anoverseas firm
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Which of the following is a debit item in the Australian currentaccount?
A. The sale of wool to Italy
B. An Australian consulting company receives payment from anoverseas firm
C. The fees paid by overseas students at an Australian university
D.An Australian company pays for consulting services from anoverseas firm
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The capital and financial accountincludes the capital
account and the financial account. The capital account(is very small and) includes:
Net capital transferswhich include (eg) the
cancellation of debts of poor countries and funds
taken in and out by migrants; and
The net acquisition/disposal of non-produced, non-
financial assets records sales of embassy land or
patents and copyrights etc.
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The capital and financial accountincludes the capitalaccount and the financial account.
The financial accountis (the major component and is) divided
between two sectors:
The official sectorrecords the transactions of thegovernment sector and the Reserve Bank.
The non-official sector records the transactions of private
sector firms, financial institutions and householdsdirect
and portfolio investment balances of net foreigninvestment in Australia and Australian investment abroad
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When an Australian company purchases a timber mill inBosnia, from the perspective of Australia this is a(n):
A. import
B. export
C. balance on merchandise trade
D. capital outflow
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When an Australian company purchases a timber mill inBosnia, from the perspective of Australia this is a(n):
A. import
B. export
C. balance on merchandise trade
D.capital outflow
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If Australia has a $30 billion current account deficit, thenthere must be:
A. net capital inflows of $30 billion
B. net capital inflows of -$30 billion
C. no capital inflows or capital outflows
D. net capital outflows of $30 billion
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If Australia has a $30 billion current account deficit, thenthere must be:
A.net capital inflows of $30 billion
B. net capital inflows of -$30 billion
C. no capital inflows or capital outflows
D. net capital outflows of $30 billion
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Relative domestic and foreign interest rates
Relative riskinessdue to
Risk of loss of capital (political risk, default by borrower,
bankruptcy by foreign business) Exchange rate risk
Expected long term returns
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Holding constant risk and the real returns available abroad,lower domestic real interest rates _____ capital inflows,
_____ capital outflows and _____ net capital inflows.
A. increase; increase; increase
B. increase; increase; decrease
C. increase; decrease; increase
D. decrease; increase; decrease
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Holding constant risk and the real returns available abroad,lower domestic real interest rates _____ capital inflows,
_____ capital outflows and _____ net capital inflows.
A. increase; increase; increase
B. increase; increase; decrease
C. increase; decrease; increase
D.decrease; increase; decrease
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In a closed economy, we have seen that national savingand investment are equal.
In an open economy, where capital flows are possible,
savings from other countries can finance domestic
investments.
Therefore, we can write:NS+KI=I
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Let a country's national saving (NS), investment (I) and net
capital inflows (KI) be given by the following:NS= 2000 + 2000*rI= 2500 - 4000*rKI= -100 + 6000*rwhere ris the real interest rate. If this is a closed economy,what is the equilibrium real interest rate?
A. 0.083
B. 0.050
C. 0.000
D. 0.025
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Let a country's national saving (NS), investment (I) and net capitalinflows (KI) be given by the following:NS= 2000 + 2000*rI= 2500 - 4000*rKI= -100 + 6000*rwhere ris the real interest rate. If this is a closed economy, what isthe equilibrium real interest rate?
A.0.083 NS = I (no capital inflow)2000 + 2000r = 2500 4000r
6000r = 500r = 0.083
B. 0.050
C. 0.000
D. 0.025
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1. What is economic growth?
2. What determines economic growth
3. How to promote economic growth4. Costs/limits to growth?
5. Developing a model of economic growth
Read: Bernanke Chapter 10 and Chapter 11
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.
p
0Output
LRAS1
SRAS
AD
LRAS2
SRAS
AD
Y*1 Y*2
Rightward shift of LRAC
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long term growth refers to a rise in living standards,not the rise in total GDP
material living standards are reflected in GDP per
capita http://www.smh.com.au/business/the-
economy/australias-gdp-figures-beat-expectations-20140305-346c5.html
http://www.smh.com.au/federal-politics/political-news/countrys-rich-have-lions-share-of-income-growth-20131009-2v8q2.html
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Figure 10.1 Ratio of real per capita GDP to 1960 real per capita GDP
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Figure 10.2 Distribution of world real per capita GDP, 2007
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Figure 10.3 Average annual growth rates of
real per capita GDP, 19902007, selected
Sub-Saharan African
countries, Australia and the United States
Figure 10.4 Average annual growth
rates in per capita real GDP 19602007
for three of the Asian Tigers
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Large differences in growth rates
Large differences in real GDP per capita
Small differences in annual growth rates matter
Why do countries grow at different rates?
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Long term growth refers to growth in GDP percapita
GDP per capita = Y/POP
But, Y/POP = Y/N x N/POP
Where: in long run Y = Y* = real output;
N = number of employed workers
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Long term growth refers to growth in GDP percapita
GDP per capita = Y/POP
But, Y/POP = Y/N x N/POP
Where: in long run Y = Y* = real output;
N = number of employed workers
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GDP per worker = average labour productivity
Share of population working
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Growth of labour productivity (Y/N)
Growth of worker/population ratio (N/POP)
Accordingly, real GDP can only grow if: the average labour productivity grows; and/or
the share of the working population grows.
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Figure 10.8 Share of the Australian population employed and average productivity,
19642010
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Human capital per worker
Physical capital per worker
Land and natural resources per worker
The level of technology Entrepreneurship and quality of management
Incentives provided by the taxation and welfare
systems e.g. retirement pension age Political and legal environmente.g. property rights
Social norms e.g. childcare, family size
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Age distribution of the population- birth rate, death rate, immigration
- http://www.bbc.com/news/magazine-25968269
Long term trends affecting participation in the labour
force-Working parents, retirement ages, years in education etc
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http://www.bbc.com/news/magazine-25968269http://www.bbc.com/news/magazine-25968269http://www.bbc.com/news/magazine-25968269http://www.bbc.com/news/magazine-25968269 -
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1. What is economic growth?
2. What determines economic growth
3. How to promote economic growth4. Costs/limits to growth?
5. Developing a model of economic growth
Read: Bernanke Chapter 10 and Chapter 11
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Human capital: policies to improve education, trainingand research
Physical capital: policies to enhance saving and
increase investment
Level of technology: policies to increase research and
development
Other: sensible regulation, enforcement of property
rights, transparent government and justice system
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Costs of economic growth?:future consumptionpossibilities only possible at expense of current consumption
(ie, elderly sacrifice for the young), environmental damage
Limits to growth?:is economic growth limited due toenvironmental impacts and ongoing population growth?
- Environmental concernsconsider technological
improvements, higher wealth -> better solutions; use the
market to address mis-pricing of energy sources- Population growth concernsricher countries have smaller
families
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A Production Functionrepresents the relationshipbetween
Primary Factors of Production
Labour
Capital Secondary Factors of Production
Technology
Management Expertise
Skills Other Factors e.g. infrastructure, political stability etc..
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Figure 11.1 The production process
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The production function shows the level of productionassociated with different combinations of capital and
labour, holding secondary factors constant
As well, with inputs of labour and capital constant, itshows the level of production with different inputs of
secondary factors
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Capital is a key determinant in economic growth.
The real rate of interest in the economy is anopportunity cost of employing capital.
It is a rate of interest the firm needs to pay if borrowing funds,or a rate it could receive if it saved those funds instead.
A key question is how much capital the firm
should acquire. It is determined by the cost-benefit principle.
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11-49
Figure 11.3 The diminishing marginal productivity of capital
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Fig. 11.4 The demand for capital
Marginal benefit (marginal product of capital)
= Marginal cost (real interest rate)
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When using the production function, economists uselabour, l, as the total number of hours or work
supplied.
Individuals decide how much labour they supply by
comparing the benefits of workingthe real wage
received against the cost of workingand choosing the
best alternative to their time.
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The factors that affect a firms demand for labour aresimilar to the factors that affect a firms choice of the
capital stock. The benefits to the firm of employing an additional unit of
labour are measured by the marginal revenue product of
labour:MRPl=P xMPl
As with capital, theMPl andMRPldecline due to thefact that: successive workers are assigned to the most productive
tasks the pragmatic problems of adding more staff to fixed capital.
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Determines equilibrium
amount of labour
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The production function shows how firmscombine those primary factors of productionto produce output:
Assumptions on the production function: Adding more capital to fixed labour increases total
product but decreases marginal productivity.
Adding more labour to fixed capital increases totalproduct but decreases marginal productivity.
All secondary factors of production, such asmanagerial expertise and the skill level of thelabour, remain constant.
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Yt=AtKt. Lt
(1 )
Y= amount of real output
K= capital stockL= amount of labour
A= secondary factors of production
0 < a< 1
indicates share of capital, 1- indicates share of labour
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Yt=AtKt. Lt
(1 )
Y= amount of real output
K= capital stockL= amount of labour
A= secondary factors of production
0 < a< 1
indicates share of capital, 1- indicates share of labour
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Production in period t (Yt)depends on the secondary factors of
production in period t (At),multiplied by a function of
the combination of the employment of
capital and labour in period t (Ktand Lt).
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Based on the observation that the shares of capital income ()
and labour income (1) in US national income have been
more or less constant over time
Widely used (around the world) to represent the production
function in empirical work
Has useful properties:
Displays diminishing marginal productivity for both labour
and capital
Features constant returns to scale (ie, if double inputs of Kand L, then output is doubled)
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Yt=AtKt
. Lt(1
)
LetA= 5
= 0.2 , (1) = 0.8
L = K= 1 in period t =1
1. Keeping labour (L) constant at 1, how will output change as
the quantity of capital (K) increases from 1 to 2, 3, 4, 5?
2. What happens to output when labour and capital eachincrease from 1 to 5 ?
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t = At Kt Lt Yt = At.Kta.Lt(1-a) MPk
1 5 1 1 Y1 = 5 x 10.2 x 1(1-0.2) = 5
2 5 2 1 5.74 0.74
3 5 3 1 6.23 0.49
4 5 4 1 6.60 0.37
5 5 5 1 6.90 0.30
Diminishing marginal productivity of capital
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t = At Kt Lt Yt = At.Kta.Lt(1-a)
1 5 1 1 Y1 = 5 x 10.2 x 1(1-0.2) = 5
2 5 2 2 Y1
= 5 x 20.2 x 2(1-0.2) = 10
3 5 3 3 15
4 5 4 4 20
5 5 5 5 25
Constant returns to scale
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Start with our Cobb-Douglas function:
yt=Atktlt(1)
Given a 1% increase in the capital stock between one
period and the next, how much will output increase?
We will use the mathematical rule that ifZ=X, thena percentage change inZ= (the percentage change in
X).
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yt kt= yt -1 kt -1
The LHS is the economys rate of growth. The RHS
shows us that if = 0.25 (which is the share of GDP
paid to owners of capital) then a 1% increase in the
capital stock will lead to a 0.25% increase in growth.
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The same type of reasoning shows us how outputwould change if all else is constant and the labour
supply changes:
yt lt= (1 )yt -1 lt -1
If = 0.25 then a 1% increase in the labour supply will
lead to a 0.75% increase in growth.
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The secondary factors of production are knowncollectively as total factor productivity because theyimpact on the ability to transform primary factorsinto output.
We can calculate the contribution to growth by:
yt At=yt-1 At -1
This is a one-to-one relationship: if TFP increased by1% there would be a 1% increase in growth.
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Economic growth occurs either because the capital
stock has grown, the labour supply has grown, or
there has been an improvement in the economys
ability to use labour and capital.
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Example: If capital was growing at 4% pa, labour at 1%,TFP at 1% and = 0.25, we could calculate the
economic growth rate at 2.75%. Capital would have
contributed 0.25 x 4% = 1%, labour 0.75 x 1% = 0.75%
and TFP 1 x 1% = 1%.
In reality, information on capital stock is difficult to
calculate accurately, but is available. Data on labour,
economic growth and the value of are available and
reasonably accurate.
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Figure 11.11 Growth accounting, Australia, 1976 to 2009
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Figure 11.12 Growth accounting, Japan, the United Kingdom and the United States
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Figure 11.13 Growth accounting, the Asian Tigers and the Philippines, 19601994
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Highlight factors influencing total factor productivity (TFP)
Education and human capital
Research and development
Political structure
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PART A: 45 Multiple choice questions 45 marks (1 mark each)
PART B : 2 Written question (in parts)
2 x 10 marks = 20 marks
ANSWER ALL QUESTIONS
Refer to Moodle for more detail
Sample questions (Part B) on Moodle
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Go over the post lecture notes on Moodle Go over Tutorial questions
Do sample written questions on Moodle
Do MC quizzes on Moodle
Attend Pitstop session for extra help
72
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7/21/2019 ECON 1102 Week 12 Post Lecture
73/73
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