Economic Growth and Productivity

Chapter 16

Copyright © 2011 by The McGraw-Hill Companies, Inc. All rights reserved.McGraw-Hill/Irwin

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1. Summarize the causes of economic growth in the United States.2. Examine and explain the role played by productivity.3. List and explain the reasons why our productivity growth has varied

in recent decades.4. Assess the roles of savings, capital, and technology.5. List and examine the factors slowing our economic growth.6. Discuss and analyze economic growth in the less developed

countries.7. Judge the Malthusian theory of population.8. Analyze Baumol’s disease.

After this chapter, you should be able to:

Learning Objectives

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The Industrial Revolution and American Economic Development

Prior to the Industrial Revolution:• Old age began around your 40th birthday.• You lived and died within a few miles of where you were born.• You spent most of your time farming.• You were illiterate.

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The Industrial Revolution made possible sustained economic growth and rising living standards for the first time in history.

• Began in England around the mid 18th century• Entered its 2nd phase in America in the early years of the 20th

century, based the mass production of cars, electrical machinery, steel, oil, and chemicals

• 3rd phase in U.S., Japan, Western Europe, and newly industrialized countries, based on consumer electronics, computers, communications, advances in manufacturing

• 4th phase since 1990s, based on information age

The Industrial Revolution and American Economic Development

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Economic Growth During the Last Millennium

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Annual Percentage Change in Productivity and Real GDP, 1970-2009

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Annual Productivity Percentage Increase by Decade, 1950-2009

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How Saving and Investment Affect Productivity Growth

Low savings rate low productivity growth Personal savings is low; personal debt is high Government savings (budget deficits) are growing

U.S. Gross Savings Rate as a % of GDP

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How Saving and Investment Affect Productivity Growth

Low rate of investment low productivity growth Capital spending (to replace capital stock) is low Investment also GDP growth (see PPC curves)

Country B has ahigher growth rate than Country A.

Is Country B China and Country A the US?

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U.S. Gross Savings Rate as a Percentage of GDP: 1960-2009

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How Labor Force Changes Affect Productivity Growth

In 1870, Americans, Germans, French, Japanese, and British workers averaged nearly 3,000 hours a year on the job.

• Now it is less than 2,000 hours, with much of the decline having come since World War II.

How does our labor force stack up against the rest of the world?

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Average Number of Hours per Employed Person in Selected Countries: 1990 and 2008

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The Labor Force: Rising Quantity and Declining Quality

Americans are among the world’s hardest working people (in annual hours).

• Much less vacation time offered (and taken) than Europe.

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The Labor Force: Rising Quantity and Declining Quality

Our schools are failing: literacy and quantitative reasoning skills.

• Businesses have trouble finding secretaries who can spell and put together grammatically correct sentences.

• Law firms spend millions of dollars teaching their attorneys how to write.

• Fast-food restaurant chains have found it necessary to place pictures on their cash registers because so many of their clerks are numerically challenged.

• Though more Americans are graduating high school and college, we have lower standards.

• On a positive note, U.S. does well in indicators such as Nobel prize recipients.

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The Permanent Underclass: Poverty, Drugs, and Crime

The U.S. has a permanent underclass constituting about 10% of our population.

• These people are supported by tax dollars, and many are members of third- and-fourth-generation welfare families.

• No other industrialized nation in the world has such a large dependent population.

Poverty is closely associated with drugs and crime.• Drugs and crime take a toll on the economy.

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Restrictions on Immigration

This country was built by immigrants.

Before the 1920s,virtually anyone who wanted to come to the U.S. could.

• In the early years of the 20th century, close to a million people came here each year.

• Restrictive immigration laws were passed to prevent further dilution of our so-called “vaunted northern European stock.”

Today, even more restrictions since 9/11/2001.

So where do we get our skilled labor?

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The Role of Technological Change

Economic growth is largely determined by the rate of technological change.

Technological change enables us to produce more output from the same package of resources, or, alternatively to produce the same output with fewer resources.

Information technology has boosted productivity (e.g. computer literacy).

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The Role of Technological Change From 1973-1995, annual productivity growth was about 1.5%, and

it has since doubled. How much of this increase was due to computerization and

computer literacy?• 2/3rds, according to economists Stephen Oliner and Daniel Sichel. • E.g. FedEx, Walmart, airlines, banks use information technology to

boost productivity.• Bar codes track inventory, saving customers, retailers, and

manufacturers $40 billion a year.• B2B commerce on the Internet; Internet sales growing at double-digit

percentage rates. Pressure to adopt productivity-enhancing technology is

accentuated in a globalized economy.

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Our Inefficient Transportation System

From early U.S. history to the 1900s, ours was the world’s best. After WWII, suburbanization; growth of national highway system;

reliance on automobile. We let our railways deteriorate. We have become dependent on imported oil, highway building and

maintenance, and parking lots. As a result, we need to devote more percentage of our GDP to

transportation than our global competitors.

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Our Bloated Health Care System

Rising health care costs; we lead the world in administrative costs. In 1950, we spent less than $500 in today’s dollars on the average

person’s medical care, compared to $7000 today. Since 2000, health care costs rising > 4x the rate of inflation. We have fewer doctors per capita than other rich countries. We spend about 2x as much per capita than other rich countries. Yet more than 49 million Americans have no medical insurance.

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Health Care Spending as a Percentage of GDP, Top Ten Countries, 2008

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The Shift to a Service Economy

Through the 1970s and 1980s, most of our productivity growth was in the manufacturing sector.

“Baumol’s disease”: phenomenon named after NYU Professor William Baumol:

Any service is inherently labor intensive.

Because productivity growth in the labor-intensive service sector tends to lag behind manufacturing productivity growth, costs in service-related businesses end up increasing over time.

Health care is very labor intensive. This puts a tremendous burden on taxpayers. Again, the shock of the baby boomers health care needs may

drag down productivity gains in the coming decades.

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Additional Factors Affecting Our Rate of Growth

Since the 1970s, various other factors retarding our rate of economic growth came into play.

• Higher energy and transportation costs• Environmental protection requirements• Health and safety regulations• Rising health care costs• The effects of 9/11• The effect of military spending• The influence of special interest groups, e.g. labor unions, corporate

PACS, trade associations

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Questions for Further Thought and Discussion

Does global warming affect our productivity and our economic growth?

What can we do about it?• Cap and trade• Carbon tax

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Summary: Factors Affecting Our Productivity

1. Our low savings rate2. Our low rate of investment3. The rising quantity of labor4. The declining quality of labor5. The growth of the permanent underclass and its

attendant problems of poverty, drugs, and crime6. Restrictions on immigration7. Computerization8. Military and other security spending9. Globalization10. Our inefficient transportation system11. Our bloated health care system12. Global warming

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Output per Employee: An International Comparison,

or Value Added per Person Employed, 2008

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Economic Growth in the Less Developed Countries

The world can be divided into 3 groups of countries:1. The industrialized nations

2. The newly industrializing countries (NICs)

3. The less-developed countries (LDCs) Those who live in the LDCs are the people who really have

problems. Today, more than 2/3rds of people in the world live in LDCs.

• About half live at or near the subsistence level.• Most live in abject poverty, with no hope that they or their children

will have better lives.

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The Poorest Countries in the World

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Economic Growth in the Less Developed Countries

The big question is how to get from LDC to NIC and, ultimately to industrialized.

The only way to industrialize is to build up capital in the form of new plant and equipment.

There are two main ways of doing this:1. Working more and consuming less

Since the poor nations are barely at subsistence level it’s pretty hard for them to consume less

Because there is often a great deal of unemployment in preponderantly agriculture economies, those who want to work more have a hard time finding work

2. Grants and loans from industrialized nations

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The Malthusian Theory of Population

“Dismal scientist” Thomas Robert Malthus (1798)

Population tended to grow geometrically (1, 2, 4, 8, 16, 32) while food supply grew arithmetically (1, 2, 3, 4, 5, 6).

Could be widespread famine, unless population increases are checked by war, pestilence, famine or moral restraint

LDCs can be caught in a bind: need high birth rates for a labor force and labor-intensive growth, but….

LDCs must plan their spending carefully.

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Was Malthus right? Not in the industrialized countries.

Two things happened to ward off Malthus’s dire predictions:1. Because of tremendous technological advances in agriculture,

farmers were able to feed many more people.

2. As industrialization spread, more and more people left the country for the cities. Birth rates fell.

The Malthusian Theory of Population

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Does the U.S. have the greatest health care system in the world?

• American life expectancy is below average. • Childhood immunization rates are below average.• Infant mortality rates are higher than in 80% of other countries.• We have fewer doctors per capita and have fewer doctor visits

per year.• We are admitted to the hospital less frequently.• Two-thirds of adults are overweight; one third are obese.

Which of this is “good” news?

Current Issue: Health Care Costs in the Coming Decade

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More bad news begins when the baby boom generation enters retirement.

Our health care bill then will really go through the roof. • The Medicare trust fund may be in serious trouble.

A continued inefficient health care system and escalating cost will be a tremendous drag on productivity growth and consequently our economic growth.

America’s standard of living will continue on a decline unless this system malfunction is fixed very soon!

… and our economic growth will continue to lag. Possible solution: a single payer system?

Current Issue: Health Care Costs in the Coming Decade