Economics Investment Chapter 11

8/19/2019 Economics Investment Chapter 11

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CHAPTER 11ECONOMIC GROWTH AND THE

INVESTMENT DECISIONPresenter’s namePresenter’s titledd Month


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1! INTROD"CTION

# Meas$rin% and &ore'astin% %ro(th and the &a'tors that 'ontri)$te to %ro(th areim*ortant in +al$ation and *ort&olio mana%ement!

# ,ore'astin% %ro(th re-$ires $nderstandin% the dri+ers to an e'onom’s %ro(th!

# The &o'$s o& e'onomi' %ro(th is on the lon%.term trend in a%%re%ate o$t*$t!

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0! GROWTH IN THE G3O4A3 ECONOM56DEVE3OPED VS! DEVE3OPING CO"NTRIES

# GDP and *er 'a*ita GDP are indi'ators o& e'onomi' de+elo*ment and standardo& li+in%!

or

# Com*arin% real GDP allo(s &or a 'om*arison o& standards o& li+in%!

# Com*arin% %ro(th in real GDP *er 'a*ita allo(s &or a 'om*arison o& 'han%es inthe standard o& li+in%!

# Purchasing power parity 7PPP8 is the theor that e9'han%e rates 'han%e so

that the *$r'hasin% *o(er in di&&erent 'o$ntries is the same!. The 'ost o& a )as:et o& %oods and ser+i'es is the same a'ross di&&erent

'o$ntries!

. Pro)lems (ith ad;$stin% a '$rren' $sin% mar:et e9'han%e rates6 Rates are+olatile and a&&e'ted ) &inan'ial &lo(s in trada)le %oods and ser+i'es!

#

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GROWTH IN THE G3O4A3 ECONOM56DEVE3OPED VS! DEVE3OPING CO"NTRIES

Factor Limiting Growth FavoringGrowth

Rate o& sa+in%s and in+estment 3o( rate Hi%h rate

,inan'ial mar:ets Poorl de+elo*ed Well de+elo*ed

3e%al sstem Corr$*t or (ea: Well de+elo*edPro*ert ri%hts 3a':in% Well de&ined

Ed$'ation and health ser+i'es Poor Good

Poli'ies re%ardin% entre*rene$rshi* Hi%h ta9 and

restri'ti+ere%$lations

3o( ta9 and &e(

re%$lations

International trade and &lo( o& 'a*ital Restri'ti+e O*en



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REA3 GDP GROWTH

Ad+an'ed E'onomies

De+elo*in% Co$ntries

Ar%entina

4ots(ana4ra=il

China

Ethio*ia

German

Hon% >on%

India

?a*anMe9i'o

Sin%a*ore

"nited States

Vietnam

@ 0@ 2@ @ B@ 1@ 10@ 12@ 1@ 1B@

Real GDP Growth

111B

0101

Annual Growth Rate in Real GDP

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# Potential GDP is the ma9im$m o$t*$t an e'onom 'an *rod$'e (itho$t res$ltin% in anin'rease in in&lation!

. Real earnin%s %ro(th 'annot e9'eed the %ro(th rate o& *otential GDP!

. Relationshi* 7 is earnin%s86

# E9aminin% 'han%es o+er time6

Note: The *er'enta%e 'han%e in earnin%s share o& GDP is a**ro9imatel =ero o+er the

lon% term!

#



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RE3EVANCE TO ,IED.INCOME INVESTORS

Potential %ro(th rate in GDP is im*ortant &or &i9ed.in'ome in+estors )e'a$se it

# a&&e'ts e'onomi' &ore'asts o& %ro(th!

# is $sed to %a$%e in&lationar *ress$res!

# is $sed to &ore'ast real interest rate!

# in&l$en'es rate o& GDP %ro(th on 'redit -$alit!# a&&e'ts monetar *oli' )e'a$se the de+iation )et(een a't$al and *otential

GDP 7the output gap8 is a meas$re o& reso$r'e $tili=ation in the e'onom!

# a&&e'ts the *er'ei+ed ris: o& so+erei%n de)t!

# a&&e'ts &is'al *oli'!



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2! DETERMINANTS O, ECONOMIC GROWTH

The Cobb Douglas production function is

F 7K L8 K JL1 E J 711.08

(hi'h means that the o$t*$t 7the -$antit *rod$'ed8 is a &$n'tion o& the in*$ts K'a*ital 7K 8 and la)or 7L8 K and the mar%inal *rod$'t o& 'a*ital is the ratio o&'a*ital in'ome to o$t*$t 7that is GDP8!

1! Constant ret$rns to s'ale 7in'reasin% in*$t L in'reases o$t*$t8

0! Diminishin% mar%inal *rod$'ti+it &or ea'h in*$t

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CAPITA3 DEEPENING AND T,P

# Total factor productivity 7T,P8 is the le+el o& *rod$'ti+it or te'hnolo% in ane'onom!

. Technological progress is the im*ro+ement in te'hnolo% and anim*ro+ement in te'hnolo% shi&ts the entire *rod$'tion &$n'tion!

# Capital deepening is an in'rease in the 'a*ital.to.la)or ratio!

. It (ill in'rease o$t*$t )$t s$stained e'onomi' %ro(th 'annot o''$r (ith'a*ital dee*enin% alone!


Ca*ital *er Wor:er

O$t*$t*er

Wor:er

In'reasein T,P

Ca*i tal dee*enin%


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GROWTH ACCO"NTING

I& α is the elasti'it o& o$t*$t (ith res*e't to 'a*ital the %ro(th a''o$ntin%e-$ation is

We 'an $se this e-$ation to estimate *otential GDP $sin% trends o& la)or and'a*ital and estimatin% the elasti'it α as 1 min$s the la)or share o& GDP!

An alternati+e is the la)or *rod$'ti+it %ro(th a''o$ntin% e-$ation6

#


Y Y A A α K K 71 α8 LL

Gro(thrate o&o$t*$t

Rate o&te'hnolo%i'al

'han%e

Gro(thrate o&'a*ital

Gro(thrate o&la)or


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NAT"RA3 RESO"RCES ANDECONOMIC GROWTH

# A''ess to nat$ral reso$r'es is im*ortant &or e'onomi' %ro(th it is notne'essar &or a 'o$ntr to o(n or *rod$'e nat$ral reso$r'es!

# Pro)lems asso'iated (ith o(nershi* and *rod$'tion o& nat$ral reso$r'es6

1! Co$ntries ma &ail to de+elo* e'onomi' instit$tions ne'essar &or %ro(th!

0! C$rren' a**re'iation &rom e9*orts o& nat$ral reso$r'es 'a$ses other

se%ments o& the e'onom to )e'ome $n'om*etiti+e in the %lo)al mar:et(hi'h res$lts in 'ontra'tion and a la': o& T,P *ro%ress 7Dutch disease8!



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3A4OR ,ORCE PARTICIPATION AND GROWTH

# The labor force participation rate is the *er'enta%e o& (or:in% a%e*o*$lation in the la)or &or'e!

. An in'rease in this rate ma raise *er 'a*ita GDP!

. Re'ent in'reases in this rate re&le't the in'reased *arti'i*ation o& (omen inthe la)or &or'e!

. When 'om*arin% 'o$ntries demo%ra*hi's 7e!%! a%e %ender8 e9*lains someo& the di&&eren'es in this rate!

. Immi%ration ma o&&set the de'linin% )irthrates in de+elo*ed 'o$ntries!

. Co$ntries ma en'o$ra%e or dis'o$ra%e immi%ration!

#The %ro(th rate o& la)or *rod$'ti+it a&&e'ts a 'o$ntr’s s$staina)le rate o&e'onomi' %ro(th!



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,ACTORS IN,3"ENCING ECONOMIC GROWTH

E'onomi' %ro(th is a&&e'ted )

1! 3a)or

. The a+era%e ho$rs (or:ed *er (or:er a&&e'ts the 'ontri)$tion o& la)or too$t*$t!

. The -$alit o& the la)or &or'e 7that is h$man 'a*ital8 is a so$r'e o& %ro(th!

0! Ca*ital sto':

. There is a *ositi+e relationshi* )et(een in+estment in the *hsi'al sto':and %ro(th!

. Gro(th in 'a*ital sto': alone (ill not s$stain %ro(th!

. Com*osition o& the *hsi'al 'a*ital matters to %ro(th!


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F! THEORIES O, GROWTH

Classical odel!athusian theory"

• Ado*tin% ne(te'hnolo% res$lts in alar%er *o*$lation )$t

not a %reater standardo& li+in%!

• There is no %ro(th *er'a*ita o$t*$t!

#eoclassical odel!$olow model"

• The %ro(th rate o&o$t*$t is e-$al to the%ro(th rate o& la)or

&or'e and %ro(th in total&a'tor *rod$'ti+it s$'hthat s$stainin% %ro(thre-$ires te'hnolo%i'al*ro%ress!

• Te'hnolo%i'al *ro%ressis e9o%eno$s to this

model!• O+er time *er 'a*ita

in'omes o& de+elo*edand de+elo*in%'o$ntries 'on+er%e!

%ndogenous GrowthTheory

• Gro(th arises &rom theenhan'ement o& h$man'a*ital &rom

im*ro+ements inte'hnolo% and moree&&i'ient *rod$'tion!

• Te'hnolo% is note9o%eno$s rather themodel see:s to e9*lainte'hnolo%i'al *ro%ress!

•Sa+in%s and in+estmentde'isions a&&e'te'onomi' %ro(th!



15/26

CONVERGE OR NOT TO CONVERGEQ

Convergence is the sit$ation in (hi'h the *er 'a*ita in'ome o& de+elo*in%'o$ntries 'on+er%e to(ard that o& de+elo*ed 'o$ntries!

# Absolute convergence6 Per 'a*ita in'ome o& de+elo*in% 'o$ntries (ill e-$althat o& de+elo*ed 'o$ntries!

# Conditional convergence6 Per 'a*ita in'ome o& de+elo*in% 'o$ntries (ill

e-$al that o& de+elo*ed 'o$ntries i& the ha+e the same rate o& sa+in%s*o*$lation %ro(th rate and *rod$'tion &$n'tion!

# Club convergence6 Middle and ri'h 'o$ntries 7in the 'l$)8 'on+er%e on theri'hest 'o$ntries’ *er 'a*ita in'ome )$t those not in the 'l$) do not!

# #onconvergence trap6 Some 'o$ntries 7not in the 'l$)8 &ail to 'on+er%e

)e'a$se o& the la': o& instit$tional re&orms!Con+er%en'e 'an ta:e *la'e thro$%h de+elo*in% 'o$ntries’ 'a*ital a''$m$lationand 'a*ital dee*enin% or ) de+elo*in% 'o$ntries imitatin% or ado*tin% thete'hnolo% o& ad+an'ed 'o$ntries!

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PER CAPITA INCOME


Ar%entina

4ots(ana

4ra=il

ChinaEthio*ia

German

Hon% >on%

India

?a*an

Me9i'o

Sin%a*ore

"nited States

Vietnam

1 0


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CONVERGENCE AND INVESTMENT

# Con+er%en'e 'an ta:e *la'e. thro$%h 'a*ital a''$m$lation and 'a*ital dee*enin% or

. ) imitatin% or ado*tin% the te'hnolo% o& ad+an'ed 'o$ntries!

# De+elo*in% 'o$ntries 'an %ro( &aster 7and a'hie+e 'on+er%en'e8 i& the ado*tor de+elo* ne( te'hnolo%ies!

. There&ore s*endin% on resear'h and de+elo*ment assists 'on+er%en'e!

# Predi'tion6 In+erse relationshi* )et(een initial le+el o& *er 'a*ita real GDP andthe %ro(th rate in *er 'a*ita GDP!



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RE3ATIONSHIP 4ETWEENGROWTH AND INCOME

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T T0H T2H TAH TBH T1HT10HT12HT1AH@

1@

0@


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! GROWTH IN AN OPEN ECONOM5

O*enin% an e'onom a&&e'ts the %ro(th o& the e'onom )e'a$se1! in+estment is not 'onstrained ) domesti' sa+in%s!

0! 'o$ntries 'an shi&t reso$r'es to those %oods and ser+i'es &or (hi'h the ha+ea 'om*ara)le ad+anta%e!

F! %lo)al tradin% in'reases 'om*etition in the lo'al mar:et!



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D5NAMIC AD?"STMENT PROCESS ,ORDEVE3OPING CO"NTRIES

Developingcountries have

lower capital perwor(er) so the

marginalproduct of

capital is higher*

Global investors see(out the higher marginal

product of capital*

Physical stoc( ofdeveloping countries

grows*

Developing countriesrun a trade deficit*

The rate of growthincreases above thesteady+state growth*

Growth slows as thereturn on investment

gradually declines andthe trade deficit

shrin(s*



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CONC3"SIONS AND S"MMAR5

# The s$staina)le rate o& e'onomi' %ro(th is meas$red ) the rate o& in'rease inthe e'onom’s *rod$'ti+e 'a*a'it or *otential GDP!

# Gro(th in real GDP meas$res ho( ra*idl the total e'onom is e9*andin%! Per'a*ita GDP meas$res the standard o& li+in% in ea'h 'o$ntr!

. The %ro(th rate o& real GDP and the le+el o& *er 'a*ita real GDP +ar (idel

amon% 'o$ntries!# E-$it mar:ets res*ond to anti'i*ated %ro(th in earnin%s! Hi%her s$staina)le

e'onomi' %ro(th sho$ld lead to hi%her earnin%s %ro(th and e-$it mar:et+al$ation ratios all else )ein% e-$al!

# The )est estimate &or the lon%.term %ro(th in earnin%s &or a %i+en 'o$ntr is theestimate o& the %ro(th rate in *otential GDP!

. The %ro(th rate o& earnin%s 'annot e9'eed the %ro(th in *otential GDP in thelon% r$n!

# ,or %lo)al &i9ed.in'ome in+estors a 'riti'al ma'roe'onomi' +aria)le is the rate o&in&lation!



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# One o& the )est indi'ators o& short. to intermediate.term in&lation trends is thedi&&eren'e )et(een the %ro(th rate o& a't$al and *otential GDP!

# Ca*ital dee*enin% o''$rs (hen the %ro(th rate o& 'a*ital 7net in+estment8e9'eeds the %ro(th rate o& la)or!

# An in'rease in total &a'tor *rod$'ti+it 'a$ses a *ro*ortional $*(ard shi&t in the

entire *rod$'tion &$n'tion!# One method o& meas$rin% s$staina)le %ro(th estimates the %ro(th rate o&

*otential GDP ) estimatin% the %ro(th rates o& the e'onom’s 'a*ital andla)or in*$ts *l$s an estimate o& total &a'tor *rod$'ti+it!

. An alternati+e method meas$res *otential %ro(th as the lon%.term %ro(th

rate o& the la)or &or'e *l$s the lon%.term %ro(th rate o& la)or *rod$'ti+it!



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# The &or'es dri+in% e'onomi' %ro(th in'l$de the -$antit and -$alit o& la)orand the s$**l o& 'a*ital ra( material and te'hnolo%i'al :no(led%e!

# The la)or s$**l is determined ) *o*$lation %ro(th the la)or &or'e*arti'i*ation rate and net immi%ration!

# The *hsi'al 'a*ital sto': in a 'o$ntr in'reases (ith net in+estment!

# The 'orrelation )et(een lon%.r$n e'onomi' %ro(th and the rate o& in+estmentis hi%h!

# Te'hnolo% is a ma;or &a'tor determinin% total &a'tor *rod$'ti+it and total&a'tor *rod$'ti+it is the main &a'tor a&&e'tin% lon%.term s$staina)le e'onomi'%ro(th rates in de+elo*ed 'o$ntries!

# On'e the (ei%hted 'ontri)$tions o& all e9*li'it &a'tors 7e!%! la)or and 'a*ital8are a''o$nted &or total &a'tor *rod$'ti+it is the resid$al 'om*onent o& %ro(th!

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# Gro(th in la)or *rod$'ti+it de*ends on 'a*ital dee*enin% and te'hnolo%i'al*ro%ress!

# Three im*ortant theories on %ro(th are the 'lassi'al neo'lassi'al and ne(endo%eno$s %ro(th models!

. In the 'lassi'al model %ro(th in *er 'a*ita in'ome is onl tem*orar

)e'a$se an e9*lodin% *o*$lation (ith limited reso$r'es )rin%s *er 'a*itain'ome %ro(th to an end!

. In the neo'lassi'al model a s$stained in'rease in in+estment in'reases thee'onom’s %ro(th rate onl in the short r$n so lon%.r$n %ro(th de*endssolel on *o*$lation %ro(th *ro%ress in total &a'tor *rod$'ti+it and la)or’sshare o& in'ome!

. The neo'lassi'al model ass$mes that the *rod$'tion &$n'tion e9hi)itsdiminishin% mar%inal *rod$'ti+it (ith res*e't to an indi+id$al in*$t!



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# The main 'riti'ism o& the neo'lassi'al model is that it *ro+ides no -$anti&ia)le*redi'tion o& the rate or &orm o& total &a'tor *rod$'ti+it 'han%e total &a'tor*rod$'ti+it *ro%ress is e9o%eno$s to the model!

# Endo%eno$s %ro(th theor e9*lains te'hnolo%i'al *ro%ress (ithin the modelrather than treatin% it as e9o%eno$s! As a res$lt sel&.s$stainin% %ro(themer%es as a nat$ral 'onse-$en'e o& the model and the e'onom does not'on+er%e to a stead state rate o& %ro(th that is inde*endent o&sa+in%in+estment de'isions!

. "nli:e the neo'lassi'al model the endo%eno$s %ro(th model allo(s &or the*ossi)ilit o& 'onstant or e+en in'reasin% ret$rns to 'a*ital in the a%%re%atee'onom!

. In the endo%eno$s %ro(th model e9*endit$res made on RUD and &or h$man'a*ital ma ha+e lar%e *ositi+e e9ternalities or s*illo+er e&&e'ts! Pri+ates*endin% ) 'om*anies on :no(led%e 'a*ital %enerates )ene&its to thee'onom as a (hole that e9'eed the *ri+ate )ene&it to the 'om*an!

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# The 'on+er%en'e h*othesis *redi'ts that the rates o& %ro(th o& *rod$'ti+itand GDP sho$ld )e hi%her in the de+elo*in% 'o$ntries! Those hi%her %ro(thrates im*l that the *er 'a*ita GDP %a* )et(een de+elo*in% and de+elo*ede'onomies sho$ld narro( o+er time!

. The e+iden'e on 'on+er%en'e is mi9ed!

. Co$ntries &ail to 'on+er%e )e'a$se o& lo( rates o& in+estment and sa+in%sla': o& *ro*ert ri%hts *oliti'al insta)ilit *oor ed$'ation and healthrestri'tions on trade and ta9 and re%$lator *oli'ies that dis'o$ra%e (or:and in+estin%!

. O*enin% an e'onom to &inan'ial and trade &lo(s has a ma;or im*a't one'onomi' %ro(th! The e+iden'e s$%%ests that more o*en and trade.orientede'onomies (ill %ro( at a &aster rate!


Economics Investment Chapter 11

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