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![Page 1: McGraw-Hill/Irwin ©2008 The McGraw-Hill Companies, All Rights Reserved Growth and Productivity: Long-Run Possibilities Chapter 17.](https://reader036.fdocuments.in/reader036/viewer/2022062717/56649e3f5503460f94b303d4/html5/thumbnails/1.jpg)
McGraw-Hill/Irwin
©2008 The McGraw-Hill Companies, All Rights Reserved
Growth and Productivity: Long-Run Possibilities
Growth and Productivity: Long-Run Possibilities
Chapter 17Chapter 17
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The Nature of Growth
There are two distinct ways in which output increases.
Increased use of existing productive resources.
Expansion of productive capacity.
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Short-Run Changes in Capacity Utilization
The easiest kind of growth comes from increased use of our existing productive capabilities.
An economy moves to a point on the production-possibilities curve when it uses all of its resources.
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Long-Run Changes in Capacity
To achieve large and lasting increases in output, we must push our production possibilities outward.
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Long-Run Changes in Capacity
Economic growth implies a rightward shift of the long-run aggregate supply curve.
Economic growth is an increase in output (real GDP) – an expansion of production possibilities.
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Consumption Goods
Inve
stm
ent G
ood
s
Consumption Goods
Inve
stm
ent G
ood
s
0 0
Two Types of Growth
A
B
THE SHORT RUN:increased capacity utilization
B
A
C
THE LONG RUN:expanded capacity
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7
Real Output (dollars per year)
Pri
ce L
eve
l (av
era
ge p
rice
) Shifts in Long-Run Supply
AD2
LRAS2
AD1
LRAS1
AS
E1
E2 E3
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Nominal vs. Real GDP
Economic growth is referred to in terms of real GDP, not nominal GDP.
Real GDP – The value of final output produced in a given period, adjusted for changing prices.
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Nominal vs. Real GDP
By using base period prices, growth is measured in real goods and services, not inflation distorted dollars.
Base period – The time period used for comparative analysis; the basis of indexing (e.g., of price changes).
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10
Measures of Growth
Changes in real GDP are presented in percentage terms as a growth rate.
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The Growth Rate
Growth rate is the percentage change in real output from one period to another.
It is calculated as the change in real output between two periods divided by the total output in the base year.
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Recent U.S. Growth Rates
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The Exponential Process
The growth of the economy is an exponential process.
Small economic growth compounds from year to year.
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GDP per Capita: A Measure of Living Standards
Growth in GDP per capita is attained only when the growth of output exceeds population growth.
GDP per capita – Total GDP divided by total population: average GDP.
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GDP per Worker: A Measure of Productivity
GDP per capita rises when the labor force grows faster than the population.
Labor Force – All persons over age 16 who are either working for pay or actively seeking paid employment.
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GDP per Worker: A Measure of Productivity
The employment rate cannot rise forever.
Employment rate – The percentage of the adult population that is employed.
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GDP per Worker: A Measure of Productivity
Increases in GDP per capita can also come from increases in output per worker.Productivity is measured as output per unit of input, e.g., output per labor-hour.
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A Rising Employment Rate
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The Productivity Turnabout
For economic growth to continue, the productivity of the average U.S. worker must rise still further.
From 1973 to 1995 productivity grew at an average rate of 1.4 percent.
Jumping to 2.6 percent, productivity grew more rapidly after 1995.
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Productivity Gains
Output per Hour in the Nonfarm Business Sector
100
110
120
90
80
701973 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999
Actual
1.4 percent average annual growth 1973 to 1995
2.6 percent average annual growth 1995 to 2000
Inde
x, 1
992
= 1
00
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21
Source of Growth
Future growth depends on two factors:
Growth rate of the labor force.
Growth rate of productivity.
Growth rate of
productivity
Growth rate of labor force
Growth rate of
total output
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Source of Growth
The sources of productivity gains include:
Higher skills - an increase in labor skills.More capital - an increase in the ratio of capital to labor.Technological advances - the development and use of better capital equipment and products.Improved management - better use of available resources in the production process.
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Human-Capital Investment
Education and skills training have greatly increased the quality of U.S. labor.
The gains in productivity reflect greater human capital investment.
Human capital is the knowledge and skills possessed by the labor force.
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Physical-Capital Investment
A primary determinant of labor productivity is the rate of capital investment.
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Comparative Investment and Growth
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Saving and Investment Rates
Savings are not just a form of leakage, but a basic source of investment financing.
There must be enough saving to at least finance net investment.
Net investment is gross investment less depreciation.
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U.S. Workers Compete Well
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Household and Business Saving
Household saving rates in the U.S. are notoriously low.
Virtually all U.S. investment has been financed with business saving and foreign investment.
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Foreign Investment
Foreign investors have poured money into U.S. plant, equipment, software, and financial needs.
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Management Training
Investments in managerial talent are another source of economic growth.
U.S. corporations spend billions of dollars on management training.
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Research and Development
Research and development includes scientific research, product development, innovations in production techniques, and management improvements.
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New Growth Theory
Old growth theory emphasized the importance of saving and investing in new plant and equipment.
New growth theory emphasizes the importance of investing in knowledge and ideas.
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Policy Levers
Growth policy makes liberal use of the tools in the supply-side tool box.
Increase human capital investment.
Increase physical-capital investment.
Maintain stable expectations.
Pro-growth institutional framework.
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Increasing Human Capital Investment
Governments invest in human-capital by building, operating, and subsidizing schools.
Immigration laws that promote immigration of skilled workers increase a nation’s stock of human capital.
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Increasing Physical Capital Investment
As in the case of human capital, the possibilities for increasing physical-capital investment are also many and diverse.
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Investment Incentives
The tax code offers mechanisms for stimulating investment:
Faster depreciation schedules.
Tax credits for new investments.
Lower business tax rates.
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Savings Incentives
The government can use the tax code to deepen the savings pool that finances investment.
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Infrastructure Development
The government also directly affects the level of physical capital through its public works spending.
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Fiscal Responsibility
Short-run government policies may lead to a crowding out of consumer saving and investment.
Crowding out – A reduction in private-sector borrowing (and spending) caused by increased government borrowing.
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Fiscal Responsibility
Fiscal and monetary policies must be evaluated in terms of their impact not only on (short-run) aggregate demand but also on long-run aggregate supply.
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Maintaining Stable Expectations
Expectations are a critical factor in both consumption and investment behavior.
A sense of political and economic stability is critical to any long-run current trends.
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Institutional Context
Greater economic freedom – secure property rights, open trade, lower taxes, less regulation – typically fosters faster growth.
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Limitless Growth?
Is it possible to have limitless economic growth?
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The Malthusian Formula for Destruction
In 1798, Reverend Thomas Malthus predicted future starvation for England.
Malthus believed population increases at a geometric rate while food supplies increase arithmetically.
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Limits to Food Production
Geometric growth – an increase in quantity by a constant proportion each year.
Arithmetic growth – an increase in quantity by a constant amount each year.
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Limits to Food Production
Actually, output – including agricultural products – has increased at a geometric rate, not at the much slower arithmetic rate predicted by Malthus.
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The Malthusian Doomsday
MIL
LIO
NS
Barley and oats (bushels)
Population
Wheat
Malthus' projections of population and food supply
Malthus' projections of declining per capita food output
1800 1850 1900 1950 2000
2,400
2,000
1,600
1,200
800
400
0
BUSH
ELS
PER
CAPI
TAWheat
1800 1850 1900 1950 2000
24
4
0
8
20
16
12
Barley and oats
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Resource Constraints
To keep growing, we need productivity improvements and resource availability.
All doomsday predictions ignore how markets promote efficient uses of scarce resources and find substitutes for them.
LO3
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Environmental Destruction
Pollution levels have risen along with GDP and population expansion.
With current and future pollution-abatement policies, the rate of pollution does not have to increase unabated.
LO3
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The Possibility of Growth
There are probably no limits to growth.
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The Desirability of Growth
Continued economic growth is desirable so long as:
It brings a higher standard of living.
It brings an increased ability to produce and consume socially desirable goods and services.
LO3
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McGraw-Hill/Irwin
©2008 The McGraw-Hill Companies, All Rights Reserved
End of Chapter 17End of Chapter 17
Growth and Productivity: Long-Run Possibilities
Growth and Productivity: Long-Run Possibilities