H_CHAPTER2 - Chapter 2 The Growth Process Economic growth...

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Unformatted text preview: Chapter 2. The Growth Process Economic growth is simply de&ned as an increase of income per person. Our aim in this chapter is to explain, &rst without any formalization, the process by which such an increase may be achieved in a given country. The necessity for a more formal approach will emerge in a natural way. This will lead to a precise model, from which unambiguous inferences can be made. In particular, we will be able to answer the following questions: what are the necessary conditions for an economy to grow? And if those conditions are met, will income per person always increase, or will it tend toward a limit? 1 The growth process In a given country, at the beginning of a given year t , society has two funda- mental factors of production at its disposal. First, it has inherited from the past a stock of capital, that we may call K t . This is the value of all equip- ment that has been accumulated by society and preserved until that instant: it includes the value of land, factories, machinery, transport infrastructure, and so forth. The second production factor is labour, which we will always consider as a given proportion of population; we will thus assume that a mea- sure of this labour force is the population itself, denoted L t . It is endowed at time t with a given technological knowledge, also inherited from the past. Together with the capital at its disposal, this work force will produce within a given time span (a year for instance) an output which we call the gross domestic product. Part of this product is used to replace that part of the capital stock that has decayed within the time span considered; that part is usually referred to as the depreciation of capital. The remainder is called the net domestic product, to which corresponds an equal income accruing to society. It is denoted Y t , and called total income. Note that capital K t and labour L t are stocks, that is amounts observed at one point of time, in our case at the beginning of the &rst day of year t . On the other hand, Y t is a ¡ow that accrues to society within a time span, for instance in one year. Y t is the ¡ow of $ generated during year t . There is a de&nite relationship 1 between the amounts K t and L t , on the one hand, and the production Y t , on the other. That relationship is given by a two-variable function called a production function, and denoted F ( K t ; L t ) . More will be said later about the precise characteristics of that function. For the time being, we will just suppose that it depends positively upon each variable K t and L t , so that @F @K t > and @F @L t > . During that year t , the net domestic product Y t is divided essentially into two parts: the &rst part is made of consumption goods and services ( C t ) . By far it constitutes the larger part (often 85%) of Y t . This is not surprising, since the main purpose of economic activity is to produce goods and services that are of immediate use to society. The remainder of the product, Y t...
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This note was uploaded on 06/16/2010 for the course MS&E 249 taught by Professor Olivierdelagrandville during the Fall '08 term at Stanford.

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H_CHAPTER2 - Chapter 2 The Growth Process Economic growth...

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