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Chapter VI Economic Growth

Chapter VI Economic Growth - Chapter VI Long-Run Economic...

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Chapter VI Long-Run Economic Growth This chapter will show how economic growth of a country can improve the standard of living over a long period of time. A small increase in sustain productivity growth by a country could greatly increase the standard of living over a matter of a few decades. The truth is that we really do not know exactly why or how economies grow, but we do have some ideas and we will cover one of the best-known model. a. The Source of Economic Growth An economy’s output depends on the quantity of inputs (four factors of production). As we spoke in Chapter 3, we will focus on capital and labor. Labor is short-term, and capital is long-term. Recall: ) , ( N K Af Y = If A, K and N are constant what would happen to Y? For output to grow either its input, its productivity or both must grow. The relationship between the rate of output growth and the rates of inputs growth and productivity growth is: dt dN dt dK dt dA dt dY or N N a K K a A A Y Y N K N K ε ε + + = + + = , The elasticity of output with respect to K ( a K ) is the percentage increase in output resulting from a 1% increase in the capital stock. The elasticity of output with respect to N ( a N ) is the percentage increase in output resulting from a 1% increase in labor used. Growth accounting equation is the production function written in growth rate form. Suppose technology improve and it increase productivity (A) by 50% then Y will increase by 50%. What changed was dt dA or A A , , which led to and increase in dt dY or Y Y , respectively. For N and K: Suppose there is and increase in N by 50% due to immigration. 1
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What changed was dt dN or N N a N N ε , , which led to and increase in dt dY or Y Y , respectively. The difference is that it is not one to one. As we recall the MPN has the property of diminishing returns. Even though we have a 50% increase, it will not translate to a 50% increase in Y. According to the book N a or N ε is equal to 0.7. Thus a 50% increase is really a 35% increase ( 29 7 . 0 % 50 × . Suppose there is and increase in K by 50% due to firm’s investment increase. What changed was dt dN or N N a K K ε , , which led to and increase in dt dY or Y Y , respectively.
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