Economics 1B Lecture 12 S2011

Economics 1B Lecture 12 S2011 - Economics 1B UC Davis UC D...

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Unformatted text preview: 5/10/2011 Economics 1B UC Davis UC D i Professor Siegler Spring 2011 2 1 5/10/2011 I. Introduction Economic growth is long run growth in real GDP Economic growth is longrun growth in real GDP per capita or real GDP per hour of work (labor productivity or what Taylor calls "productivity"). The long run is a period of a decade or a generation. The primary reason real GDP per capita changes is because of changes in labor productivity: Real GDP per capita Labor productivity Average hours per worker Employment topopulation ratio 3 II. Growth Facts Fact #1: Sustained economic growth is a very recent g y phenomenon in human history. "Conservative estimates suggest that humans were already distinguishable from other primates 1 million years ago. Imagine placing a time line corresponding to this million year period along the length of a football field. . . . [The] Industrial e o u io egi e a o ei o e ie e Revolution begins less than one inch from the field's end. Large, sustained increases in standards of living, our working definition of an industrial revolution, have occurred during a relatively short time -- equivalent to the width of a golf ball resting at the end of a football field." Charles I. Jones 4 2 5/10/2011 Source: Gregory Clark, A Farewell to Alms. 5 Real Wages in England, 12501850 Plague Source: Gregory Clark, A Farewell to Alms. 6 3 5/10/2011 II. Growth Facts Fact #2: There is enormous variation in real GDP per Fact #2: There is enormous variation in real GDP per capita across countries today. Since the Industrial Revolution, which began in the late eighteenth century, inequality has increased across countries (the Great Divergence) and likely within countries as well. Today, the poorest countries have per capita incomes of less than five percent of per capita incomes of less than five percent of per capita incomes in the richest countries. 7 II. Growth Facts Fact #3: Rates of economic growth vary substantially Fact #3: Rates of economic growth vary substantially across countries and are not generally constant over time. As a result, "reversal of fortune" has occurred (Argentina), and many countries have "caught up" (convergence). 8 4 5/10/2011 Country Rich countries that converged . . . . Italy France Rich countries that failed to converge . . . New Zealand Argentina Poor countries that converged. . . . Hong Kong South Korea Poor countries that failed to converge. . . . Bolivia Ghana Real GDP per capita, relative to U.S. (U.S. = 100) 2007 67 69 59 36 101 56 9 4 1960 55 63 84 60 26 12 19 4 9 II. Growth Facts Fact #4: Growth in real GDP per capita and growth p p g in the volume of international trade are positively and closely related. Fact #5: Both skilled and unskilled workers tend to migrate from poor to rich regions or countries. Fact #6: Economic growth is not associated with net job losses. With growth, jobs are lost (structural unemployment), but many more jobs are created in the long run. 10 5 5/10/2011 II. Growth Facts Fact #7: In the United States over the past 150 years: Fact #7: In the United States over the past 150 years: The ratio of physical capital (K) to real GDP (Y) is nearly constant over very long periods of time. That is the capitaloutput ratio (K/Y) is nearly constant. The average growth rate of real GDP per capita has been positive and relatively constant over time, but with some evidence of a slight upward trend. with some evidence of a slight upward trend 11 U.S. CapitalOutput Ratio (K/Y) 12 6 5/10/2011 Estimates of U.S. Real GDP per Capita (2005 ChainWeighted Dollars) Year 1700 1800 1830 1865 1900 1929 1950 1973 1995 2009 Real GDP per Capita p $1,343 $1,397 $1,718 $2,992 $5,597 $8,016 $13,225 $23,200 $34,111 $42,247 Average Growth 18652009: Average Annual Growth Rates Between Benchmark Years 0.04% 0.69% 1.20% 1.14% 1.27% 2.41% 2.47% 1.77% 1.54% 1.86% 13 U.S. Real GDP per Capita, 18652009 (Year 2005 Dollars) 60,000 40,000 , 20,000 16,000 12,000 8,000 6,000 4,000 4 000 2,000 1880 1900 1920 1940 1960 1980 2000 Source: Louis Johnston and Samuel H. W illiamson, W hat W as the U.S. GDP Then? MeasuringW orth, 2010. http://w w w .measuringw orth.org/usgdp/ 14 7 5/10/2011 III. Growth Rate Rules Growth Rates of Products: Growth Rates of Products: Growth Rates of Ratios: Growth Rates of Exponents: 15 Question 12.1 Suppose that: If the growth rate of W is 2 percent per year, the growth rate of X is 3 percent per year, and the growth rate of Y is 2 percent per year, what is the growth rate of Z? A) 0 percent B) 1 percent 1 percent C) 2 percent D) 3 percent Answer: A 16 8 5/10/2011 Real GDP per Worker Hour or Real GDP per Capita Growth Accounting A ti Technology, Capital per Worker Hour (Proximate Causes of Economic Growth) Geography? Institutions? Culture? (Fundamental Causes of Economic Growth) 17 IV. The Aggregate Production Function Economic growth looks at the entire economy at Economic growth looks at the entire economy at once. Output is all the goods and services counted in real GDP. Output is produced with inputs (labor hours, capital, and natural resources) and technology. Technological change has a very broad definition. It is anything that increases production for a given level of labor hours, capital, and natural resources). 18 9 5/10/2011 IV. The Aggregate Production Function Technological change includes: g g Invention, innovation, and diffusion Organization, specialization, and learningbydoing Human capital Much of technological change is nonrival and non excludable. As a result, markets underproduce technology. To encourage technology, governments technology. To encourage technology, governments should: Enforce intellectual property rights (patents) Subsidize research and development, and human capital. 19 IV. The Aggregate Production Function The aggregate production function exhibits this gg g p relationship mathematically: Y = real GDP T = technology K = physical capital K h i l i l Z =natural resources L = labor hours 20 10 5/10/2011 IV. The Aggregate Production Function Properties of the Aggregate Production Function: Properties of the Aggregate Production Function: Law of diminishing marginal returns states that the marginal (additional) contribution of an input (such as capital, labor, or natural resources) to output (real GDP) is smaller when there is more of this input being used in production, holding the other inputs constant. Constant returns to scale states that if we double all Constant returns to scale states that if we double all inputs (capital, natural resources, and labor hours) we double the level of real GDP. 21 IV. The Aggregate Production Function Aggregate production is usually summarized using a gg g p y g constant returns to scale, CobbDouglas production l C bb D l d i function: The exponents represent the shares of real GDP paid to each factor, so "a" is the proportion of GDP paid to owners of capital, "b" is the proportion of GDP paid to owners of natural resources, while "1ab" is id t f t l hil "1 b" i the proportion of real GDP paid to workers. The fact that the shares sum to one implies constant returns to scale. 22 11 5/10/2011 IV. The Aggregate Production Function Constant returns to scale implies that we can transform p the production function into a per worker hour production function: This function says that higher labor productivity is due y g p y to more technology, more capital per hour of work (through higher savings and investment), and/or more natural resources (through conquest, land purchases, and discoveries) per hour of work. 23 V. Growth Accounting (Proximate Causes) Economists use the phrase growth accounting to Economists use the phrase "growth accounting" to describe the exercise of figuring out accounting for the relative importance of inputs and technology in contributing to labor productivity. Growth accounting was developed by Robert Solow (1957). Proximate means "closest in relationship; immediate." 24 12 5/10/2011 V. Growth Accounting (Proximate Causes) Recall our per worker hour production function: Recall our per worker hour production function: Let lower case letters denote per worker hour variables: 25 V. Growth Accounting (Proximate Causes) Again, the per worker hour production function is: Again, the per worker hour production function is: Finally, let's use the growth rate rules to represent the per worker hour production function in terms of g growth rates: 26 13 5/10/2011 V. Growth Accounting (Proximate Causes) Technology is measured as a residual since we Technology is measured as a "residual" since we can't measure it directly: In modern economies, natural resource's share of y ( ) g GDP is very small (b) as is the growth rate of natural resources per hour of work (gz), so that bgz is very close to zero. In the U.S., capital's share of GDP is approximately 1/3, so: 27 V. Growth Accounting (Proximate Causes) We can re arrange this to the formula in the text: We can rearrange this to the formula in the text: In words, this formula says that the growth rate of (labor) productivity (real GDP per hour of work) is q g gy p equal to the growth rate of technology plus onethird times the growth rate of capital per hour of work. Graphically, we can show growth accounting as: 28 14 5/10/2011 29 Question 12.2 Using the growth accounting formula with capital's share of GDP equal to 1/3, if the growth rate of real share of GDP equal to 1/3 if the growth rate of real GDP per worker hour is 2 percent per year, and the growth rate of capital per hour of work is 3 percent per year, what is the growth rate of technology? A) 0 percent per year p p y B) 1 percent per year C) 2 percent per year D) 3 percent per year Answer: B 30 15 5/10/2011 Question 12.3 If the owner of a particular idea (technology) is able If the owner of a particular idea (technology) is able to successfully preclude others from using this idea, this type of technology could be best classified as a(n): A) nonexcludable B) excludable C) rival D) innovation Answer: B 31 Question 12.4 In the diagram, the growth in labor productivity from Year 1 d i i f Y 1 to Year t could be due to: A) physical capital accumulation B) natural resource accumulation C) technological technological progress D) All of the above Answer: C 32 16 5/10/2011 Question 12.5 Capital accumulation alone cannot account for long Capital accumulation alone cannot account for long run economic growth because of: A) constant returns to scale. B) nonrivalry. C) diminishing marginal returns. D) All of the above. All of the above. Answer: C 33 V. Growth Accounting (Proximate Causes) Modern Economic Growth: Modern Economic Growth: Fact #7 showed that the capitaloutput ratio in the United States was almost constant. This implies that: The growth accounting formula is: By substitution, we get: 34 17 5/10/2011 V. Growth Accounting (Proximate Causes) This equation implies that labor productivity is q p p y exclusively due to technological change: Regardless, even if we use: The most important determinant of labor productivity is technological change, broadly defined, but what leads to technological change and economic growth? 35 Time Period 18001855 18551890 18901905 19051927 19271948 19481966 19661989 19892003 Labor Productivity (Y/L) Percent per Year Y 0.4 1.1 1.9 2.0 2.0 3.1 1.2 1.8 Capital Deepening (K/L) ( / ) 0.2 0.7 0.5 0.5 0.1 0.8 0.6 0.9 Technology (T) ( ) 0.2 0.4 1.4 1.5 1.9 2.3 0.6 0.9 36 18 5/10/2011 VI. Fundamental Causes Fundamental causes of economic growth are the Fundamental causes of economic growth are the factors that are at the root of the differences in the proximate causes of economic growth. The three main hypotheses for the fundamental causes of economic growth are: Geography Hypothesis Culture Hypothesis Institutions Hypothesis 37 VI. Fundamental Causes Geography Hypothesis Geography Hypothesis The view that the major fundamental cause of differences in real GDP per capita is to be found in geographic, climatic, and ecological conditions of countries. Most poor countries of the world are situated near the equator due to the prevalence of infectious diseases equator due to the prevalence of infectious diseases (malaria, dengue fever, etc.) and the effects of heat and humidity. Jeffrey Sachs is a major proponent of the geography hypothesis. 38 19 5/10/2011 VI. Fundamental Causes Culture Hypothesis Culture Hypothesis The view that the major fundamental cause of differences in real GDP per capita are the values and cultural beliefs across countries. Gregory Clark, and others, have argued that several cultural changes gradually occurred prior to the Industrial Revolution in England, and other Western Industrial Revolution in England and other Western countries, that eventually led to sustained economic growth. Over time, other cultures developed many of these same values. 39 VI. Fundamental Causes These cultural changes included: These cultural changes included: Decreased real interest rates due to a lower rate of time preference (people became more futureoriented) and a lower risk premium. Increased literacy and numeracy, related to Protestantism. Decreased interpersonal violence. Decreased interpersonal violence Increased work hours and work ethic. 40 20 5/10/2011 VI. Fundamental Causes Institutions Hypothesis Institutions Hypothesis The view that the major fundamental cause of differences in real GDP per capita is the differences in which societies have organized themselves and shaped the incentives of individuals, firms, and government. 41 "Institutions are the constraints that people impose Institutions are the constraints that people impose upon themselves to structure human interaction. They consist of rules, informal constraints, and their enforcement characteristics. Together they provide the rules of the game of human interaction." Douglass North, Institutional Change in American Economic History, pp. 8889. A i E i Hi t 88 89 42 21 5/10/2011 VI. Fundamental Causes Institutions Hypothesis Institutions Hypothesis Acemoglu, Johnson, and Robinson (2002) link geography and institutional development: During the colonial period, Europeans avoided settling in tropical areas and preferred areas with more temperate climates and better health conditions, such as the regions which are now the United States, Canada, and New Zealand, for example. In those areas where Europeans settled in large numbers, they established Europeanlike institutions that protected individual property rights and limited the power of government. 43 VI. Fundamental Causes Institutions Hypothesis yp In contrast, in tropical climates, the colonial powers set up "extractive institutions" to take advantage of the areas natural resources. These "extractive institutions" are bad for growth, since they do not protect private property rights, do not uphold contracts, interfere with the workings of markets and erect significant barriers to entry into businesses and erect significant barriers to entry into businesses and occupations Early institutions are strongly correlated with modern institutions, and the quality of institutions are a key determinant of economic growth. 44 22 5/10/2011 "The major stumbling block that keeps the rest of the world from benefiting from capitalism is its inability to produce capital. . . . The poor inhabitants of these nations fivesixths of humanity do have things, but y g , they lack the process to represent their property and create capital. They have houses but not titles; crops but not deeds; businesses but not statutes of incorporation. It is the unavailability of these essential representations that explains why people who have adapted every other Western invention, from the paper clip to the nuclear reactor, have not been able to produce sufficient capital reactor, have not been able to produce sufficient capital to make their domestic capitalism work." Hernando de Soto (2000), The Mystery of Capital: Why Capitalism Triumphs in the West and Fails Everywhere Else, pp. 57. 45 VI. Fundamental Causes Case Study of South Korea and North Korea Case Study of South Korea and North Korea Same cultural heritage Similar geography and climate Yet, very different set of institutions and incentives since the Korean War (1950). Very different economic performance as well. 46 23 5/10/2011 Real GDP per Capita, 19502008 North Korea and South Korea $25,000 $20,000 South Korea 1990 Dollars $15,000 $10,000 $5,000 North Korea $0 1950 1960 1970 1980 1990 2000 47 24 ...
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