T4 Economic growth in the single market

Question 1

Allocation effects

Answer 1

Trade effect (L.3) + Pro-competitive ef

Question 2

Market size matters

Answer 2

European leaders always viewed integration as compensating the
small size of European nations. Implicit assumption: market size is
important for economic performance.

Question 3

Tearing down intra-EU barriers brings a ‘pro-competitive effect’

Answer 3

which, in turn, puts pressure on profits and the market’s response is
‘merger mania’. That is, the pro-competitive effect squeezes the
least efficient firms, prompting an industrial restructuring so that
Europe is left with a more efficient industrial structure, with fewer,
bigger, more efficient firms competing more effectively with each
other.

Question 4

Schematically: liberalization →

Answer 4

defragmentation → pro-competitive
effect → industrial restructuring.

Question 5

Allocation effects are supposed to

Answer 5

improve efficiency

Question 6

Growth effects operate by

Answer 6

changing the rate at which new factors
of production are accumulated. - accumulation effect

Question 7

May it be the case that a relationship exists between allocation effects
and growth effects? If so, what relationship?

Question 8

Economic growth means

Answer 8

producing more and more every

Question 9

European leaders have long emphasized the pro-growth aspects of
European integration: it affects growth mainly via its effect on

Answer 9

investment in human capital, physical capital and knowledge capital.

Question 10

Growth effects as a consequence of economic integration fall naturally
into two categories

Answer 10

-medium term, like ‘induced physical capital formation’;
-long term, involving a permanent change in the rate of accumulation,
and thus a permanent change in the rate of growth.

Question 11

logic of growth

Answer 11

Schematically: European integration → allocation effect → improved
efficiency → better investment climate → more investment in
machines, skills and/or technology → higher output per person.

Question 12

Under medium-run growth effects, the rise in output per person

Answer 12

eventually stops at a new, higher level.

Question 13

Under long-run growth effects,

Answer 13

the rate of growth is forever higher

Question 14

The logic of growth: the evidence

Answer 14

By historical standards, continuous economic growth is a relatively
recent phenomenon. Before the Industrial Revolution, which started in
Great Britain in the late 1700s, European incomes had stagnated for a
millennium and a half.
With industrialization incomes began to rise at a respectable rate of
something like 2 per cent per year. Growth rates, however, were hardly
constant from this date:

Question 15

Meanwhile, in Spain…

Answer 15

The GDP setback after the Civil War (1939) was 1920, while the backon-track year was 1950. In per capita terms the periods were much
longer (setback 1904; BOT 1951). Why is this?

Question 16

GDP per capita depends on the

Answer 16

amount of work per capita, and how productive this effort is. GDP per capita and labour productivity (measured as GDP per hour worked)

Question 17

After 1960, the contribution of physical capital increase to

Answer 17

productivity
growth was one of the main sources of economic growth.

Question 18

federalists EEC have great grrowth

Answer 18

thats why intergovernmentalists wanted to join them - integration means higher growth

Question 19

when its higher efficiency ..

Answer 19

higher investment - rising of return to capital -
stok market prices should increase
the aggregate investment to GDP ratio should rise
the net direct investment figures should improve

Question 20

European integration can affect GDP in 2 way

Answer 20

Allocation effects: produce more for given factor inputs
This can occur after the elimination of internal trade barriers and frictional barriers
- Growth effects: produce more as more factors of production are accumulated.
Growth effects can only occur if there are additional investments in human capital,
physical capital and knowledge capital

Question 21

growth effect

Answer 21

Medium term, like ‘induced physical capital formation’. Accumulation of
additional physical capital occurs as European integration has made capital
more productive. It is medium term, as it stops after additional capital
investment has reduced the marginal productivity of capital
o Long term, involving a permanent change in the rate of accumulation, and
thus a permanent change in the rate of growth. This can occur in the case of
knowledge accumulation as marginal productivity of additional knowledge
may not decline

Hence, growth effects can only occur if there are additional investments in human capital,
physical capital and knowledge capital

Question 22

European integration → Allocation effect → I

Answer 22

→ Improved efficiency → Better investment
climate → More investment in machines, skills and/or technology → Higher output per
person

Question 23

• Under medium-run growth effects

Answer 23

the rise in output per person eventually stops at a
new, higher level

Question 24

Under long-run growth effects

Answer 24

the rate of growth is forever higher

Question 25

Growth rate of real GDP =

Answer 25

Growth rate of real GDP per capita + Growth rate of the
population

Question 26

Growth rate of real GDP per capita =

Answer 26

= Growth rate of real GDP per hour + Growth rate of
hours worked per capita

Question 27

Post-war European growth: The productivity slowdown

Answer 27

Most wealthy nations experienced a slower income growth rate from the early 1970s
Each decade since the 1960s has seen slower per capita income rises.
Robert Gordon argues that growth and innovation didn’t slow down from the 1970s, but
rather that it returned to its historical norm. He argues that the cluster of new inventions
that arose from about 1870 accelerated innovation and thus incomes, but not forever
The elements were combined and recombined and the result was decades of above-normal
rates of inventiveness and thus, above-normal growth

Question 28

Medium-term growth effects in the Solow model

Answer 28

For the analysis, we consider the whole EU as a single, closed economy with fully integrated
capital and labour markets and the same technology everywhere
We study the link between growth and integration by focusing on the connection between
GDP-per-worker and capital-per-worker: when a firm provides its workers with more and
better equipment, output per worker rises
However, output per worker does not increase in proportion with equipment per worker
due to the declining marginal productivity of capital

Question 29

Long-term growth effect: faster knowledge creation and absorption

Answer 29

The stock of knowledge per worker has risen steadily at least since the enlightenment in the
seventeenth century. Moreover, even as the knowledge stock rises, there seems to be no
tendency for the usefulness of more knowledge to diminish. When focusing on knowledge
capital instead of physical capital, diminishing returns can disappear and accumulation can
continue forever
This realization led in the 1990s to what is called ‘endogenous growth theory’

Question 29

Accession countries provide a natural experiment to evaluate the medium-term growth
effects of European integration since these countries experienced a rather sudden and welldefined increase in economic integration when they joined
This above should lead to observe the following after accessions:

Answer 29

1.Stock market prices should increase;
2. Aggregate investment to GDP ratio should rise;
3. The net direct investment figures should improve

Question 30

Is knowledge capital subject to diminishing returns?

Answer 30

No! So the GDP/L curve rises in a straight-line fashion with respect to the
knowledge-per-worker ratio

Question 31

Economic integration can push up the GDP/L and the s(GDP/L) curves due
to increased efficiency. The result is

Answer 31

permanently higher economic growth

Question 32

The evidence on long-term growth effects of European integration is
much harder to find
Also,

Answer 32

the overarching fact is that long-term growth rates around the world, including those in
Europe, returned to their pre-Golden Age levels. It is hard to explain how the long-run
growth rate in Europe returned to its pre-integration average, if European integration
strongly boosted long-run growth.
For this reason, it is probably best to focus on medium-term growth effects
The experience of the new Member States will provide an important opportunity for testing
the growth effects of EU membership, but as yet not have enough data to undertake serious
statistical analysis

Question 33

Integration improves the

Answer 33

efficiency of the European economy by encouraging a more efficient allocation of European resources: this positive allocation effect shifts the GDP/L curve.

Question 34

The shift up in the GDP/L curve also shifts up the

Answer 34

investment curve since the fixed investment rate now applies to higher output and so generates a higher inflow of investment for any given K/L ratio.

Question 35

Schematically: integration → improved efficiency →

Answer 35

higher GDP/L → higher investment-per-worker → economy’s K/L ratio starts to rise towards new, higher equilibrium value → faster growth of output per worker during the transition from the old to the new K/L ratio. This is the so-called medium-term growth bonus from European integration.

Question 36

The Solow diagram assumes a constant investment rate. But it may not be constant: many people claim that the euro makes it easier, cheaper and safer to invest in Europe.

Answer 36

If European integration raises the investment rate from, s(GDP/L), will rotate upwards, altering the K/L ratio.