week 16 Flashcards
how have living standards improved
variety, quality and quantity of goods and services increased during the 19th and 20th century, as reflected in real GDP
but comparing economic output over 100 years cannot account for new goods/services
what are living standards
real GDP per person is a measure of goods available to a typical person
what are the benefits of growth
pace of technical change is growing
inventions are not sufficient to sustain growth so goods must be sold
what is compound interest
pays interest on the original deposit and all previously accumulated interest
small growth in GDP can have a large effect over a long period
how do you find real GDP per person
(real GDP/number of employed workers) x (number of employed workers/population)
what does real output depend on
how much each worker can produce
the percentage of the population that is working
what determines a country’s economic growth rate
increases in output per person arise primarily from increases in average labour productivity
when does GDP per capita increase
when output per worker increases or share of population employed increases
what causes growth
in the long run
increases in output per person and living standards arise from increases in average labour productivity
what factors determine average labour productivity
human capital
physical capital
land and natural resources
technology
entrepreneurship and management
political and legal environment
what is human capital
talents, education, training and skills of workers
increases productivity and innovation
causes higher output and economic prosperity
what is physical capital
more and better capital (machinery, equipment, buildings etc) increases worker productivity and raises quality
what are diminishing returns to capital
the amount of labour and other inputs is constant then the greater the amount of capital already in use, less additional unit of capital adds
assumes all inputs except capital are held constant
causes output to increase at a decreasing rate
what are the implications of diminishing returns
increasing capital will increase output and labour productivity
positive contribution to growth
how does land and other natural resources improve labour productivity
increase worker productivity, creates jobs and generate revenue
land - used for farming and agriculture, produce food and raw materials for export, major contributor to some economies
extraction of natural resources - provides jobs and income, drives innovation
tourism - provides revenue
renewable energy - can be produced from land and natural resources
how does technology improve labour productivity
new tech is the most important improvement of productivity
improves efficiency and innovation at lower costs
what is the productivity puzzle
cause of slow down of growth is unknown, unclear if this is temporary or not
recent growth mainly linked to tech making workers more productive
how does entrepreneurship and management increase productivity
entrepreneurs create new economic enterprises and identify business opportunities
needed for a dynamic, healthy growing economy
take risks and create new products or services
create jobs and increase productivity
increase competition
how does political and legal environment increase productivity
encourage people to be economically productive
political stability attracts investment and promotes growth
having a fair and predictable legal environment also supports economic growth
why is capitalism successful
provides incentive for individuals to create new products to make profit
allows resources to be allocated efficiently
encourages investment in human and physical capital, furthering growth
gives consumers choice of a wide range of products
contributes to economic growth
why does communism fail
advocates for a classless society in which all property and resources are collectively owned
struggle to produce enough goods to meet needs of people
centralised planning causes inefficiency and lack of innovation
also causes political instability due to lack of freedom
what is the solow growth model
shows relationship between quantities of inputs used in production and economy’s total output (Y)
2 inputs - physical capital K and labour N
what is physical capital
consists of machines and buildings used in production of economy’s GDP
what is labour
number of workers used in production of goods and services
what is the production function
Y = F(K,N)
output is a function of the quantities of capital and labour used in the production process
what are constant returns to scale
if labour and capital inputs are both increased by equal proportions, total output increases by the same proportion
CRS function: zY = F(zK, zN), where z is any positive number
what is marginal product of capital (MPK)
assumed to be decreasing
MPK = change in Y / change in K
what is the production function
shows how average labour productivity increases with capital per worker
for constant labour force the slope measures MPK
what is the solow growth model
assumes that investment is financed by saving
saving is a constant fraction of income Y
I - investment
S - saving
s - saving rate
I = S = sY - in per capita terms
i = s*f(k) after dividing by N
how much investment is needed to keep capital-labour ratio constant
depends on depreciation rate and population growth
how does depreciation affect solow growth
part of capital stock that wears out and becomes les productive
if capital depreciates at rate d, investment must be dk to keep capital from falling
how does labour force affect solow growth
labour force grows at rate n per period
economy needs an investment of nk to keep capital-labour ratio constant
investment per head needs to be (d+n)k to maintain constant capital-labour ratio
how does increasing saving rate affect solow growth
shifts investment curve upwards, leading to higher investment
equilibrium capital-labour ratio increases from k1 to k2, productivity increases from y1 to y2
labour productivity increases and growth of output Y exceeds population growth n
how does solow growth model explain economic growth
average labour productivity depends on the amount of physical capital per head in the workforce
the economy’s steady state growth rate should equal rate of population growth in the long run
how does increasing labour productivity cause greater technical progress
improvement in knowledge enables higher output from existing resources
y = Af(k) where A is technical progress
if technology improves by g percent per year then A = (1+g)
how does technology effect the solow model
technical progress causes an increase in overall productivity
more output can be produced with the same inputs
marginal product of capital increases, higher rates of investment and capital accumulation
causes higher living standards and economic growth
what is total factor productivity
entrepreneurship - introduce new production methods and create economic enterprises
political and legal environment - establish property rights and effect investment
how does human capital affect the solow model
higher human capital causes living standards to be higher, even if capital-labour ratio is the same
how did covid affect growth
period of low investment
closing schools reduces human capital
unemployment and health issues could reduce working population
how does democracy affect growth
associated with higher human capital, higher economic freedom and less political instability
tied to growth sources like education and healthcare
what are the costs of economic growth
increasing capital stock, increases GDP in the long run
opportunity cost of producing capital goods : fewer consumed goods, less leisure, health risks, cost of R&D, cost of education
how does human capital promote growth
govs support training and education
govs pay as education has externalities: democracy works better, more taxes, increased technical innovation, poorer families cannot pay
how do savings/investment promote growth
govs encourage capital formation and saving
govs can invest directly in capital formation eg infrastructure
how does R&D promote growth
promotes innovation
gov sponsors military and space applications
maintain political and legal framework to support growth
how do you promote economic growth in less developed areas
more human and physical capital is needed
need institutions to support growth
corruption does not encourage investment
regulation discourages entrepenuership
taxes discourage risk taking
markets don’t function efficiently
lack of political stability
what are the limits to growth
depletion of natural resources - more efficient techniques to use and extract them, limit is environmental damage
