© 2003 Prentice Hall Business PublishingMacroeconomics, 3/eOlivier Blanchard Prepared by: Fernando Quijano and Yvonn Quijano 12 C H A P T E R Technological Progress and Growth

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Technological Progress and the Rate of Growth  Technological progress has many dimensions. It may mean:  Larger quantities of output  Better products  New products  A larger variety of products  Technological progress leads to increases in output for given amounts of capital and labor. 12-1

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Technological Progress and the Production Function  Let’s denote the state of technology by A and rewrite the production function as  A more restrictive but more convenient form is  Output depends on both capital and labor, and on the state of technology.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Technological Progress and the Production Function  Technological progress reduces the number of workers needed to achieve a given amount of output.  Technological progress increases AN, which we can think of as the amount of effective labor, or labor in “efficiency units.” in the economy.  With constant returns to scale,  More generally,

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Technological Progress and the Production Function  The relation between output per effective worker and capital per effective worker is: In words, output per effective worker is a function of capital per effective worker. which we can redefine as

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Technological Progress and the Production Function Output per Effective Worker Versus Capital per Effective Worker Because of decreasing returns to capital, increases in capital per effective worker lead to smaller and smaller increases in output per effective worker.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Interactions Between Output and Capital  The dynamics of output and capital per worker involve: 1. The relation between output per worker and capital per worker. Dividing both sides by AN, we get

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Interactions Between Output and Capital 2. The relation between investment per worker and capital per worker.  The dynamics of output and capital per worker involve: Given that then

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Interactions Between Output and Capital 3. The relation between depreciation per worker— equivalently, the investment per worker needed to maintain a constant level of capital per worker— and capital per worker.  The dynamics of output and capital per worker involve: or equivalently  The amount of investment per effective worker needed to maintain a constant level of capital per effective worker is

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Interactions Between Output and Capital Dynamics of Capital per Worker and Output per Effective Worker Capital per effective worker and output per effective worker converge to constant values in the long run.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Dynamics of Capital and Output  At (K/AN) 0, actual investment exceeds the investment level required to maintain the existing level of capital per effective worker, K/AN increases.  In the long run, or in the steady state of the economy, capital per effective worker and output per effective worker are constant and equal to (K/AN)* and (Y/AN)*.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Dynamics of Capital and Output  In steady state, output (Y) grows at the same rate as effective labor (AN); effective labor grows at a rate (g A +g N ); therefore, output growth in steady state equals (g A +g N ). Capital per effective worker also grows at a rate equal to (g A +g N ).  The growth rate of output is independent of the saving rate.  Because output, capital, and effective labor all grow at the same rate, (g A +g N ), the steady state of the economy is also called a state of balanced growth.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Dynamics of Capital and Output Table 12-1 The Characteristics of Balanced Growth Rate of growth of: 1 Capital per effective worker 0 2 Output per effective worker 0 3 Capital per worker gAgAgAgA 4 Output per worker gAgAgAgA 5Labor gNgNgNgN 6Capital g A + g N 7Output

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard The Effects of the Saving Rate The Effects of an Increase in the Saving Rate: I An increase in the saving rate leads to an increase in the steady- state levels of output per effective worker and capital per effective worker.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard The Effects of the Saving Rate The Effects of an Increase in the Saving Rate: II The increase in the saving rate leads to higher output growth until the economy reaches its new, higher, balanced growth path.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard The Determinants of Technological Progress  Technological progress in modern economies is the result of firms’ research and development (R&D) activities. The outcome of R&D is fundamentally ideas.  Spending on R&D depends on:  The fertility of the research process, or how spending on R&D translates into new ideas and new products, and  The appropriability of research results, or the extent to which firms benefit from the results of their own R&D. 12-2

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard The Fertility of the Research Process  The determinants of fertility include:  The interaction between basic research (the search for general principles and results) and applied research (the application of results to specific uses).  The country: some countries are more successful at basic research; others are more successful at applied research and development.  Time: It takes many years, and often many decades, for the full potential of major discoveries to be realized.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard The Appropriability of Research Results  If firms cannot appropriate the profits from the development of new products, they will not engage in R&D. Factors at work include:  The nature of the research process. Is there a payoff in being first at developing a new product?  Legal protection. Patents give a firm that has discovered a new product the right to exclude anyone else from the production or use of the new product for a period of time.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard The Facts of Growth Revisited Capital Accumulation Versus Technological Progress  Fast growth may come from two sources:  A higher rate of technological progress. If g A is higher, balanced output growth (g Y =g A +g N ) will also be higher. In this case, the rate of output growth equals the rate of technological progress.  Adjustment of capital per effective worker, K/AN, to a higher level. In this case, the growth rate of output exceeds the rate of technological progress. 12-3

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Capital Accumulation Versus Technological Progress Table 12-2 Average Annual Rates of Growth of Output per Capita and of Technological Progress in Five Rich Countries, Growth of Output per Capita Rate of Technological Progress (1) (2) Change (3) (4) (5) Change (6) France   2.6 Germany   3.7 Japan   4.7 United Kingdom   0.6 United States   2.0 Average   2.8

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Capital Accumulation Versus Technological Progress  Table 12-2 illustrates three main facts: 1. The period of high growth of output per capita, from 1950 to 1973, was due to rapid technological progress, not to unusually high capital accumulation. 2. The slowdown in growth of output per capita since 1973 has come from a decrease in the rate of technological growth, not from unusually low capital accumulation. 3. Convergence of output per capita across countries has come from higher technological progress rather than from faster capital accumulation.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Why Did Technological Progress Slow Down in the mid-1970s?  The first hypothesis is that the slow down is the result of measurement error.  In a number of sectors, productivity is not easily measured.  National Income and Product Accounts make simple assumptions about technological progress in some sectors.  What should be counted as productivity growth could be counted instead as inflation.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Why Did Technological Progress Slow Down in the mid-1970s?  The second hypothesis is that in postindustrial economies, the manufacturing share of GDP has declined, while the share of services has steadily increased.  The scope of technological progress is more limited in services than in manufacturing.  However, the slowdown in productivity growth has affected nearly all sectors. The decline has been roughly the same in manufacturing as in service sectors.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Why Did Technological Progress Slow Down in the mid-1970s? Changes in the Average Annual Labor Productivity Growth, to , by Industry Most sectors of the U.S. economy have experienced a slowdown in productivity growth.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Why Did Technological Progress Slow Down in the mid-1970s?  The third hypothesis is that there was a general decline in R&D, which has led to a decline in technological progress.  However, the facts do not support this hypothesis. As a percentage of GDP, spending on R&D remained constant or increased between 1963 and 1989.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Why Did Technological Progress Slow Down in the mid-1970s? Table 12-2 Spending on R&D as a Percentage of GDP France Germany Japan United Kingdom United States

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Epilogue: The Secrets of Growth  Differences in output per worker between rich and poor countries are mostly attributed to differences in the measured level of technology across countries. For various reasons, poor countries are unable to close this technology gap.  Other reasons include political instability, poorly established property rights, lack of entrepreneurs, and poorly developed financial markets. 12-4

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Epilogue: The Secrets of Growth  The poor countries that have grown rapidly in the last 20 years have experienced a rapid accumulation of both physical and human capital.  Some of those countries have relied on the importance of foreign trade, free markets, and limited government intervention, while others have relied on government intervention and industrial policy—a policy aimed at helping specific sectors of the economy.

© 2003 Prentice Hall Business PublishingMacroeconomics, 3/e Olivier Blanchard Key Terms  effective labor, or labor in efficiency units, effective labor, or labor in efficiency units, effective labor, or labor in efficiency units,  balanced growth, balanced growth, balanced growth,  research and development (R&D), research and development (R&D), research and development (R&D),  fertility of research, fertility of research, fertility of research,  appropriability, appropriability,  patents, patents,  postindustrial economies, postindustrial economies, postindustrial economies,  industrial policy, industrial policy, industrial policy,  technology gap, technology gap, technology gap,