Economic Growth and the Wealth of Nations Chapter 16 4/17/2017 Economic Growth and the Wealth of Nations Chapter 16

The Importance of Economic Growth 4/17/2017 The Importance of Economic Growth Per capita GDP is the nation’s GDP divided by its population. Growth of per capita GDP means more goods and services per person. In most cases, higher levels of per capita GDP will mean that the typical person has a better diet, improved health and access to medical services, a longer life expectancy, and greater educational opportunity.

The Importance of Economic Growth 4/17/2017 The Importance of Economic Growth Economic growth expands the sustainable output rate YF of an economy. Consumption goods Price Level LRAS1995 LRAS2005 PPC2005 B SRAS1995 SRAS2005 AD2005 A PPC1995 P1 AD1995 Capital goods Real GDP A YF1995 YF2005

Per-Capita Income (in thousands of 1985 U.S. Dollars) 4/17/2017 Per-Capita Income (in thousands of 1985 U.S. Dollars) 1960 2002 4,462 6,338 Argentina 5,683 5,585 Venezuela 2,954 2,247 Japan 16,271 19,618 Hong Kong Source: Robert Summers and Alan Heston, Penn World Tables, Mark 5.6 (Cambridge: National Bureau of Economic Research, 1994); and World Bank, World Development Indicators, CD-ROM, 2004.

Growth Rates among Nations 4/17/2017 Differences in Growth Rates among Nations The growth of per-capita GDP for high-income industrial countries, high-growth LDCs, and low-growth LDCs, (1980–2002) High-growth LDCs High-income industrial Low-growth LDCs China 8.1% United Kingdom 2.2% Congo (Zaire) -4.9% South Korea 6.1% Japan 2.1% Sierra Leone -3.3% Taiwan 6.0% Australia 1.9% Haiti -2.8% Ireland 4.8% United States 1.9% Madagascar -2.1% Botswana 4.6% Netherlands 1.8% Niger -2.0% Thailand 4.6% Italy 1.8% Côte d’lvoire -1.8% Mauritius 4.4% France 1.7% Togo -1.7% Singapore 4.2% Germany 1.7% Nicaragua -1.4% Hong Kong 3.7% Canada 1.6% Venezuela -1.3% India 3.6% Switzerland 0.7% Nigeria -1.1% Sources: Derived from World Bank, World Development Indicators, CD-ROM, 2004; and Republic of China, Statistical Yearbook of the Republic of China, 2004. Only countries with a population of 2 million or more in 2002 are included in this table.

Questions for Thought: 4/17/2017 Questions for Thought: 1. Which of the following is true? a. The fastest-growing economies in the world are mostly less developed countries. b. The slowest growing countries in the world, many of which are experiencing declines in per capita GDP, are less developed countries. 2. “Other things constant, low income countries should be able to grow rapidly because they can either emulate or import at a low cost proven technologies from countries with higher incomes.” -- Is this statement true?

Sound Institutional Environment 4/17/2017 Key Elements of a Sound Institutional Environment The following institutional elements are keys to the growth process: secure property rights and political stability, competitive markets, stable money and prices, free trade, open capital markets, and, avoidance of high marginal tax rates.

Role of Government and Economic Progress 4/17/2017 Role of Government and Economic Progress The economic, political, and legal environment is a major determinant of economic growth. Governments help promote economic growth when they focus on two core functions: Provision of a legal, regulatory, and monetary environment that enforces contracts and protects people and their property from the actions of aggressors (both domestic and foreign), and, Provision of a limited set of public goods like roads and national defense that are difficult to provide through markets.

Role of Government and Economic Progress 4/17/2017 Role of Government and Economic Progress As governments expand beyond these core functions, however, the beneficial affects will eventually wane and become negative.

Size of government (percent of GDP) 4/17/2017 3% 6% Size of government (percent of GDP) Growth rate of the economy A B If governments undertake activities in the order of their productivity, the growth of government will initially promote economic growth (move from A to B). At some point, however, continued expansion of government will retard growth (moves beyond B).

Big vs. Small-Government Countries 4/17/2017 Economic Growth: Big vs. Small-Government Countries Countries w/ government spending greater than 48% of GDP (1999-2003) Average annual growth rate of GDP, 1990-2003 Sweden 58.2% 1.8% Denmark 55.7% 2.0% France 53.3% 1.8% Austria 52.1% 2.2% Finland 50.2% 1.7% Belgium 50.2% 1.9% Italy 48.3% 1.5% Average 52.6% 1.8% Countries w/ government spending less than 37% of GDP (1999-2003) Average annual growth rate of GDP, 1990-2003 Australia 36.2% 3.3% United States 34.6% 2.9% Ireland 33.8% 6.8% Average 34.9% 4.3% The average annual growth rate of OECD countries for the 1990 to 2003 period was greater for small government countries than for large government countries.

Questions for Thought: 4/17/2017 Questions for Thought: 1. “Most low income countries are poor because they lack the necessary natural resources for development.” -- Is this statement true? 2. “In recent decades the highest rates of economic growth have been achieved by high income countries with the largest government expenditures as a share of GDP.” -- Is this statement true?

Questions for Thought: 4/17/2017 Questions for Thought: 3. Which of the following is most important if a country is going to achieve and sustain rapid economic growth? a. large government expenditures as a % of GDP b. institutions & policies supportive of competition (open markets) and freedom of exchange c. free elections and political democracy 4. The growth records of Japan and Hong Kong during the last 50 years indicate that an economy can grow rapidly without: a. securely defined property rights b. abundant domestic resources c. significant capital formation d. adopting modern technology

Questions for Thought: 4/17/2017 Questions for Thought: 5. Which of the following is true? a. International trade makes it possible for a nation to use more of its resources producing items it can supply economically and less producing goods that can be supplied domestically only at a high cost. b. Trade barriers such as tariffs and import quotas will protect domestic jobs, expand employment, and help a nation achieve a higher standard of living.