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Economic Growth The Production Function Production Possibilities Growth Policies U.S. Economic Growth
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FIGURE 2: Actual and Potential GDP in the United States Copyright © 2003 South-Western/Thomson Learning. All rights reserved. 1957–1958 Recession 1960–1961 Recession 1960s Boom 1974–1975 Recession 1982–1983 Recession Actual GDP Potential GDP 1955195919631967197119751979198319871991199519992004 10,000 2,500 3,000 3,500 4,000 4,500 5,000 5,500 6,000 6,500 7,000 8,000 9,000 Year 7,500 8,500 9,500 11,000 10,500 2,000 Billions of 2000 Dollars
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Questions What causes long-term GDP (potential GDP) and per-capita GDP (standard of living) to grow over time? What types of economic policies can the government use to stimulate GDP growth?
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Growth and Production Function The key to growth in potential GDP is growth in labor/worker productivity: Y p = L* x (Y/L*) = (Hours of work) x (Labor productivity) What drives labor productivity growth?
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Three Pillars of Productivity Growth: (i)Capital (K) (ii)Technology (TFP) (iii)Human capital (HK) - One measure is educational attainment. Productivity Growth and shifts in the production function.
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Growth Accounting in US 1948-7373-95 94-02 Labor Productivity2.8%1.4% 2.8% Capital0.9%1.0% 1.7% Technology1.9%0.4% 1.1%
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TABLE 4: Average Years of Schooling for Selected Countries
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Growth and Production Possibilities Goods can be classified into two types: (i)Consumption goods – to be consumed (not used to make goods). (ii)Capital goods – to be used in the manufacturing of other goods (may include human capital) GDP must be divided between consumption and capital goods.
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GDP and Society’s Choices Today Capital Goods c PPF 0 b a Consumption Goods
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GDP and Society’s Choices: Tomorrow (if No Capital Depreciation): Choice a Capital Goods c Consumption Goods b a PPF 0 = PPF a
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GDP and Society’s Choices Tomorrow: Choice b Capital Goods c Consumption Goods b a PPF a PPF b
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GDP and Society’s Choices Tomorrow: Choice c Capital Goods c Consumption Goods b a PPF a PPF c PPF b
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For a given level of technology investment in physical or human capital is necessary for economic growth. Increases in TFP can increase economic growth for any given capital-consumption combination.
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GDP and Society’s Choices: Growth in TFP Capital Goods c PPF 0 b a Consumption Goods PPF 1
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International Comparisons What explains international differences in standard of living? How have these differences changed over time? Poorer countries low per-capita GDP Richer countries high per-capita GDP
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Productivity and Growth in Selected Countries GDP/Hour 1998 Country(% of US)Growth US1001.5 France982.5 UK792.2 Germany772.4
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The convergence hypothesis: Productivity growth of poorer countries tend to be higher than richer countries. Per-capita GDP among countries tend to converge.
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Productivity in Selected Countries GDP/Hour 19731998 Country(% of US)(% of US)Growth US1001001.5 France76982.5 UK67792.2 Germany62772.4
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Figure 2 The Convergence Hypothesis
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Reasons for International Convergence (i)Diminishing Returns (ii)Learning from Richer Countries Problem: Poorest countries are falling behind. They don’t have (i)Infrastructure, facilities (ii)Educational structure
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Productivity in Selected Countries GDP/Hour 19731998 Country(% of US)(% of US)Growth US1001001.5 France76982.5 UK67792.2 Germany62772.4 Argentina45390.9 Mexico38290.5 Peru2615-0.7
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Growth Policies Capital Formation Policies: *Lower Interest Rates *Tax Provisions (capital gains/corporate) *Political Stability/Property Rights *Direct Government Investment Education and Training Helping Developing Countries (foreign direct investment, World Bank Aid)
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FIGURE 5: Average Productivity Growth Rates in the U.S. Copyright © 2006 South-Western/Thomson Learning. All rights reserved. 1948–19731973–19951995–2004 Percent per Year 2.8 1.4 3.0
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Historical Record of U.S. Productivity Post WWII: 1948-73 *Confidence and business optimism high *Low Interest Rates *High government spending on infrastructure Productivity Slowdown: 1973-1995 *High energy prices *Slow pace of technical progress?
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1995-present *Lower energy prices *Peace Dividend *Computing and Information Technology
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