1. © 2007 Thomson South-Western

2. GDP per worker is the measure of the wealth of nation In “ The Wealth of Nations ”, Adam Smith argues that the wealth of a nation is not measured by its supply of precious metals, but by the productivity of its labor force. It is appropriate to use GDP per worker as the measure of the wealth of a nation.

3. © 2007 Thomson South-Western Production and Growth A country ’ s standard of living ( 生活水 準 )depends on its ability to produce goods and services. Within a country there are large changes in the standard of living over time. In the United States over the past century, average income as measured by real GDP per person has grown by about 2 percent per year.

4. © 2007 Thomson South-Western Production and Growth Productivity (or labor productivity 生產力 )refers to the amount of goods and services produced from each unit of labor input. A nation ’ s standard of living is determined largely by the productivity of its workers.

5. © 2007 Thomson South-Western The Variety of Growth Performance

6. © 2007 Thomson South-Western ECONOMIC GROWTH AROUND THE WORLD Living standards, as measured by real GDP per person, vary significantly among nations. The poorest countries have average levels of income that have not been seen in the United States for many decades. Annual growth rates that seem small become large when compounded for many years. Compounding refers to the accumulation of a growth rate over a period of time.

7. © 2007 Thomson South-Western Productivity: Its Role and Determinants Why Productivity Is So Important –Productivity plays a key role in determining living standards for all nations in the world. –To understand the large differences in living standards across countries, we must focus on the production of goods and services.

8. © 2007 Thomson South-Western The Production Function Economists often use a production function ( 生產函數 ) to describe the relationship between the quantity of inputs used in production and the quantity of output from production.

9. © 2007 Thomson South-Western The Production Function Y = A F(L, K, H, N) –Y = quantity of output –A = available production technology –L = quantity of labor –K = quantity of physical capital ( 實體資本 ) –H = quantity of human capital ( 人力資本 ) –N = quantity of natural resources ( 自然資源 ) –F( ) is a function that shows how the inputs are combined to produce output.

10. © 2007 Thomson South-Western The Production Function A production function has constant returns to scale ( 固定規模報酬 ) if, for any positive number x, xY = A F(xL, xK, xH, xN) For example, a doubling of all inputs causes the amount of output to double as well.

11. © 2007 Thomson South-Western The Production Function Production functions with constant returns to scale have an interesting implication. Setting x = 1/L, then Y/ L = A F(1, K/L, H/L, N/L) where: Y/L = output per worker K/L = physical capital per worker H/L = human capital per worker N/L = natural resources per worker

12. © 2007 Thomson South-Western The Production Function The preceding equation says that labor productivity (Y/L) depends on: –physical capital per worker (K/L), –human capital per worker (H/L), –natural resources per worker (N/L), –and the state of technology (A).

13. © 2007 Thomson South-Western How Productivity Is Determined The inputs used to produce goods and services are called the factors of production ( 生產要素 ). The factors of production include: –Physical capital ( 實體資本 ) –Human capital ( 人力資本 ) –Natural resources ( 自然資源 ) –Technological knowledge The factors of production directly determine productivity.

14. © 2007 Thomson South-Western How Productivity Is Determined Physical capital per worker is the stock of equipment and structures that are used to produce goods and services. Physical capital includes: –Tools used to build or repair automobiles. –Tools used to build furniture. –Office buildings, schools, etc. Physical capital is a produced factor of production. –It is an input into the production process that in the past was an output from the production process.

15. © 2007 Thomson South-Western How Productivity Is Determined Human capital per worker is the economist ’ s term for the knowledge and skills that workers acquire through education, training, and experience. Like physical capital, human capital raises a nation ’ s ability to produce goods and services.

16. © 2007 Thomson South-Western How Productivity Is Determined Natural resources are inputs used in production that are provided by nature, such as land, rivers, and mineral deposits. –Renewable resources include trees and forests. –Nonrenewable resources include petroleum and coal. Natural resources can be important but are not necessary for an economy to be highly productive in producing goods and services.

17. © 2007 Thomson South-Western How Productivity Is Determined Technological knowledge includes society ’ s understanding of the best ways to produce goods and services. Human capital includes the resources expended transmitting this understanding to the labor force. The technical progress is the more important determinant of productivity growth than the input factor accumulation.

18. © 2007 Thomson South-Western Are Natural Resources a Limit to Growth? Some argue that natural resources will eventually limit how much the world ’ s economy can growth. However, economists argue that technical progress often yields ways to avoid these limits. More efficient ways of using energy, recycling, the development of renewable energy, and technical progress in materials.

19. © 2007 Thomson South-Western Are Natural Resources a Limit to Growth? The prices of most natural resources are stable. It appears that our ability to conserve these resources is growing more rapidly than their supply are dwindling.

20. © 2007 Thomson South-Western Population Growth Economists and other social scientists have long debated how population growth affects a society. Population growth interacts with other factors of production: –Stretching natural resources –Diluting the capital stock –Promoting technological progress

21. © 2007 Thomson South-Western Relative contributions of sources of economic growth Capital (K)Labor (L)technical progress (A) Hong Kong74260 Singapore68320 S. Korea80200 Taiwan85150 Japan56539 Non-Asian G536659

22. © 2007 Thomson South-Western Policies, Institution and Growth One way to raise future productivity is to invest more current resources in the production of capital.

23. © 2007 Thomson South-Western Diminishing Returns and the Catch-Up Effect As the stock of capital rises, the extra output produced from an additional unit of capital falls; this property is called diminishing returns ( 報酬遞減 ). Because of diminishing returns, an increase in the saving rate leads to higher growth only for a while. In the long run, the higher saving rate leads to a higher level of productivity and income, but not to higher growth in these areas.

24. © 2007 Thomson South-Western Illustrating the Production Function Output per worker 1 1 Capital per worker 1. When the economy has a low level of capital, an extra unit of capital leads to a large increase in output. 2. When the economy has a high level of capital, an extra unit of capital leads to a small increase in output.

25. © 2007 Thomson South-Western Diminishing Returns and the Catch-Up Effect The catch-up effect ( 追趕效果 ) refers to the property whereby countries that start off poor tend to grow more rapidly than countries that start off rich.

26. © 2007 Thomson South-Western Stylized Facts on Economic Development In every year studied, there is great wealth disparity among countries. In 1985, for example, the highest-output countries were 29 times richer than the lowest-output countries. Wealth disparity has not increased or decreased. The distance between the richest and poorest countries remained essentially the same throughout the 1960-85 period.

27. © 2007 Thomson South-Western Stylized Facts on Economic Development There is great wealth disparity ( 財富差距 ) among nations. For example, the highest- output countries were 29 times richer than the lowest-output countries. Wealth disparity has not increased or decreased. The distance between the richest and poorest countries remained essentially the same throughout the 1960-85 period.

28. © 2007 Thomson South-Western Wide and Steady Wealth Disparity Average Per-Capita GDP Relative to U.S. Level for the 5 Richest and Poorest Counties in the 102-Country Data Set During 1960-85

29. © 2007 Thomson South-Western The Standard Deviation of Wealth Disparity

30. © 2007 Thomson South-Western The Standard Deviation of Wealth Disparity In Western Europe: Decreasing?

31. © 2007 Thomson South-Western The Standard Deviation of Wealth Disparity In Southeastern Asia: Definitely Increasing

32. © 2007 Thomson South-Western Dramatic Divergence in Southeastern Asia Per-Capita GDP Relative to 1985 U.S. Level for 8 Southeastern Asian Countries During 1870-1985

33. © 2007 Thomson South-Western A Change in the Distribution of Wealth Per-Capita GDP Relative to U.S. Level in the 102-country Data Set During 1960 and 1985

34. © 2007 Thomson South-Western A Widespread Upward Shift Average Real GDP Relative to 1985 U.S. Level for Selected Wealth Groups in the 102-Country Data Set During 1960-85

35. © 2007 Thomson South-Western The Poorest Got Richer Too Per-Capita GDP Relative to 1985 U.S. Level for the 10 Poorest Countries in 1960 1960 1985

36. © 2007 Thomson South-Western Development Miracles and Disasters

37. © 2007 Thomson South-Western Basic Theoretical Framework Social Infrastructure ( 社會基礎建設 ) Input factors’ production, technical progress GDP per worker

38. © 2007 Thomson South-Western ECONOMIC GROWTH AND PUBLIC POLICY Government policies that raise productivity and living standards –Encourage saving and investment. –Encourage investment from abroad. –Encourage education and training. –Establish secure property rights and maintain political stability. –Promote free trade. –Promote research and development.

39. © 2007 Thomson South-Western Investment from Abroad Governments can increase capital accumulation and long-term economic growth by encouraging investment from foreign sources.

40. © 2007 Thomson South-Western Investment from Abroad Investment from abroad takes several forms: –Foreign Direct Investment ( 外人直接投資 ) Capital investment owned and operated by a foreign entity. –Foreign Portfolio Investment ( 外人股權投資 ) Investments financed with foreign money but operated by domestic residents.

41. © 2007 Thomson South-Western Education For a country ’ s long-run growth, education is at least as important as investment in physical capital. In the United States, each year of schooling raises a person ’ s wage, on average, by about 10 percent. Thus, one way the government can enhance the standard of living is to provide schools and encourage the population to take advantage of them.

42. © 2007 Thomson South-Western Education An educated person might generate new ideas about how best to produce goods and services, which in turn, might enter society ’ s pool of knowledge and provide an external benefit to others. One problem facing some poor countries is the brain drain — the emigration of many of the most highly educated workers to rich countries.

43. © 2007 Thomson South-Western Healthier workers are more productive. Good investments in the health of the population can lead to increase living standards. Countries can get caught in a vicious cycle. Health and Nutrition People cannot afford adequate health care and nutritious food. People are poor

44. © 2007 Thomson South-Western Property Rights Property rights refer to the ability of people to exercise authority over the resources they own. An economy-wide respect for property rights is an important prerequisite for the price system to work. It is necessary for investors to feel that their investments are secure.

45. © 2007 Thomson South-Western Trade Openness Openness is, in some ways, a type of technology. Policies favoring openness yield benefits associated with the openness itself. Trade with other countries yield benefits from specialization and facilitates the adoption of ideas and technologies from those countries.

46. © 2007 Thomson South-Western Trade Openness Some countries engage in... –... inward-orientated trade policies, avoiding interaction with other countries. –... outward-orientated trade policies, encouraging interaction with other countries.

47. © 2007 Thomson South-Western Research and Development The advance of technological knowledge has led to higher standards of living. Most technological advance comes from private research by firms and individual inventors. Government can encourage the development of new technologies through research grants, tax breaks, and the patent system.

48. © 2007 Thomson South-Western How Democracy Affects Growth Democracy is a political system characterized by the following features: It adds the voice of the great number of the poor to that of the few rich. It decreases the discretionary nature of power, in the sense that political decisions become more responsive to constraints beyond the control of politicians.

49. © 2007 Thomson South-Western Equal participation in elections and in the evaluation of government officials is universally perceived as a precondition for social justice. Huntington (1991) states that ‘Democracy is one public virtue ’not the only one, and the relation of democracy to other public virtues and vice can only be understood if democracy is clearly distinguished from characteristics of political system.

50. © 2007 Thomson South-Western How Democracy Affects Growth Democracy yields more political stability: In democratic society, there is transparent rules for the alternation of political force in power. Transparent rules yield more peaceful and predictable transfer of political power. Lower degree of uncertainty encourage investment and hence economic growth.

51. © 2007 Thomson South-Western How Democracy Affects Growth Democracy has better quality of governance In a democratic society, it is easier to keep the abuse in adopting distorted policies that benefit a small group of insider at the expense of the general population. Easier to control policy making means better quality of governance, which in turn encourage investment and economic growth.

52. © 2007 Thomson South-Western How Democracy Affects Growth Democracy in a highly unequal society assigns a more important role of government in income redistribution by raising tax rates on capital income. Higher captial income tax rate discourage investment and hence economic growth.

53. © 2007 Thomson South-Western How Democracy Affects Growth In a democratic society, less protectionism yields more gains from free trade. In a democratic society, it is easier to secure property rights and facilitate contract enforcement. In a democratic society, labor unions and labor interest groups are given a greater voice. Decreases in returns to capital discourage investment.

54. © 2007 Thomson South-Western Summary Economic prosperity, as measured by real GDP per person, varies substantially around the world. The average income of the world’s richest countries is more than ten times that in the world’s poorest countries. The standard of living in an economy depends on the economy’s ability to produce goods and services.

55. © 2007 Thomson South-Western Productivity depends on the amounts of physical capital, human capital, natural resources, and technological knowledge available to workers. Government policies can influence the economy’s growth rate in many different ways. Summary

56. © 2007 Thomson South-Western The accumulation of capital is subject to diminishing returns. Because of diminishing returns, higher saving leads to a higher growth for a period of time, but growth will eventually slow down. Also because of diminishing returns, the return to capital is especially high in poor countries. Summary