The Facts of Growth

1. The Facts of Growth

2. The Facts of Growth • We now turn from the determination of output in the short and medium run—where fluctuations dominate—to the determination of output in the long run—where growth dominates. • Growth is the steady increase in aggregate output over time.

3. Growth in RichCountries Since 1950 • Output per capita equals GDP divided by population. • The standard of living depends on the evolution of output per capita • not total output. • To compare GDP across countries, we use a common set of prices for all countries. Adjusted real GDP numbers are measures of purchasing power across countries, also called purchasing power parity (PPP) numbers.

4. Growth in RichCountries Since 1950 From the data in table 10-1 we conclude that: The standard of living has increased significantly since 1950. Growth rates of output per capita have decreased since the mid-1970s. There has been convergence, that is, the levels of output per capita across the five countries have become closer over time. The difference between output per capita in the United States versus the other countries is now smaller than it was in the 1950s.

5. Growth in RichCountries Since 1950 Growth Rate of GDP per Capita Since 1950 versus GDP Per Capita in 1950; OECD countries Countries that had a lower level of output per capita in 1950 have typically grown faster.

6. Thinking AboutGrowth: A Primer 10-3 • To think about the facts presented in the previous sections, we use the framework of analysis developed by Robert Solow, from MIT, in the late 1950s. Particularly: • What determines growth? • What is the role of capital accumulation? • What is the role of technological progress?

7. The Aggregate Production Function • The aggregate production function is a specification of the relation between aggregate output and the inputs in production. Y = aggregate output. K = capital — the sum of all the machines, plants, and office buildings in the economy. N = labor — the number of workers in the economy. The function F, tells us how much output is produced for given quantities of capital and labor.

8. The Aggregate Production Function • The aggregate production function depends on the state of technology. The higher the state of technology, the higherfor a given K and a given N.

9. The Aggregate Production Function • Technology • is the body of knowledge available to a civilization(skills, scientific methods and materials) and the organization of the economy (firm and market structure, government structure and laws) for making goods and supplying services. • The production processes (the blueprints, the instruction manuals) that define the range of products and the techniques available to produce them. Development Economics Economics of Growth

10. Returns to Scale and Returns to Factors • Constant returns to scale is a property of the economy in which, if the scale of operation is doubled—that is, if the quantities of capital and labor are doubled—then output will also double. • Or more generally, • An increase in scale is an increase in all inputs by the same proportion.

11. Returns to Scale and Returns to Factors • What if we increase only1 input while leaving all others constant? Output may increase, but there may be • Decreasing returns to capital: increases in capital lead to smaller and smaller increases in output as the level of capital increases. • Decreasing returns to labor: increases in labor, given capital, lead to smaller and smaller increases in output as the level of labor increases.

12. Output per Worker andCapital per Worker • Constant returns to scale implies that we can rewrite the aggregate production function as: • The amount of output per worker, Y/N depends on the amount of capital per worker, K/N. • As capital per worker increases, so does output per worker.

13. Output per Worker andCapital per Worker Output and Capital per Worker Increases in capital per worker lead to smaller and smaller increases in output per worker. An increase in capital per worker, K/N, causes a move along the production function.

14. The Sources of Growth The Effects of an Improvement in the State of Technology An improvement in the state of technology shifts the production function up, leading to an increase in output per worker for a given level of capital per worker.

15. The Sources of Growth • Growth comes from capital accumulation and from technological progress. • Because of decreasing returns to capital, capital accumulation by itself cannot sustain growth.

16. The Sources of Growth • The saving rate is the proportion of income that is saved. • A higher saving rate increases the growth of output, although not permanently. • Two countries with different rates of saving will eventually grow at the same rate. • But the country with a higher saving rate will have a higher level of output per capita.

17. The Sources of Growth • Sustained growth requires sustained technological progress. • The rate of growth of output per capita is eventually determined by the economy’s rate of technological progress.