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CHAPTER 25 Production and Growth Economics PRINCIPLES OF N. Gregory Mankiw Premium PowerPoint Slides by Ron Cronovich © 2009 South-Western, a part of Cengage Learning, all rights reserved In this chapter, look for the answers to these questions: What are the facts about living standards and growth rates around the world? 세계 각국의 생활수준과 성장률 Why does productivity matter for living standards? 생활수준에 왜 생산성이 문제가 되는가? What determines productivity and its growth rate? 무엇이 생산성과 생산성 성장률을 결정하는가? How can public policy affect growth and living standards? 정책은 성장과 생활수준에 어떻게 영향을 미칠 수 있는가? 1 A typical family with all their possessions in the U.K., an advanced economy GDP per capita: Life expectancy: Adult literacy: $35,580 79 years 99% A typical family with all their possessions in Mexico, a middle income country GDP per capita: Life expectancy: Adult literacy: $11,410 76 years 92% A typical family with all their possessions in Mali, a poor country GDP per capita: Life expectancy: Adult literacy: $1,130 50 years 46% Incomes and Growth Around the World China Singapore Japan Spain FACT 1: India Israel There are United States vast Canada differences Colombia in living New Zealand standards Philippines around the Argentina Saudi Arabia world. Rwanda Haiti PRODUCTION AND GROWTH GDP per Growth rate, capita, 2005 1960-2005 $6,572 29,921 30,821 26,125 3,486 25,670 41,854 32,886 7,769 22,511 4,920 14,421 14,729 1,333 1,836 5.8% 5.4% 3.8% 3.2% 2.7% 2.7% 2.2% 2.1% 1.8% 1.4% 1.4% 1.0% 0.8% 0.3% –1.2% 5 Incomes and Growth Around the World China Singapore Japan Spain FACT 2: India Israel There is United States also great Canada variation Colombia in growth New Zealand rates across Philippines countries. Argentina Saudi Arabia Rwanda Haiti PRODUCTION AND GROWTH GDP per Growth rate, capita, 2005 1960-2005 $6,572 29,921 30,821 26,125 3,486 25,670 41,854 32,886 7,769 22,511 4,920 14,421 14,729 1,333 1,836 5.8% 5.4% 3.8% 3.2% 2.7% 2.7% 2.2% 2.1% 1.8% 1.4% 1.4% 1.0% 0.8% 0.3% –1.2% 6 Incomes and Growth Around the World Since growth rates vary, the country rankings can change over time: 성장률이 다양하기 때문에 시간이 지나면 나라의 순위가 바뀔 수 있다. Poor countries are not necessarily doomed to poverty forever – e.g., Singapore, incomes were low in 1960 and are quite high now. 가난한 나라가 영원히 가난 한 것은 아니다- 예 싱가포르 Rich countries can’t take their status for granted: They may be overtaken by poorer but faster-growing countries. 부유한 나라도 고속성장하는 가난한 나라에 뒤처질 수 있다. PRODUCTION AND GROWTH 7 Incomes and Growth Around the World Questions: 질문들 Why are some countries richer than others? 왜 어떤 나라들이 다른 나라들 보다 부유한가? Why do some countries grow quickly while others seem stuck in a poverty trap? 왜 어떤 나라들은 다른 나라들이 빈곤의 덫에 걸려있는 동안에도 빠른 성장을 하는가? What policies may help raise growth rates and long-run living standards? 어떤 정책이 성장률과 장기 생활수준의 향상을 돕는가? PRODUCTION AND GROWTH 8 Productivity Recall one of the Ten Principles from Chap. 1: A country’s standard of living depends on its ability to produce g&s. This ability depends on productivity, the average quantity of g&s produced per unit of labor input. Y = real GDP = quantity of output produced L = quantity of labor so productivity = Y/L (output per worker) PRODUCTION AND GROWTH 9 Why Productivity Is So Important When a nation’s workers are very productive, real GDP is large and incomes are high. When productivity grows rapidly, so do living standards. What, then, determines productivity and its growth rate? PRODUCTION AND GROWTH 10 Physical Capital Per Worker Recall: The stock of equipment and structures used to produce g&s is called [physical] capital, denoted K. K/L = capital per worker. Productivity is higher when the average worker has more capital (machines, equipment, etc.). i.e., an increase in K/L causes an increase in Y/L. PRODUCTION AND GROWTH 11 Human Capital Per Worker Human capital (H): the knowledge and skills workers acquire through education, training, and experience H/L = the average worker’s human capital Productivity is higher when the average worker has more human capital (education, skills, etc.). i.e., an increase in H/L causes an increase in Y/L. PRODUCTION AND GROWTH 12 Natural Resources Per Worker Natural resources (N): the inputs into production that nature provides, e.g., land, mineral deposits Other things equal, more N allows a country to produce more Y. In per-worker terms, an increase in N/L causes an increase in Y/L. Some countries are rich because they have abundant natural resources (e.g., Saudi Arabia has lots of oil). But countries need not have much N to be rich (e.g., Japan imports the N it needs). PRODUCTION AND GROWTH 13 Technological Knowledge Technological knowledge: society’s understanding of the best ways to produce g&s 기술지식: 재화와 서비스를 생산하는 최선의 방법에 대한 사회의 이해 Technological progress does not only mean a faster computer, a higher-definition TV, or a smaller cell phone. It means any advance in knowledge that boosts productivity (allows society to get more output from its resources). E.g., Henry Ford and the assembly line. PRODUCTION AND GROWTH 14 Tech. Knowledge vs. Human Capital Technological knowledge refers to society’s understanding of how to produce g&s. 기술지식은 재화와 서비스의 생산방법에 대한 사회의 이해를 말함 Human capital results from the effort people expend to acquire this knowledge. 인적자본은 이러한 기술지식을 획득하려는 사람들의 노력의 결과물 Both are important for productivity. 둘 다 생산성에 중요하다. PRODUCTION AND GROWTH 15 The Production Function The production function is a graph or equation showing the relation between output and inputs: Y = A F(L, K, H, N) F( ) – a function that shows how inputs are combined to produce output “A” – the level of technology “A” multiplies the function F( ), so improvements in technology (increases in “A”) allow more output (Y) to be produced from any given combination of inputs. PRODUCTION AND GROWTH 16 The Production Function Y = A F(L, K, H, N) The production function has the property constant returns to scale: Changing all inputs by the same percentage causes output to change by that percentage. For example, Doubling all inputs (multiplying each by 2) causes output to double: 2Y = A F(2L, 2K, 2H, 2N) Increasing all inputs 10% (multiplying each by 1.1) causes output to increase by 10%: 1.1Y = A F(1.1L, 1.1K, 1.1H, 1.1N) PRODUCTION AND GROWTH 17 The Production Function Y = A F(L, K, H, N) If we multiply each input by 1/L, then output is multiplied by 1/L: Y/L = A F(1, K/L, H/L, N/L) This equation shows that productivity (output per worker) depends on: the level of technology (A) physical capital per worker human capital per worker natural resources per worker PRODUCTION AND GROWTH 18 ACTIVE LEARNING 1 Discussion Question Which of the following policies do you think would be most effective at boosting growth and living standards in a poor country over the long run? a. Offer tax incentives for investment by local firms b. ” ” ” ” ” by foreign firms c. Give cash payments for good school attendance d. Crack down on govt corruption(정부부패의 단속) e. Restrict imports to protect domestic industries f. Allow free trade g. Give away condoms 19 ECONOMIC GROWTH AND PUBLIC POLICY Next, we look at the ways public policy can affect long-run growth in productivity and living standards. PRODUCTION AND GROWTH 20 Saving and Investment We can boost productivity by increasing K, which requires investment. (물적 자본은 투자를 필요로 함) Since resources scarce, producing more capital requires producing fewer consumption goods. (자원이 희소하므로 더 많은 자본을 생산하기 위해서는 소비재를 적게 생산해야 함) Reducing consumption = increasing saving. This extra saving funds the production of investment goods. (More details in the next chapter.)소비가 줄면 저축이 늠. 이러한 추가적 저축이 투자재의 생산의 비용을 조달함 Hence, a tradeoff between current and future consumption. 현재소비와 미래소비 간에 트레이드오프가 존재 PRODUCTION AND GROWTH 21 Diminishing Returns and the Catch-Up Effect The govt can implement policies that raise saving and investment. (Details in next chapter.) Then K will rise, causing productivity and living standards to rise. But this faster growth is temporary, due to diminishing returns to capital: As K rises, the extra output from an additional unit of K falls…. PRODUCTION AND GROWTH 22 The Production Function & Diminishing Returns If workers Output per have little K, worker giving them more (productivity) increases their productivity a lot. If workers already have a lot of K, giving them more increases productivity fairly little. PRODUCTION AND GROWTH Y/L K/L Capital per worker 23 The catch-up effect: the property whereby poor countries tend to grow more rapidly than rich ones Y/L Rich country’s growth Poor country’s growth K/L Poor country starts here PRODUCTION AND GROWTH Rich country starts here 24 Example of the Catch-Up Effect Over 1960-1990, the U.S. and S. Korea devoted a similar share of GDP to investment, so you might expect they would have similar growth performance. 1960-90사이에 미국과 한국에서 투자가 GDP에서 차지하는 비중은 유사했다. But growth was >6% in Korea and only 2% in the U.S. Explanation: the catch-up effect. In 1960, K/L was far smaller in Korea than in the U.S., hence Korea grew faster. 1960년에 한국의 1인당 물적자본은 미국보다 훨씬 작았기 때문에 한국이 빨리 성장한 것 PRODUCTION AND GROWTH 25 Investment from Abroad To raise K/L and hence productivity, wages, and living standards, the govt can also encourage foreign direct investment: a capital investment (e.g., factory) that is owned & operated by a foreign entity foreign portfolio investment: a capital investment financed with foreign money but operated by domestic residents Some of the returns from these investments flow back to the foreign countries that supplied the funds. PRODUCTION AND GROWTH 26 Investment from Abroad Especially beneficial in poor countries that cannot generate enough saving to fund investment projects themselves. Also helps poor countries learn state-of-the-art technologies (최신의 기술) developed in other countries. PRODUCTION AND GROWTH 27 Education Govt can increase productivity by promoting education–investment in human capital (H). Public schools, subsidized loans(장려대부금) for college Education has significant effects: In the U.S., each year of schooling raises a worker’s wage by 10%. But investing in H also involves a tradeoff between the present & future: Spending a year in school requires sacrificing a year’s wages now to have higher wages later. PRODUCTION AND GROWTH 28 Health and Nutrition(건강과 영양) Health care expenditure is a type of investment in human capital – healthier workers are more productive. In countries with significant malnourishment, raising workers’ caloric intake raises productivity: Over 1962-95, caloric consumption rose 44% in S. Korea, and economic growth was spectacular. Nobel winner Robert Fogel: 30% of Great Britain’s growth from 1790-1980 was due to improved nutrition. PRODUCTION AND GROWTH 29 Property Rights and Political Stability Recall: Markets are usually a good way to organize economic activity. The price system allocates resources to their most efficient uses. This requires respect for property rights, the ability of people to exercise authority over the resources they own. PRODUCTION AND GROWTH 30 Property Rights and Political Stability In many poor countries, the justice system doesn’t work very well: Contracts aren’t always enforced Fraud, corruption often go unpunished In some, firms must bribe govt officials for permits Political instability (e.g., frequent coups) creates uncertainty over whether property rights will be protected in the future. PRODUCTION AND GROWTH 31 Property Rights and Political Stability When people fear their capital may be stolen by criminals or confiscated by a corrupt govt, there is less investment, including from abroad, and the economy functions less efficiently. Result: lower living standards. Economic stability, efficiency, and healthy growth require law enforcement, effective courts, a stable constitution, and honest govt officials. PRODUCTION AND GROWTH 32 Free Trade Inward-oriented policies (대내지향정책) (e.g., tariffs, limits on investment from abroad) aim to raise living standards by avoiding interaction with other countries. Outward-oriented policies (대외지향정책) (e.g., the elimination of restrictions on trade or foreign investment) promote integration with the world economy. PRODUCTION AND GROWTH 33 Free Trade Recall: Trade can make everyone better off. Trade has similar effects as discovering new technologies – it improves productivity and living standards. Countries with inward-oriented policies have generally failed to create growth. E.g., Argentina during the 20th century. Countries with outward-oriented policies have often succeeded. E.g., South Korea, Singapore, Taiwan after 1960. PRODUCTION AND GROWTH 34 Research and Development Technological progress is the main reason why living standards rise over the long run. One reason is that knowledge is a public good: Ideas can be shared freely, increasing the productivity of many. Policies to promote tech. progress: Patent laws Tax incentives or direct support for private sector R&D Grants for basic research at universities PRODUCTION AND GROWTH 35 Population Growth …may affect living standards in 3 different ways: 1. Stretching natural resources(자연자원 제약의 심화) 200 years ago, Malthus argued that pop. growth would strain society’s ability to provide for itself. Since then, the world population has increased sixfold. If Malthus was right, living standards would have fallen. Instead, they’ve risen. Malthus failed to account for technological progress and productivity growth. PRODUCTION AND GROWTH 36 Population Growth 2. Diluting the capital stock (1인당 자본량의 감소) Bigger population = higher L = lower K/L = lower productivity & living standards. This applies to H as well as K: fast pop. growth = more children = greater strain on educational system. Countries with fast pop. growth tend to have lower educational attainment. PRODUCTION AND GROWTH 37 Population Growth 2. Diluting the capital stock To combat this, many developing countries use policy to control population growth. China’s one child per family laws Contraception(피임) education & availability Promote female literacy to raise opportunity cost of having babies PRODUCTION AND GROWTH 38 Population Growth 3. Promoting tech. progress(기술진보 촉진) More people = more scientists, inventors, engineers = more frequent discoveries = faster tech. progress & economic growth Evidence from Michael Kremer: Over the course of human history, growth rates increased as the world’s population increased more populated regions grew faster than less populated ones PRODUCTION AND GROWTH 39 ACTIVE LEARNING 2 Review productivity concepts List the determinants of productivity. List three policies that attempt to raise living standards by increasing one of the determinants of productivity. 40 ACTIVE LEARNING 2 Answers Determinants of productivity: K/L, physical capital per worker H/L, human capital per worker N/L, natural resources per worker A, technological knowledge Policies to boost productivity: Encourage saving and investment, to raise K/L Encourage investment from abroad, to raise K/L Provide public education, to raise H/L 41 ACTIVE LEARNING 2 Answers Determinants of productivity: K/L, physical capital per worker H/L, human capital per worker N/L, natural resources per worker A, technological knowledge Policies to boost productivity: Patent laws or grants, to increase A Control population growth, to increase K/L 42 Are Natural Resources a Limit to Growth? Some argue that population growth is depleting the Earth’s non-renewable resources, and thus will limit growth in living standards. But technological progress often yields ways to avoid these limits: Hybrid cars use less gas. Better insulation in homes reduces the energy required to heat or cool them. As a resource becomes scarcer, its market price rises, which increases the incentive to conserve it and develop alternatives. PRODUCTION AND GROWTH 43 CONCLUSION In the long run, living standards are determined by productivity. Policies that affect the determinants of productivity will therefore affect the next generation’s living standards. One of these determinants is saving and investment. In the next chapter, we will learn how saving and investment are determined, and how policies can affect them. PRODUCTION AND GROWTH 44 CHAPTER SUMMARY There are great differences across countries in living standards and growth rates. Productivity (output per unit of labor) is the main determinant of living standards in the long run. Productivity depends on physical and human capital per worker, natural resources per worker, and technological knowledge. Growth in these factors – especially technological progress – causes growth in living standards over the long run. 45 CHAPTER SUMMARY Policies can affect the following, each of which has important effects on growth: Saving and investment International trade Education, health & nutrition Property rights and political stability Research and development Population growth Because of diminishing returns to capital, growth from investment eventually slows down, and poor countries may “catch up” to rich ones. 46