Download Macroeconomics - Nuffield College, University of Oxford

Performance of World
Economies
Gavin Cameron
University of Oxford
OUBEP 2006
introduction
• “Is there some action a government of
India could take that would lead the
Indian economy to grow like Indonesia’s
or Egypt’s? If so, what, exactly? If not,
what is it about the “nature of India” that
makes it so? The consequences for human
welfare involved in questions like these
are simply staggering: Once one starts to
think about them, it is hard to think about
anything else”, Robert Lucas, 1988.
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important elements of long-run growth
•
•
•
•
Technical Change (q.v. Smith’s pin factory)
• Over time, technology becomes more advanced, and hence output per worker rises;
Factor Accumulation (q.v. Ramsey on saving)
• Over time, with sensible property rights, people accumulate capital assets (physical,
human and environmental), even though factors are typically subject to diminishing
returns;
Factor Substitution (cf. Ricardo on land)
• Over time, factors cannot earn economic rents unless their supply is restricted, even
then, other factors can be used as substitutes;
Product Substitution (q.v. Schumpeter on creative destruction)
• Over time, new varieties and qualities of products are developed, which replace
previous types.
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Kaldor’s stylised facts
• Per capita output grows over
time and its growth rate does
not tend to diminish; the same
is true of real wages;
• Physical capital per worker
grows over time;
• The rate of return to capital is
nearly constant;
• The ratio of physical capital to
output is nearly constant;
• The shares of labour and
physical capital in national
income are nearly constant;
• The growth rate of output per
worker differs substantially
across countries.
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Source: Robert J Gordon (2005)
diminishing returns
Output per worker (K/L)
Output per worker, Y/L
Output is produced using a diminishing
returns production technology. As more
capital is added, the additional increment to
output gets smaller. The shape of the curve
reflects the production technology – it gets
flatter as the output elasticity of capital falls,
and steeper as it rises.
Capital per worker (K/L)
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... a constant saving rate…
Output per worker (K/L)
Some constant fraction, s, of
output is saved. This saving
takes the form of new capital
goods.
Saving per worker, sY/L
Capital per worker (K/L)
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…and a constant depreciation rate
Output per worker (K/L)
Required Investment per worker, (n+d)K/L
Gross investment is required
each year, since the stock of
capital per worker falls
because of physical
depreciation and because of
labour force growth.
Capital per worker (K/L)
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…the Solow model
Output per worker (K/L)
Output per worker, Y/L
The economy is in
equilibrium when net
investment is zero.
Required Investment per worker,
(n+d)K/L
Saving per worker, sY/L
Rate of convergence is an
increasing function of s, and a
decreasing function of n+d and
the output elasticity of capital
K*/L
Capital per worker (K/L)
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a rise in the saving rate
Output per worker (K/L)
Output per worker, Y/L
Required Investment per worker,
(n+d)K/L
s’Y/L
sY/L
The increase in investment
raises the growth rate
temporarily as the economy
moves to a new steady-state.
But once the new higher
steady-state level of income is
reached, the growth rate
returns to its previous level.
Capital per worker (K/L)
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faster population growth
Output per worker (K/L)
Output per worker, Y/L
Required Investment per worker
(n’+d)K/L
(n+d)K/L
The rise in population growth means
that more workers need to be equipped
with capital each time period, which
means that less is available for replacing
depreciated equipment. This leads to a
fall in the steady-state level of capital.
Capital per worker (K/L)
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the golden rule
Output per worker (K/L)
Output per worker, Y/L
Required Investment per worker,
(n+d)K/L
C/L
I/L
The goal of a social planner might be to
maximise consumption per capita (where
consumption is largest relative to
investment per worker). This occurs where
the slope of the output per worker curve is
the same as the slope of the depreciation per
worker curve. The implied saving rate is
likely to be different from the market
outcome.
Capital per worker (K/L)
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the poverty trap - industrialisation
Output per worker (K/L)
Required Investment per worker, (n+d)K/L
high income:
industrial
Saving per worker
low income:
agricultural
medium income:
mixed
Capital per worker (K/L)
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the poverty trap – endogenous fertility
Output per worker (K/L)
Required Investment per worker, (n’+d)K/L
Saving per worker
medium income:
low fertility, high
mortality
high income: low
fertility, low
mortality
low income: high
fertility, high
mortality
Capital per worker (K/L)
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the AK model
Output per worker, Y/L
Output per worker (K/L)
If there are constant
returns to broad
capital, net
investment might
always be positive, so
there is no
equilibrium level of
output per worker.
Saving per worker, sY/L
Required investment per worker, (n+d)K/L
Capital per worker (K/L)
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Solow vs AK
K/L
•
Solow world
‘levels effect’
K*/L
‘catch-up’
t
K/L
AK world
‘growth effect’
•
no ‘catch-up’
The Solow model model has two main
predictions:
• For countries with the same
steady-state, poor countries should
grow faster than rich ones.
• An increase in investment raises
the growth rate temporarily as the
economy moves to a new steadystate. But once the new higher
steady-state level of income is
reached, the growth rate returns to
its previous level – there is a levels
effect but not a growth effect.
However, the AK model yields the
opposite predictions – there is no
convergence, and policy changes can
have permanent effects.
t
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Source: O’Mahony and Van Ark (2003)
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twin peaks
number of countries
1960
Since the 1960s, the distribution of
world log income has tended to
become more twin-peaked than
before. Danny Quah argues that open
economies tend to be in the higher
peak.
1990
income
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the sources of economic growth
• Growth of output = weighted growth of inputs + growth of total
factor productivity
• Growth of labour productivity = weighted growth of capital per
worker + growth of total factor productivity
• Growth of inputs
• Capital and labour
• Materials and energy
• Growth of total factor productivity
• Higher quality products
• New varieties of products
• Better ways to use existing inputs
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growth accounting
Output per worker (K/L)
C
Output per worker, Y’/L
B
Output per worker, Y/L
A
A rise in technology raises the
steady-state level of output per
capita. Part of this rise (AB) is the
pure effect of technical change
(TFP), the other part (BC) is due
to ensuing capital accumulation.
Capital per worker (K/L)
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Source: O’Mahony and Van Ark (2003), table 1.4b.
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Source: O’Mahony and Van Ark (2003), table III.14.
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Source: O’Mahony and Van Ark (2003), table III.5.
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high productivity countries
• Institutions that favour production over diversion: low corruption,
private property, good institutions;
• Low rate of government consumption (i.e. spending excluding
investment & transfers);
• Open to international trade;
• Well-educated workforce;
• International language;
• Temperate latitude away from the equator;
• Easy access to coast and ports.
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long-run growth
• Unemployment and business cycles are important in explaining short
and medium run growth, but play almost no rôle in the long-run: in
the long-run, national output is determined by supply.
• In the long-run, the main source of rising living standards is rising
output per worker.
• Rising output per worker is due to the steady accumulation of capital
(human, physical, social, environmental) and technological progress,
promoted by a supportive economic environment.
• The simple Solow model shows that there is an equilibrium level of
capital per worker in the absence of technological progress. Recent
‘post-neoclassical endogenous growth models’ attempt to explain
technological progress.
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summary
• “Productivity Growth isn’t
everything, but in the longrun, it is almost everything”,
Paul Krugman, 1990.
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syndicate topics
• How do an increased saving rate or an increased population growth
rate affect the Solow model?
• Should we expect poor or large countries to grow faster than rich or
small ones?
• Assess the relative importance of investment, competition, enterprise,
innovation, and skills on productivity growth.
• What factors do you think explain the above five drivers?
• Why are some countries rich and others poor?
• Does faster growth mean higher unemployment?
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optional spreadsheet task
• The country of Davymania starts with 100 units of capital and 30
workers. The working population grows at 2% per annum and
capital depreciates at 8% per annum. Output is produced according
to the production function Y=√K.√L and the saving rate is 20%.
• Use a spreadsheet to show how capital, labour, and output grow over
time.
• What are the equilibrium ratios of capital per worker, and output per
worker in this economy?
• Plot the response of capital per worker over time to (a) a change in
the saving rate, (b) a change in the population growth rate, (c) a rise
in efficiency that allows output to be 10% higher for any given level
of capital and labour, (d) a production function of Y=K¼.L¾.
• [Hard] What is the half-life of the gap between any given level of
capital per worker and the equilibrium? What saving rate would
maximise consumption per worker in equilibrium?
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