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Slide 8 - 0 Economic Growth, Productivity, and Living Standards Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 1 Value of New Technology New scientific knowledge leads to widespread improvements in living standards only when it is commercially applied New technology needs an economic system that makes benefits of the advances available to the average person Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 2 Rising Living Standards Key to rising living standards is a continuing increase in average labor productivity Depends on Skills and motivation of workers Legal and social environment Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 3 Impressive Growth Over the past two centuries in industrialized nations Impressive increases in material wellbeing Real GDP per person Measures the quantity of goods and services available to the typical resident of a country at a particular time Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 4 Fig. 8.1 Real GDP per Person in Five Industrialized Countries, 1870-1998 Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 5 Small Differences Matter Small differences in growth rates can have large long-run effects Because of the power of compound interest Compound interest The payment of interest not only on the original deposit but on all previously accumulated interest Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 6 Role of Average Labor Productivity We can define real GDP per person as the product of two terms--average labor productivity and the share of the employed population Y = total real output N = number of employed workers POP = total population GDP per person Y POP Y N N POP Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 7 Real GDP Per Person and Growth Real GDP can grow only to the extent that growth occurs in Worker productivity The fraction of the employed population In the long run Increases in output per person arise primarily from increases in average labor productivity Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 8 Fig. 8.2 Real GDP per Person and Average Labor Productivity in the U.S., 1960-1999 Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 9 Fig. 8.3 Share of U.S. Population Employed, 1960-1999 Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 10 Determinants of Average Labor Productivity Average labor productivity depends on more than just hard work Human capital Physical capital Land and other natural resources Technology Entrepreneurship and management Political and legal environment Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 11 Human Capital Human capital is similar to physical capital in that it is Acquired through the investment of time, energy, and money Acquired through going to school to learn new skills Greater human capital results in higher productivity Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 12 Physical Capital Physical capital: Tools people have to work with (e.g., machines, factories) More and better physical capital allows workers to produce more efficiently Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 13 Diminishing Returns to Capital Diminishing returns to capital If the amount of labor and other inputs employed is held constant, the greater the amount of capital already in use, and the less an additional unit of capital adds to productions Managers assign use the most productive machines first When many machines are available and being used productively, adding another machine will not raise output by very much Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 14 Implications of Added Capital Stock 1. Increasing the amount of capital Will tend to increase the productivity of the workforce 2. There are limits to increasing productivity by adding more capital Due to diminishing returns to capital Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 15 Fig. 8.4 Average Labor Productivity and Capital Per Worker in 15 Countries, 1990 Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 16 Other Resources Land and other natural resources Land, energy, and raw materials Fertile land Modern manufacturing processes intensively using energy and raw materials Many natural resources can be obtained through trade petroleum, minerals, ores Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 17 Technology Ability to develop and apply new, more productive technologies will increase productivity Steam engine Internal combustion engine New technologies can improve productivity in industries other than the one in which they are introduced New technologies are the single most important source of productivity improvement Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 18 Entrepreneurship Entrepreneurs Are people who create new economic enterprises Are critical to a dynamic, healthy economy Work by lowering production costs (e.g., allowed automobiles within the reach of the average American family) Entrepreneurship needs to be channeled in economically productive ways To ensure that taxation is not so heavy To ensure that regulation is inflexible Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 19 Management Mangers are people who run businesses on a daily basis to work to satisfy customers Deal with suppliers Organize production Obtain financing Assign workers to jobs Motivate workers New production methods increase productivity (e.g., Just-in-time inventory) Suppliers deliver production parts to the factory just when they are needed Stockpiling is reduced Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 20 Political and Legal Environment Government plays an important role in fostering improved productivity Institutions can change incentives Well-defined property rights Law provides clear rules determining who owns what resources and how they can be used Rules of the game are clear Political instability Reduces incentives to plan for the future Free and open exchange of ideas Increases development of new technologies and products Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 21 Productivity Since the 1950s During the 1950s and 1960s most industrialized countries saw a rapid growth in real GDP and productivity Since the 1970s productivity growth began to slow around the world Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 22 Reasons for Slowdown Poor measurement of productivity growth Difficult to capture the productivity improvements in service-oriented economies Improvement in the quality of services are not captured in real GDP Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 23 Reasons for Slowdown Technological depletion hypothesis The high rates of productivity of the 1950s and 1960s reflect a period of “catch-up” after the Depression and WWII There was a backlog of technological breakthroughs Once the catch-up was over, productivity slowed Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 24 Recent Increase in Productivity Recent years have shown a possible recovery in productivity in the U.S. 1993-1999 productivity growth averaged 2.1% Close to rates before 1973 Thought to be due to a new technological revolution with advances in Computers Communications Genetics Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 25 Costs of Increased Capital Attaining a higher rate of economic growth does impose costs on society Producing capital goods sacrifices consumer goods New capital increases future productivity and output This reduces resources that could be spent on current consumer goods This also includes the costs of acquiring human capital Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 26 Other Costs of Growth Reduced leisure time Reduced health and safety In the 19th and 20th centuries, periods of rapid economic growth were often times of working long hours in dangerous and unpleasant jobs Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 27 Promoting Economic Growth Policies that promote economic growth Increase human capital Promote education and training Promote saving and investment Tax codes Public investment in infrastructure Government owned capital supporting private-sector activity Support research and development Develop a productive legal and political framework Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 28 Different Policies for Rich and Poor? Are the policy prescriptions for increased growth the same for rich and poor countries? The same factors promote growth in either Poorer countries must improve the legal and political environment Corrupt legal systems discourage entrepreneurship and investment Heavy-handed taxation and regulation discourages economic activity Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 29 Limits to Growth? Can economic growth continue indefinitely given that we have a finite world of natural resources? Yes. Economic growth can mean newer, better, and perhaps cleaner and more efficient goods and services Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 30 No Limits? The most polluted countries in the world are not the richest countries, But those in the early stages of industrialization Pessimistic view of economic growth ignores market responses Higher prices reduce quantity demanded and people tend to seek out substitutes Oil reserves are greater than they were in the middle of the 1970s energy crisis Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Slide 8 - 31 Limits? Global environmental problems that are hard for the market to solve Global warming Rain forest destruction Pollution Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved. Fig. 8.5 The Relationship Between Air Pollution and Real GDP per Person Slide 8 - 32 Copyright © 2001 by The McGraw-Hill Companies, Inc. All rights reserved.