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L11200 Introduction to Macroeconomics 2009/10 Lecture 3: Key Facts About Economic Growth Reading: Barro Ch.3 : p36-52 28 January 2010 Introduction • So far: introduction and measurement – Two main topics: growth and fluctuations – Key macroeconomic variables and their measurement • This Time: begin first topic: economic growth – More empirical evidence on cross-county growth – Basics of the growth model Economic Growth • Begin today with some evidence on economic growth. Key questions: – Why are some economics more ‘developed’ than others? – Why do GDP growth rates vary across nations? – What is the relationship between the level of GDP and the growth rate of GDP? Summary • Wide variation in real GDP per person – small group of nations with very high real GDP • Over last 40 years some ‘winners’ and ‘losers’ – Winners: China, S. Korea, Taiwan – Losers: Congo, Niger, Angola • Higher-GDP nations don’t show fastest growth – Middle-GDP nations tend to grow fastest – Some perpetually poor / low growth nations Poverty and Inequality • Distribution of world income is very unequal – Nearly all U.S. population have standard of living above that of nearly all Chinese population • One way to measure poverty is by some common benchmark: $1 per day – By this measure poverty has fallen greatly over last 30 years – Majority of India, China lifted out of poverty, majority of Nigeria still in poverty Basics of a growth model • In microeconomics we model output as a function of inputs: capital (K) and labour (L) • Add ‘technology’, denoted by ‘A’, in this form: Y A F ( K , L) • Functional form F ( K , L) is critical here – It determines the marginal products of the inputs – Plus the returns to scale of the inputs Basics of the growth model • For capital and labour assume diminishing marginal product plus constant returns to scale – If we double capital and labour, output doubles – If we increase capital independent of labour, each marginal increase gives less addition to output • For technology: assume technology is a level parameter: if A doubles, output doubles Functional Form • Cobb-Douglas function has these properties 1 Y A F (K L ) – Where α is the capital share in production – Simple concept: how important is capital, relative to labour, in making the output – If α=1 then only capital matters in production – Idea: if I increase K by 1 unit, the effect on Y depends on how important K is in production 1 Y A F (K L ) • So output growth is given by: Y / Y A / A (K / K ) (1 ) (L / L) • ‘rate of growth of output depends on the rate of growth of technology, plus the rate of growth of capital and labour weighted by their shares in production’ • Initially assume A / A 0 Y / Y (K / K ) (1 ) (L / L) GDP per worker • Interested in GDP per worker, y Y / L y / y Y / Y L / L growth rate of GDP per worker = growth rate of real GDP – growth rate of labour k / k K / K L / L growth rate of capital per worker = growth rate of capital – growth rate of labour • i.e. if Y is growing at 5%, but L is growing at 5%, then the growth is Y/L is zero. Growth in GDP per worker • Output growth is given by: Y / Y (K / K ) (1 ) (L / L) Y / Y (K / K ) (L / L) (L / L) Y / Y L / L (K / K L / L) Growth rate of GDP per worker Growth rate of capital per worker • So, this equation is simply: y / y (k / k ) y / y (k / k ) • To get per capita output growth, you need to increase capital per worker – This makes each worker more productive, so increases output per worker – Doubling number of machines and workers doesn’t change output per work (because of CRS) – Adding just workers lowers k and so causes output per worker to fall • Key result: GDP per worker can only be increased by adding more capital input Summary • Levels / growth of per capita GDP vary greatly across nations • In general, levels of poverty have improved over last 30 years • We began a basic model of GDP • Key insight: GDP per worker can only be increased by adding capital to production (in a world without technology growth)