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Chapter 15 The economics of growth Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-1 Learning objectives • Understand how growth is defined and why it is important • Discuss the sources or ingredients of growth • Describe the classical growth model and its dismal implications Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-2 Learning objectives (cont.) • Analyse how labour productivity and, therefore, living standards can be raised • Develop a formal full-employment growth model • Describe and explain the growth record of Australia • Briefly survey growth policies Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-3 Learning objectives (cont.) • Review the debate over the desirability of growth as an economic goal • Examine whether continued economic growth is feasible Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-4 Growth economics • Concerned with analysing the patterns of long-term trends in an economy’s productive capacity and the factors that influence these trends Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-5 Economic growth • Economic growth is defined and measured in two ways: • Increase in real GDP over time (% p.a.) – E.g. comparing regional economic power or influence • Increase in real GDP per capita over time (% p.a.) – E.g. comparing standards of living Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-6 Importance of growth • Greater ability to face economic challenges – Small changes in growth can dramatically affect a country’s economy • Increased opportunities – incomes, education, social welfare, environmental • Lessens the burden of scarcity • Allows economy to realise economic goals more fully • Places a nation in a better position to resolve domestic and international socioeconomic problems Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-7 Causes of growth • Supply factors: physical ability of economy to grow – – – – Quantity and quality of natural resources Quantity and quality of human resources Supply or stock of capital goods Technology • Aggregate demand and resource allocation factors – Demand factor – Efficiency factor Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-8 Supply factors • Growth is attributed to the availability of more and better resources, including the stock of technological knowledge • Two ways to increase output: – Increase in inputs of resources – Increase in the quality or productivity of those inputs Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-9 Supply factors (cont.) • Labour force productivity – Labour productivity is the real output per worker per hour • Real output = worker hours × labour productivity Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-10 Demand factors • A growing level of demand is required in order for the full-employment of an expanding supply of resources • Demand and supply factors are interrelated Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-11 Allocative factor • In order to achieve productive potential, a nation must: – Have full-employment of resources and – Achieve full production from resources • Resources must be allocated to get the maximum amount of goods and services possible Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-12 Production possibilities • Recall the production possibilities curve: – points on the curve represent maximum amounts of production – points inside the curve represent a failure to achieve full employment and full production • Improvement in supply factors will shift the curve outwards • Economy will not necessarily operate on the curve unless demand is sufficient and allocative efficiency is realised Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-13 Economic growth and the production possibilities curve Capital goods C A B Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal D Consumer goods 15-14 Models of growth: The classical model • Emphasises the supply side of economic growth – Determinants of the productive capacity of the economy – Interaction of: Law of diminishing returns Population growth Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-15 Law of diminishing returns • As successive increments of one resource are added to a fixed resource, beyond some point, the resulting increases in total output will diminish in size • Disproportionate increases in resources – E.g. large increases in labour, smaller increases in arable land Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-16 Population growth • Optimum population – Population which, given the economy’s natural resources and technology, will yield the greatest income per person • Population growth may be a mixed blessing – Malthus’s thesis: Given diminishing returns, persistent and substantial population growth will force and maintain the standard of living close to the subsistence level (less developed countries) – If population growth coincides with increases in labour productivity then rising standards of living will occur (industrially advanced countries) Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-17 Aggregate expenditures and growth • Expanding levels of demand needed to achieve full-employment GDP • Investment can be: – Income creating – Capacity creating Capital–output ratio Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-18 Full-employment growth model Capital–output ratio • Relationship between net increases in the size and value of the capital stock (net investment) and sustainable increases in real GDP (capacity output) – For example, ratio of 4 means for every $4 of net investment in year 1 the economy is capable of producing $1 of additional output in year 2 and succeeding years Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-19 Australia’s growth record • In the past 50 years: – Real GDP increased by 6.3 times – Real GDP per capita increased by 2.8 times over the period • Substantial improvements in product quality and leisure time have been made • Growth has been less than in many other developed nations Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-20 Sources of Australian growth • Labour inputs – Immigration • Productivity increases – Technological progress – Stock of capital – Education and training • Allocative efficiency and growth • Other factors – Political stability – Social philosophy Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-21 Population and labour force growth 1870–71 to 2001–02 Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-22 Sources of population growth 1949–50 to 2001–02 Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-23 Growth policies • Purposeful action on the government’s part to enhance the prospects of growth • Policy depends on the school of thought – Keynesian policies – Supply-side policies – New-classical economics and minimum government intervention Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-24 Case against growth • Pollution and environmental deterioration • Problem resolution – Does growth mean that poverty is eliminated? • Human obsolescence and insecurity – Increased insecurity as machines replace humans • Growth and human values Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-25 Case for growth • Improved living standards • Environmental benefits – Control pollution not growth • Income inequality – Growth with redistribution can achieve greater equality in the distribution of income • Non-material considerations – Growth is more consistent with ‘the good life’ than is stagnation Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-26 Doomsday models • Club of Rome • Growth paths of population, output and pollution are on a catastrophic collision course with production limits imposed by natural resources and the pollution-absorbing capacity of the environment Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-27 Doomsday models (cont.) Criticisms: • The price system • Behavioural patterns • Role of technology • Applying existing knowledge • New resources and products • Increasing returns to technology Copyright 2007 McGraw-Hill Australia Pty Ltd PPTs t/a Macroeconomics by Jackson and McIver Slides prepared by Muni Perumal 15-28