Download ECONOMIC GROWTH Economic growth occurs when there is an

ECONOMIC GROWTH
Economic growth occurs when there is an increase in the number of goods
and services produced in an economy. There are several ways of measuring
economic growth:
Percentage annual increase of a country’s real GDP
Real GDP for capita
Level of unemployment of labour
Net social welfare
Measuring Economic Growth
The most commonly used method of measuring growth in an economy is by
calculating the GDP or Gross Domestic Product for the economy. GDP is a
measure of economic performance. By definition, it is “the value in dollars of
all final goods and services produced for an economy within a financial year”.
GDP is often used as a measure of standard of living.
Nominal and Real GDP
Nominal GDP is expressed in current prices, or the ordinary dollar value of
production at the time it is measured.
Real GDP is expressed in constant prices, those of a particular year, which is
referred to as the base year. Real GDP is adjusted for inflation. So a change
in real GDP means a change in the actual number of goods and services.
REAL GDP = NOMINAL GDP/PRICE INDEX FOR THAT YEAR X 100
Measuring Nominal GDP
There are three different ways to calculate GDP. In theory they should all
generate the same result. They are:
The expenditure method
The income approach
The production approach
National Accounts Terms
C – Consumption spending  Final Consumption Expenditure (Private)
I – Investment  Gross Fixed Capital Formation
G – Government Spending  Final Consumption Expenditure (Public)
Depreciation  Consumption of Gross Fixed Capital
Wages and Salaries  Compensation of Employees
Company Profits  Operating Surplus
Subsidies  Assistance to Industry
GDP by Expenditure Method
This is also called Gross Domestic Expenditure (GDE). The expenditure
approach measures GDP by summing market values of purchases of all final
goods and services produced in the economy, ensuring that intermediate
goods used in the production of other goods are excluded. This is also known
as the Aggregate Demand Method. AD=GDE
GDE = AD = C + I + G + ∆R + (X-M) + Statistical Discrepancy
∆R is the change in reserves. We are not concerned with spending on the
previous year’s output.
Statistical Discrepancy – Because information is gathered using different
methods, we add this to the expenditure method so it equals the income
approach. It is always added to the expenditure method, never the income
approach.
GDP by Income Approach
This is also called Gross Domestic Income (GDI). It measures the sum of
incomes accruing to the factors of production.
GDI = Wages and Salaries + Company Profits + Depreciation + Indirect Taxes
– Subsidies
DEPRECIATION – Some of the company profits aren’t paid out as income
but withheld to allow for depreciation.
INDIRECT TAXES – In NZ all goods have GST on them, but it isn’t counted
as an income to the government.
SUBSIDIES – It is only a payment from the government to producers in
order to keep prices low, so it is subtracted to obtain a market value.
The New Zealand Trade Cycle
The trade cycle consists of several phases.
Boom
Real GDP is rising strongly, and production and employment are rising. The
government benefits because there is an increase in revenue from direct and
indirect taxation. Sometimes there is pressure on existing resources,
stimulating increased investment. There are increased sales.
Peak
The economy peaks as soon as the rate of growth slows down. There is still
growth occurring but the rate is slowed.
Recession
During a recession, Real GDP falls. Firms have a decrease in their sales, so
employees are laid off and household incomes fall. Profits fall and
investment plans may be put on hold. This all leads to an increase in
unemployment. This is the part of the business cycle where most businesses
failures are likely to occur. Tax receipts are low because income tax is low.
Welfare payments increase because of the decreased employment.
Depression
There is a very low level of economic activity. There is not much change in
employment or production. The economy is stable.
Recovery
A recovery occurs when Real GDP begins to rise from the depression.
Limitations of GDP
Limitations of Real GDP as a Measure of Growth
Non-market activity – Some productive activity doesn’t pass through a
market therefore it does not have a price, and is not recorded in GDP.
For example housework and volunteer work. E.g. the work of a “home
executive” aka housewife. The above are all output but they are not
included. As a result of this, GDP may be underestimated.
Informal economy – Some productive activity is not recorded as the
government receives no information about the transactions. Examples
include any illegal activity such as drug sales, “under the table” payments
for work that is paid in cash (income tax is avoided), and a payment “in
kind” e.g. a butcher exchanges some meat with a builder who helps to fix
the shop.
Transfer payments – these are not included in GDP because they are nonproductive. As a result, a country may not appear to be as well off as it
actually is.
Sale of existing assets – these are excluded. If you sell a second hand
car privately, it is not included in GDP, whereas if a used car salesman had
sold the same car, it would be included.
Limitations of GDP for International Comparison
The scale of non-market activity differs from country to country. Less
developed countries have more non-market activity and rely more on
barter transactions. As a result of this, these countries may appear to be
worse off than they really are.
GDP gives no indication of the quality of life such as the stress on the
environment (pollution, congestion) and leisure time.
GDP also does not give an indication of the distribution of income. An
even distribution of income is assumed, but this is not the case. Some
countries have a few extremely rich people but many very poor people, so
the GDP of the country is high, although many of the country’s citizens
may be living in poverty.
There is no suggestion of the kind of goods that are produced. Certain
countries spend millions on things like weapons and space programmes
that do not directly benefit the consumer. Spending on cleaning things up,
for example pollution or rebuilding after a disaster will increase GDP but
not change the standard of living.
Economic Growth and Circular Flow
The circular flow is a model that helps to show how the economy works and
how GDP is calculated. Physical flows are goods and services, as well as the
resources being utilized. Money flows are income and expenditure.
For economic growth to increase, the real flows must increase. If only the
money flows increase, then more money is required to buy the same amount
of goods and services, and this is called inflation.
Limitations of the Circular Flow
The model does not indicate the size, health or speed of growth of an
economy; it merely shows how the different parts of the economy relate
to one another. For example, the types of goods being produced cannot be
distinguished in the model.
The market only includes market transactions, therefore not all economic
activity is accounted for in a circular flow model. Things such as the black
market, DIY activities and any voluntary or unpaid work are not included.
The Effects of Economic Growth
Positive Effects
Employment
Economic growth leads to an increase in employment and so unemployment is
reduced. (However this may not be evenly distributed across the economy.
Depending on the type of investment which has led to the growth, an
increase in employment may only affect skilled people, for example if the
new investment was in a hi-tec area). If more jobs are created then there is
a sense of job security. An increase in employment leads to increased
household incomes, which in turn lead to increased savings, increased
investment, another increase in growth, and even more jobs being created.
Government Revenue
When there is a growth in the economy, the government receives more
revenue from taxation. They also have to spend less on transfer payments.
This is because household incomes have increased as a result of increased
employment, so direct taxes (PAYE) increase. Indirect taxes increase also
because consumer spending rises due to the increase in disposable incomes.
An increase in government revenue means that more money may be spent on
things like roads, education and healthcare. (This leads to people having a
higher standard of living).
Accelerator Principal
Demand for goods and services increases as growth increases, so producers
find that they have to better utilize their existing capital resources.
However eventually they will need to invest in more capital goods. This
increases demand further, and there is more growth.
Other positive effects include better business confidence, improved living
standards, and more of a concern for the environment.
Negative Effects
There is a trade-off between economic growth and increased material
standard of living and quality of life and the environment.
Resource Depletion
Resources may be used up so fast that there is little of none left for future
generations. This may be the case with natural resources such as gas, fish
and native trees.
Environmental Impact
Waste products as a result of increased levels of production are absorbed
by the environment, and this has its limits. Global environmental problems
such as acid rain and the greenhouse effect are examples of this.
Inequality of Income
Growth results in an inequality of income because the impact of growth is
not spread evenly throughout the economy. Often certain regions miss out,
and sometimes certain individuals are disadvantaged. This may result in
people moving from their region to go where the work is, or retraining so
their skills match those needed by the industries which are growing. For
people who are unable to access the benefits of economic growth, such as
the unskilled or the less educated, the gap between the rich and poor
widens.
Risk of Inflation
There is an increase in the demand for goods and services, which leads to
shortages. As a result, prices are “bidded up”. If employment rises (which is
likely in a period of economic growth) there is a shortage of workers, so
wages also rise.
Causes of Growth
Growth is the increased capacity of production. The PPF shifts outwards.
This is caused by the discovery of more natural resources, an increase in
quantity or quality of human resources, investment or new technology.
Natural Resources
More natural resources enable an expansion of the production of goods and
services, however we must be careful not to over exploit these resources.
An example of this would be the discovery of new deposits of fossil fuels or
a piece of land that appears after an earthquake.
Human Resources
There can either be an increased quantity or quality of human resources.
Increased Quantity
This results from an increase in the population (natural increase = births –
deaths). There could also be an increase in net migration or the labour force
participation rate may increase. (The natural increase is less important
because we have to wait until the newborns are in the labour force, and
there are “more mouths to feed”.)
Increased Quality
This improves the productivity of the workers. (Productivity = Output /
Input). If there is an increase in productivity, more can be made for a lower
cost.
Increase in Human Resources is achieved by:
Increased quantity and quality of education. This could be done be raising
the school leaving age, having more places available in tertiary education).
Appropriate training places people in jobs.
Change people’s attitude towards work. In New Zealand there is a
relaxed, laid back attitude. (Attitudes and values differ because of age,
gender, religion, culture etc)
Improving industrial relations. (In the past, strong unions meant human
resources couldn’t be employed in a flexible way to make allowances for
changing markets i.e sunrise and sunset)
Re-organisation of the workplace. Self-managed teams lead to increased
productivity because workers feel better about themselves, and they may
have more input into decisions.
Total Quality Management (TQM). Management looks at all the aspects
of the business, and workers are held accountable for the quality of their
work.
Investment
This is also called capital formation. An example of investment would be
installing a new computer in an office. Investment increases the production
of goods and services. It can be in the public sector (e.g. building a new
motorway) or private sector (e.g. building a new factory). If production is
increased, there is an increase in growth and so an increase in GDP occurs.
There is an opportunity cost of investment. When we invest more in capital
goods we forego the production of consumer goods.
The amount of investment depends upon the level of savings. (Savings is any
disposable income not presently consumed). If these is a lack of savings,
there is the option of borrowing from overseas, encouraging foreign
investment, increasing incomes (by increasing the minimum wage) or
increasing interest rates.
Technology
Investment in new technology enables existing resources to be used more
efficiently and this increases productivity. Research and development (R&D)
is required, and the amount of money spent on this has a strong influence on
growth.
Obstacles to Growth
There are many obstacles to growth in the developing countries. Least
developed countries have low growth but a high population growth, so they
have a very low standard of living.
LOW STANDARD OF
LIVING
LOW
PRODUCTIVITY
POOR EDUCATION, LOW
LEVEL OF SAVINGS,
LACK IN R & D
LACK OF SKILLS, LOW
LEVEL OF INVESTMENT,
LACK OF TECHNOLOGY
Government Policies
Fiscal Policy
Fiscal Policy involves using Government spending and income to influence
economic activity. To encourage economic growth, the government needs to
increase economic activity by increasing spending or decreasing taxes. This
is called expansionary fiscal policy.
Specific Ways the Government Could Promote Growth in Businesses
Increase subsidies
Decrease company tax
Reduce interest rates
Promote NZ products
Trade fairs overseas
Reduce minimum wage
Protection from overseas – tariffs and quotas
Monetary Policy
The main instrument of monetary policy involves the Reserve bank using the
OCR (Official Cash Rate) to determine monetary conditions. The OCR is the
interest charged by the Reserve Bank on overnight borrowing. It sets the
benchmark for bank interest rates. If the OCD is raised, then banks will
raise their interest rates on borrowing and saving.
The Reserve Bank’s sole aim is to control inflation. It does not use the OCR
to promote economic growth or employment.
Resource Management Act 1991
The Resource Management Act (RMA) is intended to help achieve
sustainability in New Zealand. It brings together lows governing land, air and
water resources, concentrating on the environmental effects of human
activities. It sets out how we manage out environment, including air, water,
soil, biodiversity, the coastal environment, noise, subdivision and land use
planning in general.
Resource Consents
Resource consents are permission to use or develop a natural or physical
resource and/or carry out activity that affects the environment. They are
obtained from a council which, when carrying out this function, is known as a
consent authority.
Granting of resource consents is to assure everyone that the activity in
question can proceed provided any adverse effects on the environment are
avoided, remedied or mitigated.
District and Regional Plans
Under the RMA, every district council must prepare a district plan, which
helps them carry out their functions under the Act. Plans and policy
statements are reviewed every 10 years, and everyone can have a say about
plan changes or variations.
Why Appeal?
You may choose to appeal to the Environment Court if you are dissatisfied
with a decision made by a council on a resource consent application. The
Environment Court rehears completely the matters which were before the
council. Court hearings are costly and time-consuming.