Production and Growth

Dr. Katherine Sauer

Principles of Macroeconomics
ECO 2010
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Overview:

I.Economic Growth Around the World

II.Determinants of Productivity
III.Policy and Economic Growth

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 I. Economic Growth Around the World
Table 1 from chapter 7

The Variety of Growth Experiences

Country Period start RGDP end RGDP annual growth rate

Japan 1890-2006 $1,408 $33,150 2.76%
Brazil 1900-2006 729 8,880 2.39
China 1900-2006 670 7,740 2.34
Mexico 1900-2006 1,085 11,410 2.24
Germany 1870-2006 2,045 31,830 2.04
Canada 1870-2006 2,224 34,610 2.04
Argentina 1900-2006 2,147 15,390 1.88
US 1870-2006 3,752 44,260 1.83
India 1900-2006 632 3,800 1.71
UK 1870-2006 4,502 35,580 1.53
Indonesia 1900-2006 834 3,950 1.48
Bangladesh 1900-2006 583 2,340 1.32
Pakistan 1900-2006 690 2,500 1.22 3
The data reveal
- living standards vary a great deal between nations
- growth rates also vary

Material World

By Peter Menzel
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II. Determinants of Productivity

A. Productivity is the amount of goods and services a worker

produces for each hour of work.

Productivity is important because a country’s standard of living

depends on its ability to produce goods and services.

There are 4 main determinants of a nation’s productivity:

physical capital per worker
human capital per worker
natural resources per worker
technological knowledge

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1. Physical Capital (K) is the stock of equipment and structures
that are used to produce goods and services.

2. Human Capital (H) is the knowledge and skills that workers

acquire through education, training, and experience.

3. Natural Resources (N) are the inputs that are provided by

nature.

4. Technological Knowledge (A) is society’s understanding of the

best ways to produce.

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B. Productivity Statistics

In the US, the Bureau of Labor Statistics collects and releases

productivity data quarterly.
- used in economic analysis
- policy planning (public and private)

There are two types of productivity statistics:

1. Labor productivity measures output per hour of labor.

2. Multifactor productivity measures output per unit of

combined inputs (labor & capital, sometimes
intermediate inputs like fuel).

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3 categories of labor productivity statistics (most often cited in
the news)
- business sector
- nonfarm business sector
- manufacturing sector

Output per hour and unit labor costs are available for over 400
selected industries in:
- manufacturing
- mining
- utilities
- wholesale and retail
- services

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Productivity change in the
nonfarm business sector,
1947-2008

Productivity change in the

manufacturing sector,
1987-2008

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International comparisons of statistical data can be misleading.
- statistical methods differ

The International Labor Comparisons (ILC) program at the BLS

provides international comparisons of productivity and other
related statistics.

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III. Policy and Economic Growth

How can government policy affect productivity and economic

growth?

A. Saving and Investment

Because capital is a produced factor of production, a society can

change the amount of capital that it has.
- in order to increase capital (K), firms must invest (I)

There is an opportunity cost of doing so:

- use resources to produce capital
- can’t use those resources to produce goods/services for
consumption now
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So where does investment come from?

savings = all production – all consumption

(closed economy)

S = Y–C–G
Y=C+I+G
Y–C–G=I
S = I

The level of investment comes from the level of savings.

S I K K/L productivity standard of living

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B. The Catch-Up Effect

Diminishing returns happens when the benefit from an extra unit of

an input declines as the quantity of the input rises.

As the amount of capital rises, the extra output produced from an

additional unit of capital falls.
- with more capital, output increases, but at a decreasing rate

If workers already have a large amount of capital to work with,

giving them an extra unit will not increase their productivity by
much.

If workers have only a small amount of capital, then giving them an

extra unit will increase their productivity more.

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 When there is low
Output per capital per worker, an
worker increase in capital
increases output per
worker by a lot.

When there is high

capital per worker, an
increase in capital
increases output per
work by much less.

Capital per
worker

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In the long run, a higher savings rate leads to a higher level of
productivity and income but not to higher growth rates in
productivity and income.
- If the US saves more, it becomes more productive and has
more income. (levels)
- Productivity and income growth rates aren’t higher.

An important implication of diminishing returns is the catch-up

effect.

The Catch-Up Effect says that nations that start off poor tend to
grow more rapidly than those that start off rich.
GDP

US

China

time
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C. Investment from Abroad

Saving by domestic residents is not the only way for a country to

invest in new capital.

Foreign Direct Investment occurs when a tangible capital

investment is owned and operated by a foreign entity.
ex: Ford plant in Mexico

Foreign Portfolio Investment occurs when a capital investment is

financed with foreign money but controlled by domestics.
ex: American buys stock in a Japanese company

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D. Education

Education is investment in human capital.

Investing in human capital has an opportunity cost

- when students are in class they aren’t producing
(this opportunity cost is especially high in developing
nations)

Because there are positive externalities associated with education,

the effect of education on growth can be large.

Some nations face a “brain drain” problem.

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E. Health and Nutrition

Spending that leads to a healthier population can also be a kind of

investing in human capital.

Other things equal, healthy workers are more productive.

Making the right investments in the health of the population is one

way for a nation to increase productivity.
(developing nations especially)

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F. Property Rights and Political Stability

Property rights and political stability are at the heart of what makes
markets work.

Countries with questionable enforcement of property rights or an

unstable political climate will also have difficulty attracting
investment.

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G. Free Trade

Trade allows a nation to specialize in what it does best (and at

the lowest opportunity cost) and allows people to consume
beyond its production possibilities.

The government decides how free the trade will be.

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H. Research and Development

The primary reason why living standards have improved over

time has been due to large increases in technological knowledge.

I. Population Growth

When the population grows

- natural resources are stretched
- the capital stock is “diluted”
- there are more people who can solve problems
Final Thoughts:

Promoting the factors that play a part in productivity and growth

is a long run process.

Economists differ in their views on the role of the government in

promoting economic growth.

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