Lecture 2. THE WORLD ECONOMY SINCE 1990 Economics 1490 THE WORLD ECONOMY: GROWTH OR STAGNATION? with Professor Dale W. Jorgenson Lecture 2. THE WORLD ECONOMY SINCE 1990 September 5, 2017 Harvard University Department of Economics Fall 2017

THE WORLD ECONOMY: GROWTH OR STAGNATION? A. Comparing Economies B. U.S. Crisis and Recovery C. European Slowdown D. Asian Economic Miracles E. Sustainability of Economic Growth F. World Economic Outlook

A. COMPARING ECONOMIES 1. Course Description 2. The World Economy since 1990 3. Purchasing Power Parities 4. Sources of Growth 5. Globalization and Competitiveness

PURCHASING POWER PARITIES A purchasing power parity between two countries, A and B, is the ratio of the number of units of country A’s currency needed to purchase in country A the same quantity of a specific good or service as one unit of country B’s currency will purchase in country B. PPPs can be expressed in the currency of either of the countries. In practice, they are usually computed among large numbers of countries and expressed in terms of a single currency, with the U.S. dollar (US$) most commonly used as the base or “numeraire” currency.

INTERNATIONAL COMPARISON PROGRAM Originated in 1968; Available at Approximately 5-Year Intervals Provides Purchasing Power Parities among Countries The 2011 Version Includes 199 Countries and Combines Two Studies: Eurostat/OECD: 47 Countries World Bank: 152 Countries Today We Consider Applications to Productivity Measurement; Later We Consider Applications to Poverty Measurement and Sustainability

AIM OF THE INTERNATIONAL COMPARISON PROGRAM FROM BIG MAC TO THE ICP The aim of the ICP is to produce PPP’s that take into account the relative prices among many countries for a broad range of goods and services, including not only consumer products but also capital and government expenditures, which together make up the GDP.

IN TERMS OF PURCHASING POWER PARITIES LARGEST ECONOMIES IN TERMS OF PURCHASING POWER PARITIES Twelve Largest Economies by Share of World GDP *ICP 2011

THE SOURCES OF ECONOMIC GROWTH Comparisons among Regions and Countries Sources of Growth in Capital Input Information Technology and Non-Information Technology Labor Input and Labor Quality Total Factor Productivity

MODEL OF PRODUCTION: Production Possibility Frontier. where: I - Investment C – Consumption K – Capital L – Labor A - Total Factor Productivity (TFP)

CAPITAL INPUT AND THE COST OF CAPITAL PERPETUAL INVENTORY METHOD where: K - capital stock I – investment  - depreciation rate RENTAL PRICE OF CAPITAL INPUT   where:   c - price of capital input P - price of investment r - rate of return  - asset-specific inflation rate

SOURCES OF WORLD ECONOMIC GROWTH Average annual growth rates, weighted by the income share.

FOUR TRENDS IN THE FRAGMENTATION OF TRADE Trend 1: International Fragmentation of Production is Expanding. Trend 2: More Value-Added from High-Skilled Labor and Capital. Trend 3: Enhanced Specialization in High-Skilled Labor in High-Income Countries. Trend 4: Enhanced Specialization in Capital in Emerging Economies.

SHARES IN WORLD GLOBAL VALUE CHAIN INCOMES GVC Incomes in Advanced and Emerging Countries, All Manufactures, 1995–2011

ANNUAL CHANGE IN SHARES OF GVC INCOMES GVC Incomes in Advanced and Emerging Countries, All Manufactures, 1995–2011

FRAGMENTATION OF TRADE The Domestic Share of GVC Income Has Declined and the Global Share Has Increased. Emerging Economies Have Increased Their Share of GVC Income, Relative to Advanced Economies. The Share of Capital in GVC Income Has Increased Relative to the Share of Labor. The Collapse of Trade in 2009, the Peak of the Crisis, Was Quickly Reversed in 2010.

TRANSFORMATION OF THE WORLD ECONOMY Despite the Economic Turbulence of the Past Two Decades, the World Economy Is Entering a Period of Sustainable Growth at a Rate of almost 3.2 Percent Annually, Only Slightly below the Growth Rate of 3.3 Percent for the Past Quarter Century. Relative Importance of the Major Emerging Economies, China and India, Will Continue to Increase, Even with Much Slower Growth in China and a Modest Slowdown in India. Growth Potential Will Increase Modestly in Both Japan and the U.S. Upside Potential Growth of the World Economy Is Considerable, But Would Require Ambitious Domestic Reforms in the Major Emerging Economies that Appear Unlikely. Downside Risks Are for Continued Stagnation of Productivity Growth around the World. Conclusion: The Base Case Projection of World Economy Is for Moderate but Sustained Growth and a Continuing Shift from the Advanced Economies of the G7 to the Major Emerging Economies. This Has Established the New World Order of the 21st Century.

E. SUSTAINABILITY OF ECONOMIC GROWTH 21. Demographic Projections  22. Investing in Human Capital 23. Fiscal Sustainability 24. Environmental Sustainability 25. Ending Extreme Poverty 

DEMOGRAPHIC PROJECTIONS

INVESTING IN HUMAN CAPITAL

FISCAL SUSTAINABILITY

ENVIRONMENTAL SUSTAINABILITY

ENDING EXTREME POVERTY

PROJECTING THE GROWTH OF THE WORLD ECONOMY Future Demography: Population Projections for the World Economy Are Available from the United Nations. Labor Input Growth Includes the Growth of the Labor Force and Changes in Labor Quality Due to Age, Gender, and Educational Attainment. Future Productivity: Productivity Projections for the World Economy Are Available from The Conference Board in New York. These Are Based on Future Trends in the Development of Information Technology and Non-Information Technology. We Derive Output and Capital Input Projections from Future Trends in Demography and Productivity. Future Productivity Growth Is the Main Source of the Substantial Uncertainty in Projections of the Growth of the World Economy.

LABOR PRODUCTIVITY GROWTH SOURCES OF AVERAGE LABOR PRODUCTIVITY GROWTH where:   y = Y/H - Output per Hour Worked (ALP).   k = K/H - Capital Input per Hour Worked. CAPITAL DEEPENING: growth of capital input per hour worked, weighted by the share of capital. LABOR QUALITY GROWTH: growth of labor input per hour worked, weighted by the share of labor. TOTAL FACTOR PRODUCTIVITY.

RANGE OF WORLD OUTPUT PROJECTIONS

OUTLOOK FOR THE WORLD ECONOMY The Growth of the World Economy Has Accelerated since 1990 and This Acceleration Will Continue for 2015-2025. Average Labor Productivity Growth for the World Economy in 2015-2025 Will Slow Relative to 2005-2015. Growth of Hours Worked for the World Economy in 2015- 2025 Will Accelerate Relative to 2005-2015. Future World Economic Growth Will Be Subject to Substantial Uncertainty.