1. F ERNANDO Q UIJANO, Y VONN Q UIJANO, K YLE T HIEL & A PARNA S UBRAMANIAN PREPARED BY: © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez Why Do Economies Grow?

2. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 2 of 20 ECONOMIC GROWTH RATES 13.1 capital deepening Increases in the stock of capital per worker. technological progress More efficient ways of organizing economic affairs that allow an economy to increase output without increasing inputs. human capital The knowledge and skills acquired by a worker through education and experience and used to produce goods and services.

3. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 3 of 20 ECONOMIC GROWTH RATES 13.1  FIGURE 13.1 What Is Economic Growth?

4. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 4 of 20 ECONOMIC GROWTH RATES 13.1 real GDP per capita Gross domestic product per person adjusted for changes in constant prices. It is the usual measure of living standards across time and between countries. growth rate The percentage rate of change of a variable from one period to another. Measuring Economic Growth

5. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 5 of 20 ECONOMIC GROWTH RATES 13.1 rule of 70 A rule of thumb that says output will double in 70/x years, where x is the percentage rate of growth. Measuring Economic Growth

6. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 6 of 20 ECONOMIC GROWTH RATES 13.1 Comparing the Growth Rates of Various Countries

7. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 7 of 20 INCREASED GROWTH LEADS TO LESS CHILD LABOR IN DEVELOPING COUNTRIES APPLYING THE CONCEPTS #1: How does economic growth affect social indicators such as child labor? Most child labor occurs in agriculture, with parents as employers, rather than in manufacturing plants. As the incomes of the parents increase, they tend to rely less on their children and more on substitutes for child labor, such as fertilizer and new machinery. Studies in Vietnam revealed a significant drop in child labor during the 1990s, with the bulk of that decrease accounted for by higher family incomes. Economists have studied the factors that lead to changes in child labor in developing countries: Their findings suggest that we should think of child labor as a phenomenon that accompanies extreme poverty and that, over time, as economies grow, child labor will tend to disappear.

8. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 8 of 20 ECONOMIC GROWTH RATES 13.1 Are Poor Countries Catching Up? convergence The process by which poorer countries close the gap with richer countries in terms of real GDP per capita.  FIGURE 13.2 Growth Rates Versus Per Capita Income, 1870–1979

9. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 9 of 20 CAPITAL DEEPENING 13.2 Saving and Investment saving Income that is not consumed.

10. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 10 of 20 GROWTH NEED NOT CAUSE INCREASED INEQUALITY APPLYING THE CONCEPTS #2: Does economic growth necessarily cause more inequality? Economists believed that as a country develops, inequality within a country followed an inverted “U” pattern—it initially increased as a country developed and then narrowed over time. Recent research casts doubt that this phenomenon is solely the result of growth: Inequality increased from 40 percent at the beginning of the 1920s to 45 percent through the end of the Great Depression. During World War II the share fell to 32 percent by 1944 and remained at that level until the early 1970s, at which time inequality began to again increase. Wage and price controls during World War II reduced differentials in wages and salaries and thereby reduced inequality. After the 1970s, salaries at the top of the income distribution increased sharply. Inequality does not naturally accompany economic development. Other factors also play a role: Social norms Perceived fairness of compensation Nature of the tax system

11. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 11 of 20 CAPITAL DEEPENING 13.2 How Do Population Growth, Government, and Trade Affect Capital Deepening? Limits to Capital Deepening

12. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 12 of 20 THE KEY ROLE OF TECHNOLOGICAL PROGRESS 13.3 How Do We Measure Technological Progress? growth accounting A method to determine the contribution to economic growth from increased capital, labor, and technological progress. Using Growth Accounting

13. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 13 of 20 WORLDWIDE FACTORS SLOWED U.S. PRODUCTIVITY GROWTH APPLYING THE CONCEPTS #4: Why did labor productivity in the United States fall sharply during the 1970s and 1980s? labor productivity Output produced per hour of work.  FIGURE 13.3 Real Hourly Earnings and Total Compensation for U.S. Employees, 1964–2005

14. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 14 of 20 WORLDWIDE FACTORS SLOWED U.S. PRODUCTIVITY GROWTH APPLYING THE CONCEPTS #4: Why did labor productivity in the United States fall sharply during the 1970s and 1980s? The decrease in the growth of labor productivity was the primary factor behind this pattern of real wages, because wages can rise with a growing labor force only if output per worker continues to increase. What can explain this decrease in the growth rate? Declines in the education and skills of the workforce. Lower levels of investment, and thus a lower level of capital. Less spending on infrastructure, such as highways and bridges. Slowdown in technological progress. Higher worldwide energy prices. Many other factors. The productivity slowdown remains a bit of a mystery despite the use of growth accounting methods to try to explain it.

15. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 15 of 20 THE INTERNET AND INFORMATION TECHNOLOGY RAISED PRODUCTIVITY THROUGHOUT THE ECONOMY APPLYING THE CONCEPTS #5: How did the emergence of the Internet affect economic growth in the United States? Higher investment in computer technology began in the mid-1980s, but until recently there was little sign of increased productivity growth. Had the investment in information technology finally paid off? Robert J. Gordon of Northwestern University was originally skeptical that we were now operating in a “new economy” with permanently higher productivity growth. He found that there had been increases in technological progress. In subsequent studies he found that productivity growth had spread to other sectors of the economy, suggesting that the increase was likely to be permanent. Why did productivity growth continue to be rapid, even during the recessionary period at the beginning of this century? Possible explanation: It took a substantial period of time before businesses began to harness the use of modern computer technology and the Internet.

16. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 16 of 20 WHAT CAUSES TECHNOLOGICAL PROGRESS? 13.4 Research and Development Funding  FIGURE 13.4 Research and Development as a Percent of GDP, 1999

17. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 17 of 20 WHAT CAUSES TECHNOLOGICAL PROGRESS? 13.4 Monopolies That Spur Innovation creative destruction The view that a firm will try to come up with new products and more efficient ways to produce products to earn monopoly profits. The Scale of the Market Induced Innovations Education, Human Capital, and the Accumulation of Knowledge

18. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 18 of 20 A VIRTUOUS CIRCLE: GDP AND HEALTH APPLYING THE CONCEPTS #6: How are economic growth and health related to one another? Men and women have grown taller and heavier in the last 300 years. An average American male adult today stands at approximately 5 feet 10 inches tall, which is nearly 4.5 inches taller than the typical Englishman in the late 18th century. The average weight of English males in their thirties was about 134 pounds in 1790— 20 percent below today’s average. A typical Frenchman in his thirties at that time weighed only 110 pounds! Lower weights and heights were due to inadequate food supplies and chronic malnutrition. Led to smaller physical stature. Higher incidence of chronic disease. Limited labor productivity. Result: In France, 20 percent of the labor force lacked enough physical energy to put in more than three hours of light work a day. Economic growth increased food supplies, enabling workers to become more productive and increase GDP even more.

19. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 19 of 20 WHAT CAUSES TECHNOLOGICAL PROGRESS? 13.4 New Growth Theory new growth theory Modern theories of growth that try to explain the origins of technological progress.

20. chapter © 2007 Pearson/Prentice Hall, Survey of Economics: Principles, Applications & Tools, 3e, O’Sullivan Sheffrin Perez 20 of 20 A KEY GOVERNMENTAL ROLE: PROVIDING THE CORRECT INCENTIVES AND PROPERTY RIGHTS 13.5 What is the connection between property rights and economic growth? Without clear property rights, there are no proper incentives to invest in the future— the essence of economic growth. What else can go wrong? Governments in developing countries often: Adopt policies that effectively tax exports Pursue policies that lead to rampant inflation Enforce laws that inhibit the growth of the banking and financial sectors Results: Fewer exports Uncertain financial environment Reduced saving and investment With the right incentives, individuals and firms in developing countries will take actions that promote economic growth.