Zara Mahmood September 19 13 EC102 Lecture 5 Growth Theory New Growth Theory Rich countries have more capital per worker and better technology New Growth Theory A model of long run economic growth that emphasizes that technological change is influenced by economic incentives and so is determined by the working o the market system All about incentives Accumulation of knowledge capital o Physical capital subject to decreasing returns o Knowledge capital subject to increasing returns Google kickass search database Government policy can help increase the accumulation of knowledge capital in three ways Protecting intellectual property with patents and copyrights o Patent years from the date the product is invented the exclusive right to produce a product for a period of 20 Subsidizing research and development o Subsidizing education o Need a literate work force trained to innovate What Determines the Rate of Long Run Growth Growth in high income countries has been so much faster than growth in low income countries Increases in real GDP per capita depend on increases in labor productivity Labor productivity The quantity of goods and services that can be produced by one worker or by one hour of work Labor productivity output per hour of work o If quantity goods services increase then quantity goods services produced must also increase o What causes labor productivity to increase Quantity of capital per hour worked Level of technology Increases in Capital per Hour Worked Capital Manufactured goods that are used to produce other goods and services Increases in capital per hour worked o Workers have more physical capital available than low income o Capital manufactured goods that are used to produce other workers goods service Capital Stock Total amount of physical capital available in a country Capital stock per hour worked increases worker productivity increases Human Capital Accumulated knowledge and skills workers acquires form education and training or from their life experiences Zara Mahmood September 19 13 EC102 Technological Change in capital per hour worked Economic growth depends more on technological change than on increases Technology Processes a firm uses to turn inputs into outputs of goods and services Increase in the quantity of output firms can produce given a certain input Most technical change is due to new machinery equipment software Convergence Convergence Poor countries will grow faster than richer countries and eventually catch up in terms of GDP per capita Why would we expect convergence o Technology transfer Can be adopted and adapted by other countries o Poorer countries can attract more capital Can turn financial capital into more physical capital Low K stock High MPk High returns to investment Higher domestic saving and higher investment by foreigners Absolute Convergence inevitable will happen for every country in the world eventually Doesn t seem to be the case Contingent Convergence It will happen IF certain conditions are present Example of the Catch Up Effect Over 1960 1990 the US and S Korea devoted a similar share of GDP to investment so you might expect they would have similar growth performance But growth was 6 in Korea and only 2 in the US What Determines How Fast Economies Grow Economic Growth Model A model that explains growth rates in real GDP per capita over the long run Average person buys more goods only if average worker produces more Economic growth model focuses on the causes of long run increases in labor Model focuses on technological changes and quantity of capital available to productivity workers o Changes in real GDP per capita Three Main Sources of Technological Change Better machinery and equipment o New machinery rises labor productivity Zara Mahmood September 19 13 EC102 Increases in human capital o Capital refers to physical capital o Human Capital acquire from education and training or from their life experiences The accumulated knowledge and skills that workers Better means of organizing and managing production o Do a better job of organizing production increase efficiency The Per Worker Production Function Per worker production function The relationship between real GDP per house worked and capital per hour worked holding the level of technology constant Increases in the quantity of capital per hour worked result in movements up the per worker production function o Increases quantity of output each worker produces Law of diminishing returns as we add more of one input to a fixed quantity of another input output increases by smaller additional amounts Which Is More Important for Economic Growth Capital or Technological Change Technological change helps economies avoid diminishing returns to capital Replacement of existing capital with more productive capital technological change Technological Change The Key to Sustaining Economic Growth Technological change shifts up the per worker production function Allows an economy to produce more real GDP per hour worked with the same quantity of capital per hour worked Continuing increases in real GDP per hour worked can be sustained o Only if there is technological change In the long run a country will experience an increasing standard of living only if it experiences continuing technological change Zara Mahmood September 19 13 EC102