economic growth the expansion of production possibilities You express growth rate as the annual percentage change of a variable the change in the level expressed as a percentage of the initial level Real GDP growth rate Real GDP in current year Real GDP in previous year real GDP in previous year x 100 Standard of living depends on real GDP per person per capita GDP which is real GDP divided by the population The contribution of real GDP growth to the change in the standard of living depends on the growth rate of real GDP per person Real GDP can increase for two distinct reasons the economy might be returning to full employment in an expansion phase of the business cycle or potential GDP might be increasing variable rule of 70 states that the number of years it takes for the level of any variable to double is approximately 70 divided by the annual percentage growth rate of the During the 100 years from 1912 to 2012 real GDP per person in the US grew by 2 percent a year on average To determine potential GDP there are two components an aggregate production function and an aggregate labor market aggregate production function is the relationship that tells us how real GDP changes as the quantity of labor changes when all other influences remain the same An increase in the quantity of labor brings a movement along the production function and an increase in real GDP the demand for labor is the relationship between the quantity of labor demanded and the real wage rate the quantity of labor demanded is the number of labor hours hired by all the firms in the economy during a given period This quantity depends on the price of labor which is the real wage rate Real wage rate the money wage divided by the price level The real wage rate is the quantity of goods and services that an hour of labor earns Influences the quantity of labor demanded because what matters to firms is not the number of dollars they pay but how much output they must sell to earn those dollars The quantity of labor demanded increases as the real wage rate decreases the demand for labor curve slopes downward the supply of labor the relationship between the quantity of labor supplied and the real wage rate The quantity of labor supplied is the number of labor hours that all the households in the economy plan to work during a given period the real wage rate influences the quantity of supplied because what matters to households is not the number of dollars they earn but what they can buy with those dollars the quantity of labor supplied increases as the real wage rate increases the supply of labor curve slopes upward At labor market equilibrium the real wage rate remains constant and economy is at full employment Two things make potential GDP grow Growth of the Supply Labor and growth of labor productivity When the supply of labor grows the supply of labor curve shifts rightward the quantity of labor at a given real wage are increases The quantity of labor is the number of workers employed multiplied by average hours per worker and the number employed equals the employment to population ratio multiplied by the working age population Quantity of labor changes as a result of Average hours per worker the employment to population rate and the working age population Population growth brings growth in the supply of labor but it does not change the demand for labor or the PPF With an increase in the supply of labor and no change in the demand for labor the real wage rate falls and the equilibrium quantity of labor increases Potential GDP increases labor productivity the quantity of real GDP produced by an hour of labor It is calculated by dividing real GDP by aggregate labor hours If labor productivity increases PPF expands With an increase in the demand for labor and no change in the supply of labor the real wage rate rises and the quantity of labor supplied increases learn how to use past discoveries technological advance The fundamental precondition for labor productivity growth is the incentive system created by firms markets property rights and money With the preconditions for labor productivity growth in place three things influence its pace Physical capital growth as the amount of capital per worker increases labor productivity also increases human capital growth fundamental source of labor productivity Human capital grows when a new discovery is made and it grows as more and more people Classical growth theory the view that the growth of real GDP per person is temporary and that when it rises above the subsistence level a population explosion eventually brings it back to the subsistence level Neoclassical growth theory the proposition that real GDP per person grows because technological change induces saving and investment that make capital per hour of labor grow Growth ends if technological change stops because of diminishing marginal returns to both labor and capital The pace of technical change influences the economic growth rate but economic growth does not influence the pace of technological change New growth theory holds that real GDP per person grows because of the choices people make in the pursuit of profit and that growth will persist indefinitely Profit is the spur to technological change Growth rate theory supported by empirical evidence tells us that to achieve faster economic growth we must increase the growth rate of physical capital the pace of technological advance or the growth rate of human capital and openness to international trade The main suggestions for achieving these objectives are stimulate saving stimulate research and development improve the quality of education provide international aid to developing nations encourage international trade cid 127 cid 127 cid 127 cid 127 cid 127 cid 127 cid 127 cid 127
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