Economics 104 Introduction to Macroeconomics Prof Robert Pollin STUDY GUIDE FOR FINAL EXAM Economic Growth 4 30 14 http en wikipedia org wiki Economic growth 1 Be familiar with the simple growth accounting formula Economic growth working age population growth growth in total working time for working age population productivity growth 2 Be familiar with the five factors that Colander lists as key determinants of economic growth A Growth Compatible Institutions B Investment and Capital Accumulation C Available Resources D Technological Development E Entrepreneurship And how they are combined in different historical settings 3 What is the difference between the determinants of growth and the accounting identity above that identifies the factors contributing growth Colander chpt 9 171 184 Determinants of Growth capital accumulation available resources growth compatible institutions May be factors of growth Accounting Identity equality that must be true regardless of values of its variables Deviation from numerical equality signifies formula error ex Balance sheet Assets Debt Equity Pollin Economics 104 Spring term 2014 Study Guide for Final Exam Page 2 2 What is the law of 72 Why is it relevant for understanding the prospects for significant improvements in average living standards in a country over the course of a generation i e around 20 years Method of estimating investments doubling time Rule number 72 is divided by the interest percent per period to obtain the approximate number of terms normally a year required to double Economic growth raises living standards knowing the timeline will allow for proper prediction of future economic change 3 Consider two hypothetical countries one with low taxes and strong democratic institutions and the other with relatively high taxes and very weak if any democratic institutions Which country would we expect to be more likely to grow faster 4 Consider two hypothetical countries one in which the richest 5 percent of the population receives 40 percent of the country s overall income and the other in which the richest 5 percent receives 20 percent of overall income Based on the evidence available which country is likely to have experienced more rapid economic growth over the past 20 years Be able to refer to evidence in providing your answer 4 The late Professor Vernon Ruttan in the title of his last book before his death asks the question Is war necessary for economic growth His answer was Yes What specifically did he mean by this Advancing technologies increasing production of goods Ruttan What has enabled major technological growth is war all a result from government industrial policy The only times we have had this stuff is when we use the excuse of war Not just wars but the prospect of war In the united states only way we get industrial policy is through the defense department South korea china japan all have industrial policy Unemployment and Inflation 1 Evidence on inflation unemployment trade off is it accurate to say that there is always a trade off between unemployment and inflation Compare evidence on a decade by decade basis What do the patterns show Colander Lowest sustainable rate of unemployment that policymakers believe is achievable giving existing demographics and the economy s institutional structure p 132 In this quote Colander is referring to the policy makers belief of the natural rate of their economy The Pollin Economics 104 Spring term 2014 Study Guide for Final Exam Page 3 natural rate is believed to result from the institutions of a country i e labor protecting institutions like unions and unemployment insurance etc Falling unemployment cause excess inflation 1 Low falling unemployment increased worker bargaining power 2 Increased worker bargaining power higher wages rising labor costs for business 3 Businesses pass on higher labor costs through price increases 4 5 Therefore low falling unemployment higher inflation Rising overall prices higher inflation 2 Consider the decade of the 1970s What could explain the pattern that we observe then relative to those for the 1950s and 1960s 1970 s In the 1950s and 1960s policy makers believed in the traditional Phillips curve i e that there was a trade off between unemployment and inflation and many governments were prepared to endure a little inflation in order to hold down unemployment In the 1970s due to episodes of high inflation many policy makers began to change their understandings of the relationship between inflation and unemployment The non accelerating inflation rate of unemployment NAIRU or natural rate began to take hold This inferred that there was only one rate of unemployment that would not subject the economy to accelerating inflation or deflation Thus the threshold for full employment began to rise as policy makers economic beliefs changed from that of the traditional Phillips curve to the NAIRU 3 Consider the 1990s Then Federal Reserve Chair Alan Greenspan hypothesized that the U S workers had become traumatized If Greenspan s observation is accurate why might that influence the inflation unemployment trade off both in the 1990s and more generally Positive relationship 1970s 1980s 1990s positive relation to unemployment and inflation Traumatized workers refers to Allan Greenspan s quote Phillips curve is not just a technical thing that postulates when unemployment goes down inflation goes up explanation is to why it may happen is that when unemployment goes down workers get more bargaining power Bargain wages inflation goes up Basic idea of Phillips curve depends on the fact that when unemployment gets low workers will have the power to bargain up their wages Greenspan was trying to understand in the late 90s when unemployment got very low below 4 why did inflation not go up According to Pollin Economics 104 Spring term 2014 Study Guide for Final Exam Page 4 Greenspan he thought it was because workers in the US were Traumatized and felt that they couldn t bargain up their wages Work can threaten to move overseas effects inflation Bad because average worker hasn t really got a wage increase in 40 years Global Economic Patterns and Global Trade 1 Be clear on where the U S stands in the global economy How big is the U S economy as a share of the global economy How important is the U S in terms of population In terms of addressing climate change The U S is the largest economy in the world It makes up around 27 percent of world GDP The U S has a population of 312