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Economic Growth Notes Essay

2818 words - 12 pages

Economic Growth
* Aggregate production function relates the aggregate output (Y) to:
(a) Physical capital
(b) Labor
(c) Index of aggregate productive efficiency

Y = F(AL, K)

* Y is a flow variable because it measures GDP in a given period
* K and L are stock variables, can measure at a given point in time
* Y measures the services produced by K and L in period or instant t (e.g. hours of computation and hour of labors affects output, not just number of computers)
* Y = 100K + 40L
* One computer works 100 hours per week; each labor works 40 hours a week. If there are 2 worker then L=2; computer = 4 then K=4
* Assume economy is working at full ...view middle of the document...

Inada conditions: MP are extremely large at low levels of the factor and extremely small at very high levels of the factor

* y = f(k) is the production function in intensive form that depends only one input k called capital per effective worker
* Assume there is no adjustment cost in hiring K and L
* r + is real rental price of capital
* w is real wage
* Assume that the supplies of factor services are inelastic. There is full employment and all desired savings are channeled towards investment
* In a perfectly competitive firm, the profit max behavior is to hire until MPK = r+; MPL = w
* Perfect competition guarantees that total payment to factor inputs must equal to total aggregate output
* 3 ways to measure GDP: expenditure (CIGXM), income (rent, dividend, wage & profit) and final output approach
* I = sY; s = S/Y; s is the constant fraction of income that is saved
k= sf(k) + (n+g+)k
* sf(k) = investment per effective worker
* (n+g+)k = break even investment = the investment per effective worker that must take place per period just to keep up with capital depreciation and the fact that the number of effective worker is growing over time and each effective worker needs to be equipped with the same amount of capital as the existing ones
* When sf(k) is greater than (n+g+)k, it means that more capital can be supplied to each effective worker, hence k>0
* When sf(k) is less than (n+g+)k, it means that each worker will have less capital to work with, hence k<0
* Steady state can be found when k=0
At steady state
(a) Variables per effective worker is constant
(b) variables per worker grow at rate g, the growth rate of productive efficiency or the ‘index of technology’
(c) aggregate variables (those multiplied by AL) will grow at rate of n+g
(d) since w = MPL, the steady rate is given by w = A[f(k) – kf’(k)], which means w is proportionate to A, it grows at rate g
* Steady state = balanced growth path
* A higher level of A will increase productivity and income per capita, but this would be a one-off effect. This will be followed by a faster population growth, and due to diminishing returns, income per capita would revert to its pre-shock value. To sum up, the growth rate of productive efficiency was zero (g=0); income per capita could not grow continuously over long periods of time.
* Y/L = Af(k) output per worker can only grow from a higher level of A, a higher level of capital per effective worker or both
* A higher k can be obtained from a high capital-output ratio and this is a result from a high saving rate and a low population growth
* When an economy switched from a low s and high n to a high s and low n, steady state will increase, this is known as capital deepening. During the transition, much of the new capital that was invested in each period is used to equip existing workers with even more capital.
* When the opposite occurs, it is a...

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