McConnell 22nd edition

1. CHAPTER 28
Economic Growth

2. Economic Growth
Modern Economic Growth
Determinants of Growth
Accounting for Growth
Recent Fluctuations in the Average Rate of Productivity Growth
Is Growth Desirable and Sustainable?
28-2
Chapter Contents

3. Economic Growth
• Economic growth: Expansion of production capability of an
economy over time
• It is measured by an increase in potential GDP.
• Potential GDP is the value of real GDP when all the economy’s
factors of production —labor, capital, land, and
entrepreneurial ability—are fully employed.
• It is shown as an outer-ward expansion of the production
possibilities frontier of economy.
13-3

4. Growth Rate Formula
• Growth rate of variable X from Year 0 to Year 1 is
13-4
Example: Interest rate
Growth Rate of X
from Year 0 to Year 1
X in Year 1
X in Year 0
x 100
X in Year 0–
=

5. Measuring Economic Growth
• Economic growth rate: the annual percentage change of real GDP.
13-5
Growth Rate of real GDP
from Year 0 to Year 1
Real GDP in Year 1
Real GDP in Year 0
x 100
Real GDP in Year 0–
=
• From 2018 to 2019, real GDP increased from $18,638 billion to
$19,073 billion. The growth rate of real GDP from 2018 to 2019 is
2.3%.
$19,073 − $18,638
$18,638
× 100 = 2.3%

6. Standard of Living
• Standard of Living: The level of wealth, comfort, material goods and
necessities available to a certain socioeconomic class
• It is measured by GDP per capita (GDP per person).
13-6
Year 2018 2019
Real GDP (2012$) $18,638 billion $19,073 billion
Population (July 1) 327.1 million 329.1 million
Real GDP per Capita $56, 980 $57,955
GDP per capita
Real GDP
Population
=

7. Changes in Standard of Living
• From 2018 to 2019, real GDP per capita increased from $56,980 to
$57,955. The growth rate of real GDP per capita from 2018 to 2019
is 1.7%.
13-7
• Compared with GDP growth rate of 2.3% from 2018 to 2019,
real GDP per capita grew only 1.7% from 2018 to 2019.
$57,955 − $56,980
$56,980
× 100 = 1.7%

8. Population Growth
• From 2018 to 2019, U.S. population also increased from 327.1
million to 329.1 million.
• The population growth rate from 2018 to 2019 is 0.6%.
13-8
• Because the population grew by 0.6%, even though real GDP
grew by 2.3%, the real GDP per capita only grew by 1.7%.
329.1 − 327.1
327.1
× 100 = 0.6%

9. GDP, Population, and Standard of Living
• The growth rate of real GDP per capita can also be calculated by
using the formula:
13-9
Growth rate of
real GDP per capital
Growth rate of
real GDP
Growth rate of
population
–=
1.7% = 2.3% - 0.6%
• So, what will happen if population grows faster than real GDP?

10. (1)
Year
(2)
Real GDP,
Billions of
2012 $
(3)
Population,
Millions
(4)
Real GDP, per
Capita, 2012 $
(2) ÷ (3)
1950 $ 2,290 152 $15,066
1960 3,260 181 18,011
1970 4,951 205 24,151
1980 6,759 228 29,645
1990 9,366 250 37,464
2000 13,131 282 46,564
2010 15,599 309 50,482
2018* 18,638 327 56,980
LO28.1 Source: U.S. Bureau of Economic Analysis and U.S. Census Bureau.
28-10
*2018 data has been updated.
• Sustained growth of real
GDP per capita can
transform a poor society
into a wealthy one.
• Since 1950, the U.S. real
GDP per capita has grown
by roughly 2% a year.
Although this is a small
change each year, over
little less than 60 years
from 1950 to 2018, the real
GDP per capita grew more
than fourfold.
Economic Growth in the United States

11. Effects of Economic Growth
• In addition to improvement of standard of living, the U.S.
households benefited from sustained economic growth for
• Improved products and services (e.g. Phonograph to cassette-
player to DVD player to MP player to smartphone)
• Added leisure (less work time)
• Other impacts (Environment, Social justice, Democracy,
Health)
LO28.1
28-11

12. Economic Growth of World
• Began with the Industrial Revolution in late 1700s
LO28.2
28-12

13. Modern Economic Growth (2 of 2)
• Economic growth is not even among nations.
• Some countries started earlier
• Leader countries invent technology
• U.K. in 18-19th centuries, U.S. in 20th century
• Other countries catch up
• Follower countries adopt technology
• Japan in 1950-90, Korea in 1960-2000, China in 1980-current
• But, not all countries grew fast enough
LO28.2
28-13

14. The Great Divergence in Standards of Living
• Slow economic growth
in Latin America resulted
in once-prosper
countries like Argentina
in early 1900s far behind
the U.S. now.
• Slow economic growth
along with high
population growth in
African countries result
in never-ending poverty,
social- political
instability, and war.
LO28.2
28-14

15. Economic System Promoting Economic Growth
• Market economies experienced faster economic growth than
other economic systems
• Market economy’s institutional arrangements to encourage
economic growth:
• Strong property rights
• Patents and copyrights
• Efficient financial institutions
• Literacy and widespread education
• Free trade
• Competitive market system
13-15

16. Determinants of Economic Growth
• Supply Factors
• Increase in resources
• Technological advancement
• Demand factor: Households, businesses, and government
must purchase the economy’s expanding output. With
increasing demand in future, firms will invest to expand its
production capacity.
• Efficiency factor: Must achieve economic efficiency and full
employment.
13-16

17. Economic Growth and Production Possibilities Frontier
• An increase in potential GDP can
be shown as an expansion of
production possibilities frontier
(curve) outward.
– Shift of PPF from AB to CD allows
the economy to move from a to b.
• As an economy moves from
inside of PPF to the frontier of
PPF, its real GDP increase from
increasing efficiency.
– Movement from c to b
LO28.3
a
Economic
growth
b
DB
A
C
Capitalgoods
c
0
Consumer goods
Optimal output
combination
28-17

18. Supply Factors
• Increases in quantity and quality of natural resources
• Increases in quality and quantity of human resources
• Increases in population may increase real GDP with
more workforce, but decrease real GDP per capita under
diminishing marginal return.
• Increases in the supply (or stock) of capital goods
• Improvements in technology
LO28.3
28-18

19. Labor Productivity
• Labor productivity is the quantity of real GDP produced by one
hour of labor.
• The labor productivity formula shows how real GDP is related to
labor productivity and aggregate labor hours.
13-19
Aggregate hours
Labor productivity =
Real GDP
Real GDP = x
Aggregate
hours
Labor
productivity

20. Aggregate Hours
• Aggregate hours (Labor input or Hours of work) is total number of
hours that all labor in economy worked in a year.
• Average hours of Work: the number of working hours each week
• Labor force: the total number of people employed and unemployed.
• Labor force participation rate: The percentage of the working-age
population who are members of the labor force. 13-20
Aggregate Hours = Average Hours of Work x Labor Force
Size of Working-
age population
Labor Force = XLabor Force
Participation rate

21. The Supply Determinants of Real Output
• Economic growth (an
increase in real GDP) will
occur if Labor inputs
increase or Labor
productivity increases.
• Labor inputs will increase if
size of employed labor force
increases or average hours
of work increases.
LO28.3
28-21

22. Average Weekly Hours and Labor Force Participation
Rate in the U.S.
• Average weekly hours
has been decreasing.
13-22
• Labor force participation
rate increased until 2000s.

23. Aggregate hours in the U.S.
• Although an average weekly work hour steadily decreased in past, a
constant inflow of working age population (immigration) along with
increasing labor force participation rate have pushed the aggerate
labor hour to increase gradually over time in the U.S.
• However, limiting numbers of immigration and increasing aging
population will change this trend and soon the aggregate labor may
start decreasing.
13-23

24. Productivity Growth in the U.S.
• Labor productivity has been growing greatly in the U.S. in past 45 years.
LO28.5
28-24
• Average rate of productivity growth:
• 1.5% per year 1973–1995
• 2.8% per year 1995–2010
• 0.7% per year 2010–2018

25. Accounting for the Growth of U.S. Real GDP,
1953–2017, plus Projection from 2018 to 2029
Actual Projected
Item 1953 Q2 to
1973 Q4
1973 Q4 to
1995 Q2
1995 Q2 to
2007 Q3
2007 Q3 to
2017 Q3
2018 Q4 to
2029 Q4
Increase in real GDP 3.6 2.8 3.2 1.6 3.0
Increase in quantity of labor 1.1 1.3 0.5 0.4 0.4
Increase in labor productivity 2.5 1.5 2.7 1.2 2.6
Source: Author calculations derived from Bureau of Labor Statistics labor productivity index, Economic Report of the President, 2008, p. 45; https://www.gpo.gov/fdsys/pkg/ERP-2008/pdf/ERP-2008.pdf; Economic
Report of the President, 2019, Table B-1, https://www.whitehouse.gov/wp-content/uploads/2019/03/ERP-2019.pdf; Bureau of Economic Analysis; and Bureau of Labor Statistics.
LO28.4
Average annual percentage changes
28-25
• Since 1950s, labor productivity growth has been main
source of economic growth in the U.S.

26. Factors Affecting Productivity Growth
• Technological advance (40%)
• Quantity of capital (30%)
• Education and training (15%)
• Economies of scale and resource allocation (15%)
LO28.4
28-26

27. Changes in the Educational Attainment of the U.S.
Adult Population
• The large gains in
educational attainment over
the past 60 years have
produced more skilled labor
in the U.S.
• Technological advancement
in recent years require
further education and
training (not just high school
education, but college
education) to acquired
specialized skills in science,
technology and engineering.
Source: U.S. Census Bureau
LO28.4 28-27

28. Source: National Science Foundation.
Global Perspective 28.1
LO28.4
AVERAGE TEST SCORES OF EIGHTH-GRADE STUDENTS IN MATH AND SCIENCE,
TOP 10 TEST-TAKING COUNTRIES
28-28
• However, the U.S. is
lagging behind many
other developed and
developing countries in
math and science skills.
This may result in
slower productivity
growth in the U.S. and
ultimately slower
economic growth.

29. Global Perspective 28.2
• Although the U.S. lags
behind many other
countries in math and
science education, it is the
leader of technological
advancement and free
trade, has efficient financial
system, and its economic
system fosters R&D
investment, all of which help
improve productivity.
Source: Schwab Klaus. The Global Competitiveness Report 2017–2018. World Economic Forum, 2017.
LO28.5
GLOBAL COMPETITIVENESS INDEX
28-29

30. Why the Rise in Average Productivity Growth
Between 1995 and 2010?
• Microchip and information technology
• Start-up firms and increasing returns
• Sources of increasing returns
• More specialized inputs
• Spreading of development costs
• Simultaneous consumption
• Network effects
• Learning by doing
• Global competition
LO28.5
28-30

31. Productivity Slowdown since 2010
• Productivity growth down to 0.7% per year in 2010–2018
period. Possible reasons for productivity slowdown are
• High levels of debt: Individuals and firms with high levels of debt
cannot afford to invest in technology.
• Overcapacity: With slow growth in demand, firms may have excess
capacity of production and do not need to invest new capitals which
often come with newer technology.
• Free Internet apps: Benefits of free apps are not counted in GDP
measurement since their prices are zero.
• Slowdown in technological progress: Most technological
advancements are marginal, no new breakthrough technology.
LO28.5
28-31

32. Benefits of Productivity Growth
• Productivity growth is main source of economic growth and
improving standard of living of country.
• Productivity affects real income and real wages.
• Productivity growth allows workers to work less hours while
keeping real income.
• With productivity growth, firms can pay higher wages
without lowering profit.
• Higher labor productivity means more output per worker and
higher revenues and higher profits without cost increase.
LO28.5
28-32

33. Is Growth Desirable?
• The antigrowth view: Environmental and resource issues.
• Economic growth defense:
• Growth is the path to greater material abundance.
• Higher standards of living.
• Increases leisure time.
• Allows for the expansion and application of human knowledge.
• Human imagination can solve environmental and resource
issues.
LO28.6
28-33

34. Last Word: Ladies First
• 60% of American women work
• Women make up almost half the U.S. workforce
• Better educated and professionally trained
• Gender discrimination persists
• 78 cents for every dollar earned by men
28-34