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Introduction to Macroeconomics :
What is Economic Growth and
Potential Output
Parkin, Ch 23
Hubbard, Ch 21 & 22
1
Learning Outcome
Microeconomics vs Macroeconomics
10.0%
The Business Cycle
Economic growth is the
8.0%
sustained expansion of average
6.0%
production possibilities trend 4.5%
4.0%
measured as the increase 2.0%
Sept 11
in real GDP over a given 0.0% downturn
period. -2.0%
-4.0%
-6.0%
-8.0%
Asian
-10.0%
crisis
The economic growth rate is the annual percentage change in real GDP
The economic growth rate tells us how rapidly the total economy is
expanding (or contracting)
We are also interested in economic growth over the long run
© 2010 Pearson Addison-Wesley
Economic growth (average % per annum)
France Germany Japan UK USA EU (12) OECD Brazil Malaysia Singapore China
Growth
1960–9 5.6 4.4 10.4 2.9 4.3 5.8 5.5 5.9 6.5 9.5 3.0
1970–9 4.1 3.1 5.4 2.4 3.3 3.8 3.7 8.5 7.7 9.2 7.4
1980–9 2.3 2.0 3.7 2.4 3.1 2.3 2.9 3.0 5.9 7.5 9.8
1990–9 1.9 2.3 1.5 2.1 3.1 2.2 2.5 1.6 7.2 7.6 10.0
2000–9 1.4 0.9 0.7 1.7 1.8 1.3 1.8 3.3 4.8 5.1 10.3
Unemployment
1960–9 1.5 0.9 1.3 2.2 4.1 2.5 2.5 n.a. n.a. n.a. n.a.
1970–9 3.7Why
2.3 do economic
1.7 4.5 6.1 growth
4.0 rates
4.3 n.a.matter?
n.a. 3.6 n.a.
1980–9 8.9 7.0 2.5 10.2 7.3 9.3 7.2 3.9 7.2 3.7 2.6
1990–9 11.1
An8.1
economy
3.1
that grows
8.1 5.8 10.5
too 6.9
7.0
slowly
3.3 2.8 2.8
2000–9 8.8 8.6 4.7 5.4 5.5 8.4 6.7 9.9 3.4 2.9 4.0
Inflation
fails to raise living standards
1960–9 3.8 3.2 5.5 3.8 2.4 3.7 3.1 46.1 0.8 1.2 n.a.
1970–9 8.9 5.0
The 9.1
Rich12.6Get7.1Richer……
9.5 9.2 30.6 5.5 5.9 n.a.
1980–9 7.4 2.9 2.5 7.4 5.6 6.5 8.9 354.5 3.7 2.8 7.5
1990–9 1.9 2.4 1.2 3.7 3.0 2.9 4.4 843.3 3.7 1.9 7.8
2000–9 1.7 1.6
© 2010 Pearson Addison-Wesley
–0.3 1.8 2.6 1.9 2.7 6.9 2.1 1.5 1.9
What is the use of Economic Growth rates?
• Assess economic performance - our present & future wellbeing
depends on the performance of our industries and government as
well as our access to foreign goods and services
Malaysia: % 6.0%
2.0%
GDP
0.0% Long Run
-2.0% trend 4.5%
-4.0%
-6.0%
-8.0%
-10.0%
© 2010 Pearson Addison-Wesley
Growth and the production possibility curve
Growth in
actual output
Good X
b
a
O
Good Y
© 2010 Pearson Addison-Wesley
Growth and the production possibility curve
Growth in
potential output
Good X
I II
O
Good Y
© 2010 Pearson Addison-Wesley
Growth and the production possibility curve
Growth in
z actual and
potential output
Good X
I II
O
Good Y
© 2010 Pearson Addison-Wesley
Long-term economic growth
Causes of long-term growth
• increases in the quantity of factors of production:
labour, land and capital
– the problem of decreasing returns can set in
13
The Aggregate Labor Market
The real wage rate is the money
wage rate divided by the price level.
15
What Makes Potential GDP Grow?
We begin by dividing real GDP growth into the forces that
increase:
17
Diminishing Returns
The increase in aggregate
hours increases potential
GDP…but…
Because of decreasing returns,
…...decreases real GDP per
hour of labor.
18
Growth in Labor Productivity
Suppose:
We find some way of making labor become more
productive e.g. more skillful, firms would be willing to pay
more for a given hour so the demand for labor increases.
Grows? 18
Technological Advances
Technological change—the discovery and the application of
new technologies and new goods—has contributed
immensely to increasing labor productivity.
© 2010 Pearson Addison-Wesley
Effect of technological progress on
growth rates & potential output
Lower rate
of technological
progress