Worth: Mankiw Economics 5e User JoENA: Job EFFo1423:6264_cho7: Pg 178: 25956#/eps at 100smml ed,Feb13,20029:484M
User JOEWA:Job EFF01423:6264_ch07:Pg 178:25956#/eps at 100% *25956* Wed, Feb 13, 2002 9:48 AM
Worth: Mankiw Economics 5e ort Growth Theory The Economy in the Very Long Run User JoEkA: Job EFFo1423: 6264_-ch07: Pg 179: 26796#/eps at 1004 Wea,Feb13,20029:48
User JOEWA:Job EFF01423:6264_ch07:Pg 179:26796#/eps at 100% *26796* Wed, Feb 13, 2002 9:48 AM part III Growth Theory: The Economy in the Very Long Run
Worth: Mankiw Economics 5e CHAPTER SEVEN Economic growth The question of growth is nothing new but a new disguise for an age-old issue, one which has alwvays intrigued and preoccupied economics: the present versus the future James Tobin If you have ever spoken with your grandparents about what their lives were like when they were young, most likely you learned an important lesson about economics: material standards of living have improved substantially over time for most families in most countries. This advance comes from rising in- comes, which have allowed people to consume greater quantities of goods and service To measure economic growth, economists use data on gross domestic prod uct, which measures the total income of everyone in the economy. The real gdP of the United States today is more than three times its 1950 level, and re gDP per person is more than twice its 1950 level. In any given year, we can also observe large differences in the standard of living among countries. Table 7-1 shows income per person in 1999 of the world's 12 most populous countries The United States tops the list with an income of $31, 910 per person. Nigeria has an income per person of only $770--less than 3 percent of the figure for the United States Our goal in this part of the book is to understand what causes these differ- ences in income over time and across countries. In Chapter 3 we identified the factors of production--capital and labor-and the production technology as the sources of the economy s output and, thus, of its total income Differences inin- come, then, must come from differences in capital, labor, and technology. Our primary task is to develop a theory of economic growth called the olow growth model. Our analysis in Chapter 3 enabled us to describe how economy produces and uses its output at one point in time. The analysis was static--a snapshot of the economy. To explain why our national income grows, and why some economies grow faster than others, we must broaden our analysis so that it describes changes in the economy over time. By developing such a model, we make our analysis dynamic--more like a movie than a phe tograph. The Solow growth model shows how saving, population growth, and User JoENA: Job EFFo1423:6264_ ch07: Pg 180: 26797#/eps at 100s ed,Feb13,20029:484M
User JOEWA:Job EFF01423:6264_ch07:Pg 180:26797#/eps at 100% *26797* Wed, Feb 13, 2002 9:48 AM 7 If you have ever spoken with your grandparents about what their lives were like when they were young, most likely you learned an important lesson about economics: material standards of living have improved substantially over time for most families in most countries.This advance comes from rising incomes, which have allowed people to consume greater quantities of goods and services. To measure economic growth, economists use data on gross domestic product, which measures the total income of everyone in the economy. The real GDP of the United States today is more than three times its 1950 level, and real GDP per person is more than twice its 1950 level. In any given year, we can also observe large differences in the standard of living among countries. Table 7-1 shows income per person in 1999 of the world’s 12 most populous countries. The United States tops the list with an income of $31,910 per person. Nigeria has an income per person of only $770—less than 3 percent of the figure for the United States. Our goal in this part of the book is to understand what causes these differences in income over time and across countries. In Chapter 3 we identified the factors of production—capital and labor—and the production technology as the sources of the economy’s output and, thus, of its total income. Differences in income, then, must come from differences in capital, labor, and technology. Our primary task is to develop a theory of economic growth called the Solow growth model. Our analysis in Chapter 3 enabled us to describe how the economy produces and uses its output at one point in time. The analysis was static—a snapshot of the economy. To explain why our national income grows, and why some economies grow faster than others, we must broaden our analysis so that it describes changes in the economy over time. By developing such a model, we make our analysis dynamic—more like a movie than a photograph.The Solow growth model shows how saving, population growth, and CHAPTER The question of growth is nothing new but a new disguise for an age-old issue, one which has always intrigued and preoccupied economics: the present versus the future. — James Tobin 180 | SEVEN Economic Growth I
Worth: Mankiw Economics 5e CHAPTER 7 Economic Growth I 181 table 7-1 International Differences in the Standard of Living: 1999 Income per Person Income per Person United States s31,910 China 3,550 Indonesia 23.510 India 2.230 8,070 Pakistan Bangladesh Brazil 70 Source: World bank echnological progress affect the level of an economy's output and its growth over time. In this chapter we analyze the roles of saving and population rowth. In the next chapter we introduce technological progress 7-1 The Accumulation of Capital The Solow growth model is designed to show how growth in the capital stock, growth in the labor force, and advances in technology interact in an economy, d how they affect a nations total output of goods and services. We build this nodel in steps. Our first step is to examine how the supply and demand for goods determine the accumulation of capital. In this first step, we assume that the labor force and technology are fixed. We then relax these assumptions by intro- ducing changes in the labor force later in this chapter and by introducing The Supply and Demand for Goods The supply and demand for goods played a central role in our static model of the closed economy in Chapter 3. The same is true for the Solow model By consid- ering the supply and demand for goods, we can see what determines how much output is produced at any given time and how this output is allocated among al- ternative uses The Solow growth model is named after economist Robert Solow and was developed in the 1950s and 1960s. In 1987 Solow won the Nobel Prize in economics for his work growth. The model was introduced in Robert M. Solow,"A Contribution to the Theory of Eco- nomic Growth, "Quarterly Journal of Economics(February 1956): 65-94 User JoENA: Job EFFo1423:6264_cho7: Pg 181: 26798#/eps at 100s ed,Feb13,20029:484M
User JOEWA:Job EFF01423:6264_ch07:Pg 181:26798#/eps at 100% *26798* Wed, Feb 13, 2002 9:48 AM technological progress affect the level of an economy’s output and its growth over time. In this chapter we analyze the roles of saving and population growth. In the next chapter we introduce technological progress.1 7-1 The Accumulation of Capital The Solow growth model is designed to show how growth in the capital stock, growth in the labor force, and advances in technology interact in an economy, and how they affect a nation’s total output of goods and services.We build this model in steps. Our first step is to examine how the supply and demand for goods determine the accumulation of capital. In this first step, we assume that the labor force and technology are fixed.We then relax these assumptions by introducing changes in the labor force later in this chapter and by introducing changes in technology in the next. The Supply and Demand for Goods The supply and demand for goods played a central role in our static model of the closed economy in Chapter 3.The same is true for the Solow model. By considering the supply and demand for goods, we can see what determines how much output is produced at any given time and how this output is allocated among alternative uses. CHAPTER 7 Economic Growth I | 181 1 The Solow growth model is named after economist Robert Solow and was developed in the 1950s and 1960s. In 1987 Solow won the Nobel Prize in economics for his work in economic growth.The model was introduced in Robert M. Solow, “A Contribution to the Theory of Economic Growth,’’ Quarterly Journal of Economics (February 1956): 65–94. Income per Person Income per Person Country (in U.S. dollars) Country (in U.S. dollars) United States $31,910 China 3,550 Japan 25,170 Indonesia 2,660 Germany 23,510 India 2,230 Mexico 8,070 Pakistan 1,860 Russia 6,990 Bangladesh 1,530 Brazil 6,840 Nigeria 770 Source: World Bank. International Differences in the Standard of Living: 1999 table 7-1
Worth: Mankiw Economics 5e 182 PART III Growth Theory: The Economy in the Very Long Run The Supply of Goods and the Production Function The supply of goods in the Solow model is based on the now-familiar production function, which states that output depends on the capital stock and the labor force Y=F(K, L) Solow growth model assumes that the production function has constant re to scale. This assumption is often considered realistic, and as we will see shortly, it helps simplify the analysis. Recall that a production function has con- stant returns to scale if for any positive number z. That is, if we multiply both capital and labor by z,we also multiply the amount of output by z Production functions with constant returns to scale allow us to analyze all quantities in the economy relative to the size of the labor force. To see that this is true, set z=1/L in the preceding equation to obtain Y/L= F(K/L, 1) equation shows that the amount of output per worker Y/L is a function he amount of capital per worker K/L.(The number "1"is, of course, constant and thus can be ignored. )The assumption of constant returns to scale implies that the size of the economy-as measured by the number of workers-does not affect the relationship between output per worker and capi tal per worker Because the size of the economy does not matter, it will prove convenient to denote all quantities in per-worker terms. We designate these with lowercase let ters, so y=YL is output per worker, and k= k/L is capital per worker. We can then write the production function as where we define f(l )= F(k, 1). Figure 7-1 illustrates this production function The slope of this production function shows how much extra output a worker produces when given an extra unit of capital. This amount is the marginal prod uct of capital MPK. Mathematically, we write MPK=f(k+ 1)-f(k) Note that in Figure 7-1, as the amount of capital increases, the production func tion becomes fatter, indicating that the production function exhibits diminish- ing marginal product of capital. When k is low, the average worker has only a little capital to work with, so an extra unit of capital is very useful and produces lot of additional output When k is high, the average worker has a lot of capital, so an extra unit increases production only slightly. The Demand for Goods and the Consumption Function The demand for pods in the Solow model comes from consumption and investment. In other User JoENA: Job EFFo1423:6264_ch07: Pg 182: 26799#/eps at 100sl ed,Feb13,20029:484M
User JOEWA:Job EFF01423:6264_ch07:Pg 182:26799#/eps at 100% *26799* Wed, Feb 13, 2002 9:48 AM The Supply of Goods and the Production Function The supply of goods in the Solow model is based on the now-familiar production function, which states that output depends on the capital stock and the labor force: Y = F(K, L). The Solow growth model assumes that the production function has constant returns to scale. This assumption is often considered realistic, and as we will see shortly, it helps simplify the analysis. Recall that a production function has constant returns to scale if zY = F(zK, zL) for any positive number z.That is, if we multiply both capital and labor by z, we also multiply the amount of output by z. Production functions with constant returns to scale allow us to analyze all quantities in the economy relative to the size of the labor force.To see that this is true, set z = 1/L in the preceding equation to obtain Y/L = F(K/L, 1). This equation shows that the amount of output per worker Y/L is a function of the amount of capital per worker K/L. (The number “1” is, of course, constant and thus can be ignored.) The assumption of constant returns to scale implies that the size of the economy—as measured by the number of workers—does not affect the relationship between output per worker and capital per worker. Because the size of the economy does not matter, it will prove convenient to denote all quantities in per-worker terms.We designate these with lowercase letters, so y = Y/L is output per worker, and k = K/L is capital per worker.We can then write the production function as y = f(k), where we define f(k) = F(k,1). Figure 7-1 illustrates this production function. The slope of this production function shows how much extra output a worker produces when given an extra unit of capital.This amount is the marginal product of capital MPK. Mathematically, we write MPK = f(k + 1) − f(k). Note that in Figure 7-1, as the amount of capital increases, the production function becomes flatter, indicating that the production function exhibits diminishing marginal product of capital. When k is low, the average worker has only a little capital to work with, so an extra unit of capital is very useful and produces a lot of additional output.When k is high, the average worker has a lot of capital, so an extra unit increases production only slightly. The Demand for Goods and the Consumption Function The demand for goods in the Solow model comes from consumption and investment. In other 182 | PART III Growth Theory: The Economy in the Very Long Run