Economic Growth Overview

Economic Growth

• One of society's main goals is to improve living standards and well-being, which requires increasing available resources. Economic growth, expanding resources, is a key element in this process.

Defining Economic Growth

• Potential growth is an increase in an economy's productive capacity. This is visually represented by a shift in the Production Possibility Frontier (PPF), enabling the production of more goods/services.
• Actual growth, measured by the rate of change in real GDP, may reflect a move towards this potential.
• The AD/AS model can illustrate growth as a shift in the LRAS (long-run aggregate supply) curve outwards. This shift increases full employment output.
• Actual GDP is observable, while potential GDP is the level of output if all resources are used efficiently.

The Output Gap

• The output gap is the difference between actual real GDP and its maximum possible level (potential GDP).
• A negative output gap below full employment means unused resources (unemployment, idle capital).
• A positive output gap shows actual GDP exceeding capacity, often a short-term response to increased demand. Measuring the output gap is challenging as identifying the exact point of full capacity is difficult.

Sources of Economic Growth

• Factors of production (capital, labor, enterprise, land) are crucial.
• An increase in production factors or their productivity elevates capacity output.
• Productivity is a measure of a factor's efficiency (labor productivity = output/worker, etc.).
• Total Factor Productivity (TFP) is the average productivity of all factors.
• Increased productivity boosts aggregate supply and potential output.

Capital

• Capital is essential for production increases.
• Investment (in capital goods) is crucial for accumulating and expanding capital.
• Gross fixed capital formation (net additions to capital, and depreciation) is a key measure of investment.
• Technological advancements (and new forms of capital) increase capital's contribution to potential output.

Labour

• Skilled labor is needed to operate new technologies and capital.
• Labor force size is limited by factors like international migration.
• Labor productivity gains through training and education are key.

Growth and International Trade

• International trade can boost economic growth in smaller countries by enabling specialization and economies of scale (producing more efficiently).
• Expanding export markets can lead to export-led growth, as shown in several East Asian economies.
• Access to larger markets and foreign exchange are essential for many developing countries.

Growth and Aggregate Demand

• An increase in aggregate demand leads to higher real output, especially when initial output is below full potential.
• This is considered actual growth, not a change in capacity.
• Investment-driven increases in AD can lead to increases in productive capacity.

Explore the essential concepts of economic growth, including potential and actual growth, as well as the output gap. This quiz covers the mechanisms behind increasing an economy's productive capacity and how it impacts living standards. Test your understanding of the AD/AS model and the Production Possibility Frontier.