Lecture 4 _C25_week34_2024-Wealth of Nations Economic Growth.pptx

MODERN PRINCIPLES OF ECONOMICS Chapter 25 The Wealth of Nations and Economic Growth © 2017 Worth Publishers. All Rights Reserved. ...

MODERN PRINCIPLES OF ECONOMICS Chapter 25 The Wealth of Nations and Economic Growth © 2017 Worth Publishers. All Rights Reserved.  Assignment Released on Moodle in Week 1 Due 11 September 2024 Based on Solow model, and economic growth Zero marks if copying © 2017 Worth Publishers. All Rights Reserved.  Adam Smith Author of “Wealth of Nations” 1723-1790 Scottish Economist and philosopher © 2017 Worth Publishers. All Rights Reserved.  Outline Key Facts about the Wealth of Nations and Economic Growth Understanding the Wealth of Nations Incentives and Institutions Resource curse? Takeaways © 2017 Worth Publishers. All Rights Reserved.  Introduction (1 of 2) Economic growth brings wealth, which increases societal well-being. Wealthier nations have: – Higher infant survival rates, life expectancy, and nutrition. – More educational opportunities, leisure, and entertainment. – Fewer conflicts such as civil wars and riots. – More material goods. © 2017 Worth Publishers. All Rights Reserved.  Introduction (2 of 2) Penn World Tables and World Bank Group, World Development Indicators, 2005 Wealthier countries have higher infant survival rates. © 2017 Worth Publishers. All Rights Reserved.  Key Facts Key facts about the wealth of nations and economic growth: 1. GDP per capita varies enormously among nations. 2. Everyone used to be poor. 3. There are growth miracles and growth disasters. © 2017 Worth Publishers. All Rights Reserved.  1. GDP per Capita Varies Most of the world’s population is poor relative to the United States. About a billion people have incomes of less than $3 per day. About 70% of the world’s population lives in countries with a GDP per capita equal to or less than $12,472, about the level in China. 73% of the world’s population live in countries with a GDP per capita less than the average. Average GDP per capita was $14,517 in 2014. © 2017 Worth Publishers. All Rights Reserved.  1. GDP Growth Varies Average GDP per capita The Distribution of World Income © 2017 Worth Publishers. All Rights Reserved.  2. Everyone Used to Be Poor (1 of 2) The distribution of world income tells us that poverty is normal, while wealth is unusual. GDP per capita in year 1 is estimated around $700– $1,000 per year in 2015 dollars. This was approximately the same in all major regions of the world. For most of recorded human history, there was no long- run growth in real per capita GDP. Today, GDP per capita is 50 times larger in the richest countries than in the poorest. © 2017 Worth Publishers. All Rights Reserved.  2. Everyone Used to Be Poor (2 of 2) Economic Growth in Major World Regions © 2017 Worth Publishers. All Rights Reserved.  A Primer on Growth Rates Economic growth is measured as the growth rate of real GDP per capita. Even slow growth, sustained over time, produces big differences in wealth. Growth builds on top of growth through “compounding” or “exponential growth.” © 2017 Worth Publishers. All Rights Reserved.  Measuring Growth (1 of 3) Economic growth is measured as: y t  y t 1 gt  100 y t 1 where: gt = growth rate of real GDP per capita yt = real GDP per capita in time period t © 2017 Worth Publishers. All Rights Reserved.  Measuring Growth (2 of 3) Example: Year Real GDP per capita 2008 $15,000 billion 2009 $15,500 billion y t  y t 1 gt  100 y t 1 15,500  15,000 g 2009  100 3.3% 15,000 © 2017 Worth Publishers. All Rights Reserved.  Self-Check (1 of 5) Real GDP per capita was $22,000 in Year 1 and $23,000 in Year 2. The growth rate was: a. 4.35% b. 4.55% c. 4.75% © 2017 Worth Publishers. All Rights Reserved.  Self-Check (1 of 5) (Answer) Real GDP per capita was $22,000 in Year 1 and $23,000 in Year 2. The growth rate was: a. 4.35% b. 4.55% c. 4.75% Answer: b. The growth rate was [(23,000 – 22,000) / 22,000] × 100 = 4.55%. © 2017 Worth Publishers. All Rights Reserved.  Measuring Growth (3 of 3) The rule of 70 approximates the length of time necessary for a growing variable to double: 70 Doubling time  growth rate in % Example: If real GDP per capita is growing at an annual growth rate of 3.5%, it will double in: 70 20 years. 3.5 © 2017 Worth Publishers. All Rights Reserved.  Self-Check (2 of 5) According to the rule of 70, a sum of money invested at 12.5% would double in: a. 5.6 years. b. 17.86 years. c. 56 years. © 2017 Worth Publishers. All Rights Reserved.  Self-Check (2 of 5) (Answer) According to the rule of 70, a sum of money invested at 12.5% would double in: a. 5.6 years. b. 17.86 years. c. 56 years. Answer: a. The money would double in 70 / 12.5 = 5.6 years. © 2017 Worth Publishers. All Rights Reserved.  Economic Growth (1 of 3) There are growth miracles and growth disasters. © 2017 Worth Publishers. All Rights Reserved.  3. Growth Miracles The U.S. is one of the world’s wealthiest countries because it grew slowly but consistently for over 200 years. From 1950 to 1970 Japan grew 8.5% per year. – Now it’s one of the richest countries in the world. In 1950, South Korea had GDP per capita about the same as that of Nigeria. – From 1970 to 1990 it grew at a rate of 7.2% per year. – Today, South Korea is on a par with many European economies. © 2017 Worth Publishers. All Rights Reserved.  3. Growth Disasters Nigeria has barely grown since 1950. – It was poorer in 2005 than in 1974 when high oil prices briefly bumped up its per capita GDP. In 1900, Argentina was one of the richest countries in the world, with GDP per capita almost as large as the United States. – By 1950, Argentina’s per capita GDP had fallen to half that of the United States. – By 2000, Argentina’s per capita GDP was less than one- third of that of the United States. © 2017 Worth Publishers. All Rights Reserved. Would you call PNG a growth miracle or disaster? 7000 Real GDP per capita ,Kina (2013 priceS) 6500 6000 5500 5000 4500 4000 3500 983 985 987 989 991 993 995 997 999 001 003 005 007 009 011 013 015 017 019 1 1 1 1 1 1 1 1 1 2 2 2 2 2 2 2 2 2 2 © 2017 Worth Publishers. All Rights Reserved.  Economic Growth (2 of 3) The Bad News: Most of the world is poor. More than 1 billion people live on incomes of less than $3 per day. These people have greatly reduced prospects for health, happiness, and peace. © 2017 Worth Publishers. All Rights Reserved.  Economic Growth (3 of 3) The Good News: Despite being quite recent, economic growth has transformed the world. It has raised the standard of living of most people in developed nations many times above the historical norm. Understanding the wealth of nations is critical if we are to improve the human condition. © 2017 Worth Publishers. All Rights Reserved.  Self-Check (3 of 5) Most of the world is: a. Relatively well-off. b. Wealthier than the United States. c. Poor. © 2017 Worth Publishers. All Rights Reserved.  Self-Check (3 of 5) (Answer) Most of the world is: a. Relatively well-off. b. Wealthier than the United States. c. Poor. Answer: c. Most of the world is poor. © 2017 Worth Publishers. All Rights Reserved.  What do you think makes a country rich or poor? © 2017 Worth Publishers. All Rights Reserved. C H A P Why growth matters T E R 7 Anything that effects the long-run rate of economic E growth – even by a tiny amount – will have huge c effects on living standards in the long run. o n annual percentage increase in o growth rate of standard of living after… m income per capita …25 years …50 years …100 years c G 2.0% 64.0% 169.2% 624.5% r o 2.5% 85.4% 243.7% 1,081.4% w © 2017 Worth Publishers. All Rights Reserved. h  Correlation and causation Correlation is a statistical measurement which tells us how strongly the pair of variables are linearly related and change together. Correlation is not causation Causation takes a step further than correlation. It says any change in the value of one variable will cause a change in the value of another variable © 2017 Worth Publishers. All Rights Reserved. © 2017 Worth Publishers. All Rights Reserved.  Income and poverty in the world selected countries, 2000 100 Madagascar 90 India living on $2 per day or less 80 Nepal 70 Bangladesh % of population 60 Kenya Botswana 50 China 40 Peru Mexico 30 Thailand 20 Brazil Russian Chile 10 S. Korea Federation 0 $0 $5,000 $10,000 $15,000 $20,000 Income per capita in dollars © 2017 Worth Publishers. All Rights Reserved.  The Wealth of Nations The causes of growth in GDP per capita include factors of production, incentives, and institutions. © 2017 Worth Publishers. All Rights Reserved.  Definition (1 of 5) Physical Capital: The stock of tools that include machines, structures, and equipment. Human Capital: The productive knowledge and skills that workers acquire through education, training, and experience. © 2017 Worth Publishers. All Rights Reserved.  Factors of Production (1 of 2) Countries with a high GDP per capita have a lot of factors of production: physical capital, human capital, and technological knowledge. More and better physical capital makes workers more productive. Human capital enables workers to take advantage of more sophisticated tools. Greater quantities of physical and human capital per worker makes workers more productive. We increase human capital with education. © 2017 Worth Publishers. All Rights Reserved.  Definition (2 of 5) Technological knowledge: knowledge about how the world works, that is used to produce goods and services. © 2017 Worth Publishers. All Rights Reserved.  Factors of Production (2 of 2) Improved technological knowledge increases productivity and is potentially boundless. Better technological knowledge has allowed U.S. farms to increase their output two and a half times since 1950, and while using less land. We increase technological knowledge with research and development. The organization of factors of production depends on incentives and institutions. © 2017 Worth Publishers. All Rights Reserved.  Self-Check (4 of 5) Knowledge that is used to produce goods and services is called: a. Technological knowledge. b. Human capital. c. Factors of production. © 2017 Worth Publishers. All Rights Reserved.  Self-Check (4 of 5) (Answer) Knowledge that is used to produce goods and services is called: a. Technological knowledge. b. Human capital. c. Factors of production. Answer: a. Technological knowledge. © 2017 Worth Publishers. All Rights Reserved.  Definition (3 of 5) Institutions: The “rules of the game” that structure economic incentives. © 2017 Worth Publishers. All Rights Reserved.  Rich countries Have: – Lots of factors of production – Why? – Incentives! – Why? – Institutions – Why? – ??? © 2017 Worth Publishers. All Rights Reserved.  Incentives and Institutions (1 of 2) Institutions include laws and regulations but also customs, practices, organizations, and social mores. Institutions that promote growth create incentives that align self-interest with the social interest. Wealthy countries have institutions that make it in people’s self-interest to invest in physical capital, human capital, and technological knowledge. © 2017 Worth Publishers. All Rights Reserved.  Incentives and Institutions (2 of 2) Institutions of economic growth include: – Property rights – Honest government – Political stability – A dependable legal system – Competitive and open markets © 2017 Worth Publishers. All Rights Reserved.  Property Rights (1 of 2) Property rights are important institutions for encouraging investment in physical and human capital. Under communal property, effort is divorced from payment so there is incentive to free ride. When China switched from communal to individual farms, food production increased by 50% and 170 million people were lifted above the lowest poverty line. © 2017 Worth Publishers. All Rights Reserved.  Definition (4 of 5) Free Rider: Someone who consumes a resource without working or contributing to the resource’s upkeep. © 2017 Worth Publishers. All Rights Reserved.  Property Rights (2 of 2) Savers won’t save and investors won’t invest if they don’t expect that they will receive a return for their savings and investment. Property rights are also important for encouraging technological innovation. Companies will not undertake research and development unless they expect to profit from it. © 2017 Worth Publishers. All Rights Reserved.  Honest Government (1 of 3) Corruption is like a tax that bleeds resources away from productive entrepreneurs. Resources “invested” in bribing cannot be invested in machinery and equipment. Corruption makes it more profitable to be a corrupt politician or bureaucrat. Few people want to be entrepreneurs because they know that their wealth will be stolen. © 2017 Worth Publishers. All Rights Reserved.  Honest Government (2 of 3) Top 10 Least Corrupt Countries Top 10 Most Corrupt Countries Denmark Somalia New Zealand South Sudan Finland Korea (North) Sweden Syria Switzerland Yemen Norway Sudan Singapore Libya Netherlands Afghanistan Canada Guinea-Bissau Germany Venezuela Data from: Transparency International, 2016 Data from: Transparency International, 2016 © 2017 Worth Publishers. All Rights Reserved. Honest Government (3 of 3) © 2017 Worth Publishers. All Rights Reserved.  How do you think PNG fairs? © 2017 Worth Publishers. All Rights Reserved. PNG’s ranking? © 2017 Worth Publishers. All Rights Reserved.  Self-Check (5 of 5) Rules, regulations, and customs that structure incentives are called: a. Human capital. b. Institutions. c. Investment. © 2017 Worth Publishers. All Rights Reserved.  Self-Check (5 of 5) (Answer) Rules, regulations, and customs that structure incentives are called: a. Human capital. b. Institutions. c. Investment. Answer: b. Institutions. © 2017 Worth Publishers. All Rights Reserved.  Political Stability In many nations, civil war, military dictatorships, and anarchy have destroyed the institutions necessary for economic growth. Prior to 2006, two Liberian presidents used force to eradicate their opposition for 35 years. © 2017 Worth Publishers. All Rights Reserved.  Dependable Legal System A good legal system facilitates contracts and protects private parties from expropriating one another. Poorly protected property rights can stem from either too much or too little government. Some legal systems are of such low quality that no one knows for certain who owns what. It is difficult to borrow money if lenders aren’t sure they will get their money back. © 2017 Worth Publishers. All Rights Reserved.  Competitive and Open Markets (1 of 2) About half the differences in per capita income across countries are explained by differences in the amount of physical and human capital. The other half of the differences are explained by a failure to use capital efficiently. Competitive and open markets are one of the best ways to encourage the efficient organization of resources. © 2017 Worth Publishers. All Rights Reserved.  Competitive and Open Markets (2 of 2) Some reasons for inefficient organization include: – Inefficient and unnecessary regulations. – Red tape, or the time and cost to do tasks such as starting a business or enforcing a contract in a court of law. – Barriers to free trade. © 2017 Worth Publishers. All Rights Reserved.  Do you think PNG is any better or worse at these? © 2017 Worth Publishers. All Rights Reserved.  Definition (5 of 5) Economies of Scale: The advantages of large-scale production that reduce average cost as quantity increases. © 2017 Worth Publishers. All Rights Reserved.  Ultimate Causes of Wealth Natural resources may help explain why a country is able to accumulate physical and human capital. Transport is cheaper over water than over land, so countries with access to water are more open to trade. Landlocked countries have lower per capita GDP than countries with access to a coast. History, ideas, geography, culture, and luck are also important to economic growth. © 2017 Worth Publishers. All Rights Reserved.  However, is it possible that having natural resources are bad? This is called the “Resource Curse” © 2017 Worth Publishers. All Rights Reserved.  Resource curse Mixed views – positive and negative effects However, why might it be the case? – Corruption – Foreign or monopolistic ownership – Conflict – Limited diversification – Volatile government revenue – Appreciating exchange rate (Dutch disease) © 2017 Worth Publishers. All Rights Reserved. Resource curse in PNG? © 2017 Worth Publishers. All Rights Reserved. © 2017 Worth Publishers. All Rights Reserved.  Prime Minister Marape said advanced discussions and negotiations are ongoing for P’nyang, Papua LNG, Porgera, Waffi-Golpu and Pasca. “These five projects have the potential to push our economy of K80 billion to possibly over K200 Billion in the next ten years,” he said. “I have encourage Exxon Mobil, Oil Search, Newcrest, Harmony and TOTAL to speak their mind, in as far as what is their rate of Return on investment, we will respect that. ‘We will work with you and if you feel that we are encroaching into your profit margin; you have the right to speak your mind and those of us in the public service and government will not be offended when you speak your mind. © 2017 Worth Publishers. All Rights Reserved.  “We are all equal partners in as far as business is concerned in our country. They (resource developers) bring the exploration and construction dollars and PNG provides the natural resources. “They will speak their mind and we will tell them what we need so that we find resolve in our country’s resource projects like P’nyang, Papua LNG, Porgera, Waffi-Golpu and Pasca,” Prime Minister Marape said. The Prime Minister is asking the businesses to bear with Government during tough discussions because once agreements are signed its long term and Government cannot go back and change it, therefore the Government must get it right the first time for the people of Papua New Guinea. He said before we go and put pen to paper, he needs to ensure that he secures the best for Papua New Guinea going forward. “When we talk about taking a better and fairer share, we will not infringe into your space of making a better return on your investments but I must collect the most I can for PNG,” the Prime Minster said. © 2017 Worth Publishers. All Rights Reserved. © 2017 Worth Publishers. All Rights Reserved. © 2017 Worth Publishers. All Rights Reserved.  Takeaway (1 of 2) Economic growth has raised billions of people out of poverty. Poor countries can catch up to rich countries, and in a surprisingly short period. Countries with a high GDP per capita have lots of physical and human capital per worker, organized using the best technological knowledge. Natural resources are not a guarantee for economic prosperity and may in fact hinder it. © 2017 Worth Publishers. All Rights Reserved.  Takeaway (2 of 2) Countries with a high GDP per capita have institutions that encourage investment in physical capital, human capital, technological innovation, and the efficient organization of resources. Institutions for increasing economic growth are property rights, honest government, political stability, a dependable legal system, and competitive and open markets. © 2017 Worth Publishers. All Rights Reserved.