Topic 7

PowerPoints to accompany

C H AChapter PTER

Macroeconomics

2 TOPIC 7

(Chapters 12-13)

Technology, population growth and the Solow model; ‘new’ vs ‘old’ economies; IT and growth; technology & unemployment

C H AChapter PTER

12

Technological Progress and Growth

12-1

Technological Progress and the Rate of Growth

ÎTechnological progress has many dimensions. It may mean: SLarger quantities of output SBetter products SNew products SA larger variety of products

ÎTechnological progress leads to increases in output for given amounts of capital and labour.

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Macroeconomics, 2nd edition

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Technological Progress and the Production Function ÎLet’s denote the state of technology by A and rewrite the production function as Y = F ( K , N , A) (+ + +)

ƒ A more restrictive but more convenient form is Y = F ( K , AN )

ƒ Output depends on both capital and labour, and on the state of technology.

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Technological Progress and the Production Function ÎTechnological progress reduces the number of workers needed to achieve a given amount of output. ÎTechnological progress increases AN, which we can think of as the amount of effective labour, or labour in “efficiency units.” in the economy. ÎWith constant returns to scale, 2Y = F (2 K ,2 AN )

ƒ More generally, xY = F ( xK , xAN ) © 2007 Pearson Education

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Technological Progress and the Production Function ÎThe relation between output per effective worker and capital per effective worker is: Y ⎛ K ⎞ = F⎜ ,1⎟ ⎝ AN AN ⎠

which we can redefine as

⎛ Kt ⎞ Yt = f⎜ ⎟ At N t A N ⎝ t t⎠

In words, output per effective worker at time t is a function of capital per effective worker. Note that the growth rate of ‘effective labour’ is gA+gN © 2007 Pearson Education

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Output per Effective Worker Versus Capital per Effective Worker

Y/AN

Technological Progress and the Production Function

f(K/AN)

Because of decreasing returns to capital, increases in capital per effective worker lead to smaller and smaller increases in output per effective worker. K/AN

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Interactions Between Output and Capital ÎThe dynamics of output and capital per worker involve: 1. The relation between output per effective worker and capital per effective worker.

I = S = sY Dividing both sides by AN, we get

⎛ Yt ⎞ It = s⎜ ⎟ At N t ⎝ At N t ⎠

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Interactions Between Output and Capital ƒ The dynamics of output and capital per worker involve: 2. The relation between investment per effective worker and capital per effective worker. Given that

© 2007 Pearson Education

Y ⎛ K ⎞ then I ⎛ K ⎞ = f⎜ ⎟ = sf ⎜ ⎟ ⎝ AN ⎠ ⎝ AN AN AN ⎠

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Interactions Between Output and Capital ƒ The dynamics of output and capital per worker involve: 3. The investment needed to maintain capital per effective worker from depreciation and growth of effective workers.

δK + ( g A + g N ) K or equivalently (δ

+ g A + gN )K

ƒ The amount of investment per effective worker needed to maintain a constant level of capital per effective worker is

K (δ + g A + g N ) AN © 2007 Pearson Education

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Î At (K/AN)0, actual investment exceeds the investment level required to maintain the existing level of capital per effective worker, K/AN increases. Î In the long run, or in the steady state of the economy, capital per effective worker and output per effective worker are constant and equal to (K/AN)* and (Y/AN)*. © 2007 Pearson Education

Y/AN

Dynamics of Capital and Output

Macroeconomics, 2nd edition

gN )K/AN

f(K/AN) sf(K/AN)

(K/AN)0

(K/AN)* K/AN

Olivier Blanchard & Jeffrey Sheen

11

Dynamics of Capital and Output ÎIn steady state, output (Y) grows at the same rate as effective labour (AN); effective labour grows at a rate (gA+gN); therefore, output growth in steady state equals (gA+gN). Capital also grows at a rate equal to (gA+gN). ÎThe growth rate of output is independent of the saving rate. ÎBecause output, capital, and effective labour all grow at the same rate, (gA+gN), the steady state of the economy is also called a state of balanced growth. © 2007 Pearson Education

Macroeconomics, 2nd edition

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12

Dynamics of Capital and Output Table 12-1

The Characteristics of Balanced Growth

Rate of growth of: 1

Capital per effective worker

0

2

Output per effective worker

0

3

Capital per worker

gA

4

Output per worker

gA

5

Labour

gN

6

Capital

gA + gN

7

Output

gA + gN

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Macroeconomics, 2nd edition

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13

The Effects of an Increase in the Saving Rate: I

Y/AN

The Effects of the Saving Rate

An increase in the saving rate leads to an increase in the steady-state levels of output per effective worker and capital per effective worker.

f(K/AN) gN )K/AN

s1f(K/AN) s0f(K/AN)

(K/AN)0

(K/AN)1 K/AN

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The Effects of the Saving Rate The Effects of an Increase in the Saving Rate: II The increase in the saving rate leads to higher output growth until the economy reaches its new, higher, balanced growth path.

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The effects of the higher depreciation, technological progress or population growth ƒ Higher gA or gN increase the rate of growth of output in steady state. Why? ƒHigher δ, gA or gN reduce output and capital per effective worker in steady state. Why? ƒStandard of living improves with higher gA , but deteriorates with higher δ or gN . Why? ƒ Fall in population growth in Africa (through AIDS, wars etc) will lead to a a higher standard of living of survivors in the long run! Why? © 2007 Pearson Education

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12-2

The Determinants of Technological Progress

ÎTechnological progress in modern economies is the result of firms’ research and development (R&D) activities. The outcome of R&D is fundamentally ideas. ÎAustralian firms appear to be lagging in R&D. S Australia spends 1.5% of GDP on R&D (low compared to US, France, UK, Germany & Japan) S 30% of about 95,000 R&D personnel are employed by firms in Australia. (In US, 75%of 1 million). S Australian firms spend 11% of gross investment on R&D. (In US, 20%).

ÎSpending on R&D depends on: S The fertility of the research process, or how spending on R&D translates into new ideas and new products, and S The appropriability of research results, or the extent to which firms benefit from the results of their own R&D. © 2007 Pearson Education

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The Fertility of the Research Process ÎThe determinants of fertility include: S The interaction between basic research (the search for general principles and results) and applied research (the application of results to specific uses). S The country: some countries are more successful at basic research; others are more successful at applied research and development. S Time: It takes many years, and often many decades, for the full potential of major discoveries to be realized.

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The Appropriability of Research Results ÎIf firms cannot appropriate the profits from the development of new products, they will not engage in R&D. Factors at work include: S The nature of the research process. Is there a payoff in being first at developing a new product? S Legal protection. Patents give a firm that has discovered a new product the right to exclude anyone else from the production or use of the new product for a period of time.

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12-3

The Facts of Growth Revisited

Capital Accumulation Versus Technological Progress ÎFast growth may come from two sources: SA higher rate of technological progress, gA SAdjustment of capital per effective worker, K/AN, to a higher level.

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Capital Accumulation Versus Technological Progress TABLE 12.2

AVERAGE ANNUAL GROWTH PER WORKER AND TECHNOLOGICAL PROGRESS IN FIVE RICH COUNTRIES, 1950-2004 GROWTH OF OUTPUT PER WORKER (%)

Australia France Japan United Kingdom United States Average

1950-1973 (1) 2.3 4.5 7.4 2.5 1.8 3.7

1974-2004 (2) 1.5 1.7 2.2 1.8 1.5 1.7

CHANGE (3) -0.8 -2.8 -5.2 -0.6 -0.4 -2.0

RATE OF TECHNOLOGICAL PROGRESS (%) 1950-1973 (4) 1.2 4.0 6.9 1.7 1.9 3.1

1974-2004 (5) 1.3 1.3 1.3 1.6 1.1 1.3

CHANGE (6) 0.1 -2.8 -5.6 -0.1 -0.7 -1.8

"Average" is a simple average of the growth rates in each column. "Rate of technological progress" is weighted growth rates of labour and capital subtracted from output growth, divided by a fixed labour share of .7. The data for Japan begins in 1955. SOURCES: ABS, BEA, BLS, OECD, Angus Maddison"Dynamic Forces in Capitalist Development" (New York: Oxford University Press, 1991).

Technological progress accounted for most growth © 2007 Pearson Education

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Capital Accumulation Versus Technological Progress Î Table 12-2 illustrates three main facts: 1. The period of high growth of output per capita, from 1950 to 1973, was mostly due to rapid technological progress, not to unusually high capital accumulation. 2. Apart from Australia & UK, the slowdown in growth of output per capita since 1973 has come mainly from a decrease in the rate of technological growth, not from unusually low capital accumulation. 3. Convergence of output per capita across countries has come from higher technological progress rather than from faster capital accumulation. © 2007 Pearson Education

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12-4

Epilogue: The Secrets of Growth

ÎDifferences in output per worker between rich and poor countries are mostly attributed to differences in the measured level of technology across countries. For various reasons, poor countries are unable to close this technology gap. SReasons include political instability, poorly established property rights, lack of entrepreneurs, and poorly developed financial markets.

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Epilogue: The Secrets of Growth ÎThe poor countries that have grown rapidly in the last 20 years have experienced a rapid accumulation of both physical and human capital. ÎThe contributions of both technological progress and capital accumulation to growth depend on the quality of institutions in a country.

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Institutions Matter for Growth! Good institutions: - protection from expropriation - judicial system resolves disputes quickly - laws against insider trading - reliable patent laws - credible anti-trust laws

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GDP per capita

Macroeconomics, 2nd edition

14000 South Korea

12000 1996 US dollars

South Korea relied on a capitalist organization of the economy, with strong state intervention, but also private ownership and legal protection of private producers. North Korea relied on central planning. Growth of GDP per capita was very different!

10000 8000 6000 4000

North Korea

2000 0 1950

1960

1970

Olivier Blanchard & Jeffrey Sheen

1980

1990

1998

25

Hong Kong, Singapore Many similarities – •

Ex-British colonies, city-states, post-war S China immigrants

•

Trading ports with similar industries, but Singapore lagged HK by a decade in its sequence.

Many differences •

HK – minimal government intervention – provided infrastructure and land for expansion

•

SNG – much intervention - I/Y rose from 9% in 1960 to 43% in 1984; forced saving, industrial policy using tax incentives

•

gY/N 1970-90: HK = 2.4%, SNG = 1.5%

•

gA

: HK = 2.3%, SNG = 0.1%

Why the difference? Alwyn Young: SNG moved too fast from one industry to the next – unbalanced growth! Too little gA. . SNG has since taken heed, and has grown well since mid-1990s © 2007 Pearson Education

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Institutions matter! Comparing with China and Taiwan

HK, SNG and Taiwan chose the capitalist path with well-enforced property rights. China became relatively poorer from 1950, and now has a lot of catching-up!

25000

1999 US$, PPP-adjusted

China adopted state planning and communist institutions.

20000 SINGAPORE 15000

HONG KONG TAIWAN

10000

5000

CHINA

0 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000

Î GDP PER CAPITA (PPP-ADJUSTED) 1950-2001 Î SOURCE: Angus Maddison, The World Economy: Historical Statistics, OECD 2004

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C H AChapter PTER

13

Technological Progress, Wages, and Unemployment

Dimensions of Technological Progress

QUESTION: Does technology improvement lead to unemployment? ANSWER: Higher unemployment can only occur in short run, if at all. In medium run, unemployment might even fall!

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Dimensions of Technological Progress ÎTechnological progress allows more output from the same number of workers 2 interpretations: SOptimistic:

More output with the same workers SPessimistic: Same output with fewer workers

ÎTechnological unemployment—a concept associated with the technocracy movement during the Great Depression and the Luddites in the 19th century—is the argument that unemployment comes from the introduction of machinery. © 2007 Pearson Education

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Dimensions of Technological Progress ÎTechnological progress leads to the production of new goods and the disappearance of old ones. ÎThe process of growth is fundamentally a process of creative destruction. With technological progress comes a process of job creation and job destruction.

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Productivity, Output, and 13-1 Unemployment in the Short Run ÎA production function with technological progress can be written as:

Y = F ( K , AN ) ƒ Leaving aside matters concerning capital, then:

Y = AN ƒ Output is produced using only labour, N, and each worker produces A units of output. Increases in A represent technological progress.

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Productivity, Output, and Unemployment in the Short Run

Y = F ( K , AN ) = AN ÎThen, employment is equal to output divided by productivity, A.

Y N= A

ƒ The concern is that, given output, an increase in productivity decreases the level of employment. This chapter explores this issue, in particular, the short- and medium-run responses of output, employment, and unemployment. © 2007 Pearson Education

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Technological Progress, Aggregate Supply, and Aggregate Demand Aggregate Supply and Aggregate Demand for a Given Level of Productivity The aggregate supply curve is upward sloping. An increase in output leads to an increase in the price level. The aggregate demand curve is downward sloping. An increase in the price level leads to a decrease in output. © 2007 Pearson Education

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Technological Progress, Aggregate Supply, and Aggregate Demand ÎThe impact of an increase in productivity on output and employment in the short run depends on how it affects the aggregate supply and aggregate demand curves. S Higher productivity decreases the amount of labour needed to produce a unit of output, resulting in lower cost and a lower price for a given output level. The aggregate supply curve shifts down.

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Technological Progress, Aggregate Supply, and Aggregate Demand ÎThe effects of higher productivity on aggregate demand in the short run depend on the source of the productivity increase: S Technological breakthroughs will bring prospects of higher profits and a boom in investment. The demand for goods rises— aggregate demand shifts to the right. S The more efficient use of existing technologies may require little or no new investment. Worries about job security will trigger more saving—the aggregate demand curve shifts to the left. © 2007 Pearson Education

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Technological Progress, Aggregate Supply, and Aggregate Demand The Effects of an Increase in Productivity on Output in the Short Run An increase in productivity shifts the aggregate supply curve down. It has an ambiguous effect on the aggregate demand curve, which may shift to the left or to the right. In this figure, we assume a shift to the right, which leads to higher output in the short run. (But effect is ambiguous)

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Does technology improvement reduce the natural rate of unemployment? Wage WageSetting: Setting: Ae =

W = A P F [ u,z ] e

e

the expected level of productivity is incorporated into wages set in bargaining.

Price PriceSetting: Setting:

W P = (1+ μ ) A

If A increases, W/A falls, which lowers P given W.

NB With Y=AN, 1 unit of output is produced by 1/A workers. So the cost of producing 1 unit of output = W (1/A) = W/A © 2007 Pearson Education

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Does technology improvement reduce the natural rate of unemployment? In medium run, Ae = A & Pe = P.

W = A F [ u,z ] P

W P = (1+ μ ) A Therefore

1 F [ un , z ] = 1+ μ So un is independent of A © 2007 Pearson Education

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Summary: Technological progress and unemployment

u in the short run may be affected by the level or rate of growth of productivity. It may go up or down However un in the medium and long run does not depend on the level or rate of growth of productivity

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The Empirical Evidence: Productivity growth and output growth 12 10

Annual rate of change (%)

In Australia, there is a positive relation between output growth and productivity growth. But be careful: correlation is not the same as causation

Output growth

8 6 4 2 0 -2

Productivity growth

-4 -6 1965

1970

1975

1980

1985

1990

1995

2000

2005

Research on the effects of exogenous movements in productivity growth on output shows that: - Sometimes increases in productivity lead to increases in output sufficient to maintain or even increase employment in the short run. - Sometimes they do not, and unemployment increases in the short run. © 2007 Pearson Education

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The Empirical Evidence: The Medium Run Productivity Growth and Unemployment in Australia—Averages by Decade, 1901-2005 There is little relation between the 10-year averages of productivity growth and the 10-year averages of the unemployment rate. If anything, higher productivity growth is associated with lower unemployment, in the medium run. © 2007 Pearson Education

Average annual labour productivity growth (%)

3.0 1951-1960

2.5

2.0

1960-1969 1970-1979

1990-1999

1.5 2000-05

1940-1949 1.0

1901-1909 1980-1989

1920-1929

1930-1939

0.5

0.0 1910-1919 -0.5 0

2

4

6

8

10

12

14

Average unemployment rate (%)

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42

Why did Australia do so well from the 2nd half of the 1990s? TABLE 1 SELECTED AUSTRALIAN MACROECONOMIC VARIABLES 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 GDP growth 3.5 4.2 3.9 4.9 4.3 3.3 2.2 4.0 3.0 3.5 2.4 Unemployment rate 8.1 8.0 8.2 7.9 6.7 6.2 6.9 6.5 6.2 5.6 5.0 Inflation rate 1.8 2.1 1.3 0.5 0.5 4.1 4.0 2.6 0.9 0.9 0.7 Labour productivity growth 0.6 3.3 3.0 2.9 3.9 1.3 0.3 2.6 1.4 1.9 -0.6

Labour productivity surged leading to high Y growth, falling u and low inflation. Why? • A series of microeconomic reforms from 1980s onwards • Australia had a very high uptake of new ICT technologies • However real wages have not kept pace with labour productivity growth, implying that profits have benefitted!

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