If population goes faster, real GDP goes smaller. Less to go around, less standard of living.
Real GDP can increase for two distinct reasons:
1. The economy might be returning to full employment in an expansion phase of the business cycle.
2. Potential GDP might be increasing.
The return to full employment in an expansion phase of the business cycle isn’t economic growth.
The expansion of potential GDP is real economic growth.
**Rule of 70 states the number of years it takes for the level of a variable to double is approximately 70 divided by the annual percentage growth rate of the variable.
What are annual growth rate 4% how many years would it take: 17 years (70/4)
Strong economic growth since world war 2
Economic growth occurs when real GDP increases
But a one-shot increase in real GDP or a recovery from recession is not economic growth
Economic growth is sustained, year on increase
Potential GDP is the quantity of real GDP produced when the quantity of labor employed is the full-employment quantity
To determine potential GDP we use a model with two components:
1. An aggregate production function
2. An aggregate labor market
The aggregate production function tells us how real GDP changes as the quantity of labor changes when all other influences on production remain the same.
An increase in labor increases real GDP
The demand for labor shows the quantity of labor demanded and the real wage rate.
The real wage rate is the money wage rate divided by the price level.
The supply of labor shows the quantity of labor supplied and the real wage rate.
The labor market is in equilibrium at the real wage rate at which the quantity of labor demanded equals the quantity of labor supplied.
What makes potential GDP grow?
We begin by diving real GDP growth into the forces that increase:
Growth in the supply of labor, growth in labor productivity
Growth in the supply of labor
Aggregate hours, the total number of hours worked by all the people employed, change as a result of changes in:
1. Average hours per worker
2. Employment to population ration
3. The working age population growth
Population growth increases aggregate hours and real GDP, but to increase real GDP per person, labor must become more productive.
The effects of population growth:
An increase in population increases the supply of labor.
With no change in the demand for labor, the equilibrium real wage rate falls and the aggregate hours increase.
The increase in the aggregate hours increases potential GDP.
Growth of labor productivity:
**Labor productivity is the quantity of real GDP produced by an hour of labor.
Labor productivity equals real GDP divided by aggregate labor hours.
If labor becomes more productive, firms are willing to pay more for a given number of hours so the demand for labor increases.
Physical Capital Growth:
The accumulation of new capital increases capital per worker and increases labor productivity.
Human Capital Growth:
Human capital acquired through education, on-the-job training, and learning-by-doing is the most fundamental source of labor productivity growth.
**Technology is society’s pool of applied knowledge.
Technological change – the discovery and the application of new technologies and new goods – has contributed immensely to increasing labor productivity.
**Shift in the right of the supply curve:
Change in average hours per worker
Change in employment to population ratio
Working age population growth
**Shift in the right:
Physical capital growth
Human capital Growth
Education and training
3 Growth theories:
1. Classical Growth Theory
2. Neoclassical growth theory
3. New growth theory
Classical growth theory is the view that the growth of real GDP per person is temporary and that when it rises above the subsistence level, a population explosion eventually…