Meme

Big questions in economic growth

The first part of the course is about building up an understanding of the facts of economic growth, and the main models for understanding those facts. That framework will then be used to think about a series of more specific questions related to growth and how it interacts with other areas of the economy, society, and governance.

Are we rich?

We measure economic growth using GDP per capita. But how do you compare GDP from one year to the next? How do we put a number on the difference in living standards between 1920 and 2020, especially given the number of products that exist today that didn’t in the past (iPhones, anti-biotics) and products that existed then which we no longer use (model T Fords)?

And even if we establish that GDP per capita today is higher than in the past, on what basis can we say that people are “better off” than in the past?

Are there regularities to economic growth?

A surprising number, actually. It turns out that for most developed economies, the growth rate of GDP per capita is very similar and that it is very stable over long periods of time. The fraction of GDP that is used to produce new capital goods also shows a lot of stability, and it turns out that the ratio of the value of the capital stock (all the buildings, equipment and intellectual property we own) to the size of GDP is stable over long periods of time as well.

Collectively, these stable outcomes are all part of what is called a “balanced growth path”.

Why are economies on balanced growth paths?

To understand this we’ll build out the Solow model which involves capital accumulation, population growth, productivity growth. The idea that capital has a diminishing marginal product is going to generate dynamics that ensure economies end up on a balanced growth path, with all the stability we see in the data. It appears that most developed economies have something of a natural regulator that ensures they end up with stable long-run growth.

What drives growth in the long-run?

What is most interesting about the dynamics of the Solow model is that while capital accumulation is what pushes us towards balanced growth, it is productivity growth that drives growth in GDP per capita along the balanced growth path.

Growth in per capita living standards occurs because we find ways to get more value out of fewer inputs like time, capital, and natural resources.

A real visceral way to see this is to consider how much time it would take you to produce something simple, like a sandwich, all by yourself. Like the video shows, it might take you around 6 months and 1500 dollars to do this.

In reality, if you want a sandwich it could take as little as five minutes and 6 dollars. Going from the 1500 dollar/6-month sandwich to the 6 dollar/5-minute sandwich represents getting more sandwich for less effort. And that is all economic growth is. Getting more value from fewer inputs.

Why does anyone bother to innovate?

Since innovation is so important to growth, we’ll consider the economics behind innovation. This is going to generate a set of really intruiging findings.

One is that the growth rate of productivity is driven by the growth rate of research effort (i.e. R&D spending and employing scientists and engineers) and that this is tied to the growth rate of population. The innovation behind productivity depends on the scale of the market innovators sell to, and the faster population grows, the larger that scale.

A second is that growth in productivity relies on the economy not being perfectly competitive. There have to be some sort of market distortions at work in order to generate the economic profits necessary to compensate innovators for their work. Economic growth depends on imperfect competition.

What applications does all this have?

Once we’ve got a basic framework for understanding economic growth, we can use it to delve into more detailed questions.

  1. Why does China grow so fast, and will it continue?
  2. Are robots going to steal all the jobs?
  3. Why did sustained growth come from in the first place?
  4. What effect does growth have on the environment?
  5. How does trade affect growth, and vice versa?
  6. Is economic growth going to disappear?
  7. Can we speed up growth with certain policies?
  8. What explains why some countries are so rich compared to others?
  9. How does the organization of industries affect growth?