Lecture 3_ National Income over Time and Space

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					         Lecture 3:
Growth Experience of the USA

           August 30, 2012




        Prof. Wyatt Brooks




                 1
Quiz 1
                   Announcements
§ Last five minutes of class today, new study groups
§ Quizzes will be returned at the beginning of the next lecture
§ Problem Set #2 will be posted on the course website this
  afternoon
§ Today starts a series of 5 lectures on income differences
  across countries, government policies and economic growth
The Problem of Economic Growth
            Robert Lucas:
            §World’s leading macroeconomist
            §Won the Nobel Prize in 1995
            §Professor at the University of Chicago
            “I do not see how one can look at figures like
            these without seeing them representing
            possibilities. Is there some action a government
            of India could take that would lead the Indian
            economy to grow like Indonesia's or Egypt's? If
            so, what exactly? If not, what is it about the
            "nature of India" that makes it so? The
            consequences for human welfare involved in
            questions like these are simply staggering: once
            one starts to think about them, it is hard to
            think about anything else.”
             - “On the Mechanics of Economic Development”,
            Journal of Monetary Economics (1988).
    Economic Growth through History
§ In this course we will focus on growth since the second
  half of the 19th century
§ Why?



   Lecture by Steven Landsberg of the University of Rochester:

       http://hwww.c-spanvideo.org/program/PoliticalFo
Growth: Comparison of Income over Time
§ Income: Gross Domestic Product
   § As we discussed before, this is not a perfect
     measure of welfare, but it is important
§ Comparison over time:
   § Over time many things change:
      § Prices (Inflation)
      § Population Size
      § Age Structure (children vs. adults vs. elderly)
§ Metric we will use: Real GDP per working age person
  (age 16-65)
     Things that Happen over Time

§ Business Cycles
  § Recessions and Depressions followed by Recovery
§ Wars
§ Technological Innovation
  § Introduction of Advanced Production Processes
  § Information / Personal Computing Revolution
§ Decline in US manufacturing
§ Increase in Female Labor Force Participation
§ Changes in Tax Policy
Female Labor Force Participation Rate
Definition: The fraction of the adult, female
population in the workforce.

Why might this matter?

§Higher female labor force participation means
more people are working

§More people working means more gets produced
Female Labor Force Participation Rate
          Government Spending
           as a Fraction of GDP
Why might this matter?

§Governments are typically less efficient producers
of goods and services than private entities

§Less incentive to minimize costs
Government Spending
 as a Fraction of GDP
     Fraction of US Labor Force in
            Manufacturing
Why might this matter?

§Fewer tangible goods being produced
domestically

§Huge inter-industry reallocation
  § People moving into other sectors (services,
    information, etc.)
Fraction of US Labor Force in
       Manufacturing
      Exports as a Fraction of GDP
Why might this matter?

§Openness to trade is very important in many
countries

§Running huge trade deficits with the rest of the
world
   § Has a direct, negative effect on GDP
Exports as a Fraction of GDP
    Top Marginal Income Tax Rate
Marginal Income Tax: The federal income tax rate
on the income of the highest wage earners

Why might this matter?

§“Job Creators” argument
   § High income individuals are typically business
     owners and investors who hire the majority of
     the workforce

§Higher tax rates reduce incentives to work
Top Marginal Income Tax Rate
     Growth Experience of the US
We see huge variation across time in all of these
policies and outcomes (and many others)

Prediction: US growth rates should move greatly
with these things.

Thought experiment: Suppose in 1875 someone
was asked how US real GDP per working age
person would evolve over time, and she guessed it
would always grow by 2%.

By how much would she be wrong?
Growth Experience of the
United States: 1875-2010
Growth Experience of the
United States: 1875-2010
     Growth Experience of the US
In this part of the course (until Midterm 1) we will
focus on long run growth

In the second part we will focus on episodes of
recessions and depressions
Note on the Severity of Recessions
Note on the Severity of Recessions




                  Of course, the effects of
                  recessions vary widely
                  across the population!
                Interpretation
This trend was deflated with GDP deflator

Given the mismeasurement of purchasing power
through time (e.g., because of new goods), in what
direction is this measure of US growth biased?

§Biased downward: Real GDP growing at 2%
suggests we’re better than 2% “better off” each
year due to bias in the price deflator
Where does this growth come from?
Decompose output (GDP) into three factors:
§Capital: The stock of all machines, property,
equipment, etc. used in the production of goods
and services
§Labor: The total number of hours worked in the
economy
§Productivity: The efficiency with which capital and
labor are turned into final output
      Measuring the Capital Stock
Basic formula for determining the capital stock (K):

Notation:
§K = Capital
§I = Investment
§δ = Depreciation

Capital Stock in 2011:

             K2011 = I2010 + (1 – δ) K2010
              Production Function
Production Function: The relationship between the
factors of production used in an economy and final
output (GDP) in that economy.

The most widely used production function by
economists is called the Cobb-Douglas production
function:
                   GDP = A K0.3 L0.7

where A is productivity, K is capital and L is labor hours
   Cobb-Douglas Production Function
This production function is used because it has a useful
feature that is supported by the data:

§Roughly 70% of GDP is paid to households in wages
§The remaining 30% is paid to owners of capital

This is a prediction of the Cobb-Douglas production
function when factor prices equal their marginal
productions. That is:

       Wage = Marginal Production of Labor
 Payments to Capital = Marginal Production of Capital
          Digression on Logarithms
Recall from high school algebra:

The natural log function has the following properties:

§If Y = Kx then log(Y) = x log(K).
§If Y = K L then log(Y) = log(K) + log(L)

Then we can write:
                   Y =A K0.3 L0.7
                         as
      log(Y) = log(A) + 0.3 log(K) + 0.7 log(L)
          Digression on Logarithms
Recall from high school algebra:

The natural log function has the following properties:

§If Y = Kx then log(Y) = x log(K).
§If Y = K L then log(Y) = log(K) + log(L)

Then we can write:
                   Y =A K0.3 L0.7
                         as
      log(Y) = log(A) + 0.3 log(K) + 0.7 log(L)
Digression on Logarithms
Decomposition of US GDP Growth
  Decomposition of US GDP Growth
Conclusion: US growth is due almost entirely to
growth in productivity.

§Productivity accounts for most of growth across time
in the US.
    § Is this true across time in other countries?
    § Which of these factors accounts for the
       differences in income across countries?

         That’s the subject of the next lecture!
                      Problem Set 2 Groups

Group
          Smith,                     Torres,                     Wieland,     Williams,       Wilson,
  1        Grace    Stith, William   Monica      Villa, Grisel  Margaret       Isabelle       Andrew
           Rice,       Ritchey,                                  Schilling,  Schneider,
  2       Annalee     Katherine    Rogari, Gina Runk, Jessica    Nicholas       Anne       Smith, Duncan
         O'Brien,                   Pangraze,     Peterson,
  3       Melissa   Ortiz, Alberto   Andrew       Elizabeth    Planek, John Boll, Natalie Rey, Robert
        Kim, Dong- Masciantonio, McCarthy,        McGuire,      McRaven,      Noriega,       O'Brien,
  4        Hyun         Mikelle       Anne         Michael         Kelly      Horacio        Brendan
                                   Korolyshun,   Laskowski,
  5     Healy, John Maloy, Brian    Theodore       Patrick     Liu, Wenxin   Long, Sean Male, Anthony
         Enriquez,     Lacayo,       Flatley,                  Fredrickson,    Galvao
  6        Bryan        Miguel       Andrew     Fonseca, Mary     Joseph    Guerra, Rafael Gehl, William
          Bowen,                     Brown,                      Bradley,     Donegan,      Dorenbusch,
  7       Charles   Ding, Wenda      Lindsay    Carroll, Ellen   Zachary       Seamus         Robert

				
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