Economic growth

From open-encyclopedia.com - the free encyclopedia.

Economic growth is the increase in the value of goods and services produced by an economy. It is conventionally measured as the percent rate of increase in real Gross Domestic Product, or GDP. Growth is usually calculated in real terms in order to net out the effect of inflation on the price of the goods and services produced. In economics, "economic growth" or "economic growth theory" typically refers to growth of potential output, i.e., production at "full employment," rather than growth of aggregate demand.

Contents

1 Origins of the concept of Economic Growth

2 The Question of Growth

3 The limits to growth

4 See also

5 External link

Origins of the concept of Economic Growth

In the early modern period, European nations began conceiving of the idea that economies could "grow", that is produce a greater surplus of value which could be expended on something other than mere subsistence. This surplus could then be used for consumption, warfare, or civic and religous projects. The previous view was that only increasing either population or tax rates could generate more surplus money.

In the mercentile period, growth was seen as an increase in the total amount of specie, that is circulating medium such as silver and gold, under the control of the state. This led to policies to force trade through a particular state, the acquisition of colonies to supply cheaper raw materials which could then be manufactured and sold.

The insight that it was the increasing capability of manufacturing which led to policies in the 1700's to encourage manufacturing in itself, and the formula of importing raw materials and exporting finished goods. Under this system high tariffs were errected to allow manufacturers to establish "factories", from "factor", the term for someone who carried goods from one stage of production to the next, and local markets which would pay the fixed costs of capital growth, and then allow them to export abroad, undercutting the prices of manufactured goods elsewhere. Once competition from abroad was removed, prices could then be increased to recoup the costs of establishing the business.

Under this theory of growth, the road to increased national wealth was to grant monopolies, which would give an incentive for an individual to exploit a market or resource, confident that he would make all of the profits when all other extra-national competitors were driven out of business. The "Dutch East India" company and the "British East India" company were examples of such state granted trade monopolies.

This led to a contradiction: growth was gained through trade, but to trade with other nations on equal terms was disadvantageous.

The modern conception of economic growth began with the physiocrats and with the Scottish Enlightenment thinkers of David Hume and Adam Smith, and the foundation of the discipline of political economy. The theory of the physiocrats was that productive capacity, itself, was the mark of growth, and the improving and increasing capital to allow that capacity was "the wealth of nations". David Ricardo would then argue that trade was a benefit regardless of the relative capital involved, because if one could buy a good more cheaply from abroad, it meant that there was more profitable work to be done here. This theory of "comparative advantage" would be the central basis for arguments in favor of free trade as an essential component of growth.

In the early 20th century, it became the policy of most nations to encourage growth of this kind. To do this required enacting policies, and being able to measure the results of those policies. This gave rise to the importance of econometrics, or the field of creating measurements for underlying conditions. Terms such as "unemployment rate", "Gross Domestic Product" and "rate of inflation" are part of the measuring of the changes in an economy.

This notion of growth as increased capital stocks was codified into the Solow-Swann Growth Model, which created a series of equations which showed the relationship between labor, capital and investment. The late 20th century, with its global economy of a few very wealthy nations, and many very poor nations, led to the study of how the transition from subsistence and resource based economies, to production and consumption based ecomomies occured, leading to the field of Development economics, including the work of Amartya Sen and Joseph Stiglitz.

In mainstream economics, the purpose of government policy is to encourage economic activity, without encouraging the rise in the general level of prices. Or GDP increase without inflation. This combination is seen as, at the macro-scale (see macroeconomics) to be indicative of an increasing stock of capital. The argument runs that if more money is changing hands, but the prices of individual goods are relatively stable, then it is proof that there is more productive capacity, and therefore more capital, because it is capital that is allowing more to be made at a lower cost per unit. (See (Economies of scale, Inflation, Hyperinflation, Price, Supply and demand)

The Question of Growth

The real GDP per capita of an economy is often used as an indicator of the average standard of living of individuals in that country, and economic growth is therefore often seen as indicating an increase in the average standard of living.

However, there are some problems in using growth in GDP per capita to measure increasing well-being. These include:

expenditure to offset the adverse environmental effects of economic growth such as pollution. (These are called defensive expenditure.)
economic 'bads' such as commuting costs.
measurement of non-marketed output such as housework. (If an individual hires a cleaner instead of cleaning their house themselves, it adds to GDP, but welfare may not have risen.)
some good output may not be included in GDP e.g. parents doing childcare, do-it-yourself, and volunteer work.
inequality (the uneven distribution of income). (If we assume diminishing marginal utility of income, extra income yields less utility for those with already-high incomes than for those with low incomes, so an increase in GDP may increase utility by different amounts depending upon individual's place in distribution.)

Other measures of national income, such as the Index of Sustainable Economic Welfare or the Genuine Progress Indicator, have been developed in an attempt to give a more complete picture of the level of well-being, but there is no consensus as to which, if any, is a better measure than GDP. GDP still remains by far the most often-used measure, especially since, all else equal, a rise in real GDP is correlated with an increase in the availability of jobs, which are necessary to most individuals' survival.

The short-run variation of economic growth is termed the business cycle, and almost all economies experience periodical recessions. The cycle can be a misnomer as the fluctuations are not always regular. Explaining these fluctuations is one of the main focuses of macroeconomics. There are different schools of thought as to the causes of recessions but some consensus- see Keynesianism, Monetarism, New classical economics and New Keynesian economics. Oil shocks, war and harvest failure are obvious causes of recession. Short-run variation in growth has generally dampened in higher income countries since the early 90s and this has been attributed, in part, to better macroeconomic management.

The long-run path of economic growth is one of the central questions of economics; despite the caveats given above, an increase in GDP of a country is generally taken as an increase in the standard of living of its inhabitants. Over long periods of time, even small rates of annual growth can have large effects through compounding. A growth rate of 2.5% per annum will lead to a doubling of GDP within 30 years, whilst a growth rate of 8% per annum (experienced by some East Asian Tigers) will lead to a doubling of GDP within 10 years.

Growth in output can be divided into two major categories: growth through increases in input (e.g. capital, labour) and improvements in productivity (e.g. new technologies). In the long term, we need technological progress in order to increase our standard of living - we cannot forever keep increasing labour input, and we will encounter diminishing marginal returns if we forever keep adding capital to the production process (see production theory basics).

The neo-classical growth model, often called the Solow growth model, was the first attempt to analytically model long-run growth. It predicts convergence to a steady state; at the steady state, all per-capita growth arises from technological progress. Given identical factors such as institutions (governance and central banks), aggregate production functions and savings ratios, all countries will converge to the same steady state. Given that not all countries possess the same characteristics, it is possible that all countries in the world will not eventually converge. Indeed, in empirical data, convergence is observed only in a limited way.

In the neo-classical growth model growth is exogenous - it is set outside of the model i.e. it is not explained by the model but assumed to be a particular rate. This makes the model simple but does not explain how or why an economy grows. Endogenous growth theory attempts to endogenise growth. This means explaining growth within a model of the economy. Research done in this area has focussed on what increases human capital (e.g. education) or technological change (e.g. innovation).

Analysis of recent economic success shows a close correlation between growth and climate, though the actual linkage between the two--and possible causal mechanisms--remains a topic of hot debate. Cold states like Sweden are much more successful economically than warm countries like Nigeria. In early human history, economic as well as cultural development was concentrated in warmer parts of the word, like Egypt. Today, however, cold, Northern states have much higher GDP per capita compared to the hot, tropical states. This aspect of economics (economic geography)--and its influence on human migration and political structures--was extensively studied by Ellsworth Huntington, a professor of Economics at Yale University in the early 20th century.

The limits to growth

The limits to growth debate considers the ecological impact of growth and wealth creation. Many of the activities required for economic growth use non-renewable resources. Many researchers feel these sustained environmental effects can have an effect on the whole ecosystem. They claim the accumulated effects on the ecosystem put a theoretical limit on growth. Some draw on archaeology to cite examples of cultures they claim have disappeared because they grew beyond the ability of their ecosystems to support them. The claim is that the limits to growth will eventually make growth in resource consumption impossible.

Others are more optimistic and believe that, although localized environmental effects may occur, large scale ecological effects are minor. The optimists claim that if these global-scale ecological effects exist, human ingenuity will find ways of adapting to them.

The rate or type of economic growth may have important consequences for the environment (the climate and natural capital of ecologies). Concerns about possible negative effects of growth on the environment and society led some to advocate lower levels of growth, from which comes the idea of uneconomic growth, and Green parties which argue that economies are part of a global society and a global ecology and cannot outstrip their natural growth without damaging them.

Canadian scientist David Suzuki stated in the 1990s that ecologies can only sustain typically about 1.5-3% new growth per year, and thus any requirement for greater returns from agriculture or forestry will necessarily cannibalize the natural capital of soil or forest. Some think this argument can be applied even to more developed economies. Mainstream economists would argue that economies are driven by new technology — for instance, we have faster computers today than a year ago, but not necessarily physically more computers. We may have been able to break free from physical limitations by relying on more knowledge rather than more physical production.

A concern for promoting economic growth over and above all less measurable considerations is a symptom of productivism--usually a pejorative term.

External link

Green Accounting Bibliography contains a discussion and related material on green or environmental accounting, an effort to create more comprehensive measures of conventional national income statistics.

fr:Croissance économique de:Wirtschaftswachstumnl:Economische groei zh:经济增长