NZ

ECONOMIC GROWTH Lecture Notes

Economic Growth

1. Defining and Calculating Economic Growth

  • Economic Growth Definition: The sustained expansion of production possibilities, measured as the increase in real GDP over a given period.

  • Economic Growth Rate: The annual percentage change of real GDP. It indicates how rapidly the total economy is expanding.

  • Standard of Living: Depends on real GDP per person.

    • Real GDP per person: Real GDP divided by the population.

    • Growth in Real GDP per Person: Occurs only if real GDP grows faster than the population grows.

1.1. Economic Growth Versus Business Cycle Expansion

  • Real GDP can increase for two distinct reasons:

    1. The economy might be returning to full employment during an expansion phase of the business cycle.

    2. Potential GDP might be increasing.

  • Key Distinction:

    • Returning to full employment in an expansion phase is not economic growth (movement from inside the Production Possibilities Frontier (PPF) to a point on the PPF, e.g., from point A to point B on PPF0).

    • Economic growth is the expansion of potential GDP, represented by an outward shift of the PPF (e.g., from PPF0 to PPF1, moving from point B to point C).

  • Growth Rate of Potential GDP: Measures the pace of expansion of production possibilities and helps smooth out business cycle fluctuations in the growth rate of real GDP.

1.2. The Magic of Sustained Growth: The Rule of 70

  • The Rule of 70: States that 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.

    • A variable growing at 7 percent a year doubles in approximately 10 years.

    • A variable growing at 2 percent a year doubles in approximately 35 years.

    • A variable growing at 1 percent a year doubles in approximately 70 years.

2. Economic Growth Trends

2.1. Long-Term Growth in the U.S. Economy

  • From 1916 to 2016, growth in real GDP per person in the United States averaged 2 percent a year.

  • Historical Highlights:

    • Fell precipitously during the Great Depression.

    • Rose rapidly during World War II.

    • Rapid growth during the 1960s.

    • Slowed during the 1970s.

    • Sped up again in the 1980s and 1990s, but never returned to the 1960s' rate.

    • Experienced a recession in 2008-2009.

2.2. Real GDP Growth in the World Economy

  • Rich Countries:

    • Japan grew rapidly in the 1960s, slower in the 1980s, and stagnated during the 1990s.

    • Growth in the