Economic growth 

  • Economic growth occurs when there is a rise in the value of Gross Domestic Product (GDP).
  • GDP measures the quantity of goods and services produced in an economy. In other words, a rise in economic growth means there has been an increase in national output. Economic growth leads to higher living standards and more employment opportunities.
  • Real GDP is the value of GDP adjusted for inflation. For example, if the economy grew by 4% since last year, but inflation was 2%, real economic growth was 2%. Nominal GDP is the value of GDP without being adjusted for inflation. In the above example, nominal economic growth is 4%. This is misleading, because it can make GDP appear higher than it really is. Total GDP is the combined monetary value of all goods and services produced within a country’s borders during a specific time period. GDP per capita is the value of total GDP divided by the population of the country.
  • Capita is another word for ‘head’, so it essentially measures the average output per person in an economy.
  • The use and limitations of national income data to compare differences in living standards between countries GDP does not give any indication of the distribution of income. Therefore, two countries with similar GDPs per capita may have different distributions which lead to different living standards in the country.
  • GDP may need to be recalculated in terms of purchasing power, so that it can account for international price differences. The purchasing power is determined by the cost of living in each country, and the inflation rate.
  • There are also large hidden economies, such as the black market, which are not accounted for in GDP. This can make GDP comparisons misleading and difficult to compare.
  • GDP gives no indication of welfare. Other measures, such as the happiness index, might be used to compare living standards instead or in conjunction with GDP.

Cause of growth:

  • Factors which cause economic growth:

  • Increase in AD, either from domestic demand or from trade.

  • Improving the labour force, with a better quality and quantity to increase productivity. The larger the size of the labour force, the greater the productive potential of the economy.

  • Improved technology, which is more productive

  • More investment, to fuel economic growth

  • Capital deepening which is an increase in the size of physical capital stock.

    Actual growth:

  • This is short run growth and it is the percentage increase in a country’s real GDP. It is usually measured annually and is caused by increases in AD.

    Potential growth:

  • This is the long run expansion of the productive potential of an economy. It is caused by increases in AS. The potential output of an economy is what the economy could produce if resources were fully employed.

    Constraints on growth:

  • Access to credit and banking

    • Without a safe, secure and stable banking system, there is unlikely to be a lot of saving in a country. Hence, the rate of growth is limited.
    • Infrastructure - Poor infrastructure discourages MNCs from setting up premises in the country. This is since production costs increase where basic infrastructure, such as a continuous supply of electricity, is not available.

  • This is important for developing human capital. Adequate human capital ensures the economy can be productive and produce goods and services of a high quality. It helps generate employment and raise standards of living.

  • Absence of property rights
    Weak or absent property rights mean entrepreneurs cannot protect their ideas, so do not have an incentive to innovate.
    Corruption
    In sub-Saharan Africa, the money lost from corruption could pay for the education of 10 million children per year in developing countries.

  • Poor governance/civil war
    This could hold back infrastructure development and is a constraint on future economic development. It could destroy current infrastructure and force people into poverty.
    Vulnerability to external shocks
    For example, an earthquake prone country is likely to find it hard to develop their infrastructure, and people might be pushed into poverty. Nepal was already one of the poorest countries in the world, but the Nepal earthquake in 2015 pushed more people into poverty.

Recession:

  • In the UK, a recession is defined as two consecutive quarters of negative economic growth.

    Recessions are characterised by:

    • Negative economic growth
    • Lots of spare capacity and negative output gaps
    • Demand-deficient unemployment
    • Low inflation rates
    • Government budgets worsen due to more spending on welfare payments and lower tax revenues
    • Less confidence amongst consumers and firms, which leads to less spending and investment