• Large differences in income are reflected in the standard of living.

• Growth rates in income vary.

• To understand production and growth, international data on the GDP per person must be examined, as well as productivity and the link between it and the economic policies of a nation.

25-1 Economic Growth Around the World

• The data on real GDP per person varies from country to country.

• The world’s richest countries are not guaranteed to remain well off, and the world’s poor countries will not always stay poor

25-2 Productivity: Its Role and Determinants

Why Productivity Is So Important

• Productivity: the quantity of goods and services produced from each unit of labor input

• Productivity creates outputs for the economy. The economy’s output is the economy’s income.

• High standards of living are correlated with a larger amount of outputs

How Productivity Is Determined

• Productivity is determined by physical capital, human capital, natural resources, and technological knowledge.

• Physical capital: the stock of equipment and structures that are used to produce goods and services

  • Workers are more productive if they have tools to use

  • Labor, capital, land, and entrepreneurship are called the factors of productions

  • Capital is a produced factor of production, which can make more capital

• Human capital: the knowledge and skills that workers acquire through education, training, and experience

  • These are less tangible than physical capital

  • Human capital raises productivity as well

• Natural resources: the inputs into the production of goods and services that are provided by nature, such as land, rivers, and mineral deposits

  • Places with more natural resources are more likely to raise the standard of living, but regions with less natural resources still can succeed (like Japan)

  • There are renewable resources and nonrenewable resources

• Technological knowledge: society’s understanding of the best ways to produce goods and services

  • This takes many forms

  • Technological knowledge is the actual content and quality of certain items, whereas human capital is the time spent reading it.

25-3 Economic Growth and Public Policy

Saving and Investment

• A society can change the amount of capital

• To raise future productivity, devote more resources to the production of capital

• If resources are scarcer, saving is necessary

• Society must lessen now to grow bigger later

Diminishing Returns and the Catch-Up Effect

• Diminishing returns: the property whereby the benefit from an extra unit of an input declines as the quantity of the input increases

• When workers already have a large quantity of capital, even more, extra capital will only increase productivity slightly.

• Diminishing returns of capital is also known as diminishing marginal product of capital

• A higher saving rate leads to a higher level of productivity and income but not to higher growth in these variables

• Catch-up effect: the property whereby countries that start off poor tend to grow more rapidly than countries that start off rich

• Small amounts of increased capital while capital is extremely low can increase low productivity greatly.

• Poor countries tend to grow at faster rates than rich countries

Investment from Abroad

• Foreign direct investment: a capital investment that is owned and operated by a foreign entity

• Foreign portfolio investment: an investment financed with foreign money but operated by domestic residents

• When investing, a return is expected. Otherwise, investments would not be made

• Foreign investments are a way for a country’s economy to grow

• The World Bank attempts to flow capital from rich to poor countries

  • They use resources to make loans, which are then invested in capital

Education

• Education is an investment in human capital which has an opportunity cost

• When in school, the opportunity to work in the labor force is given up

• Externality: the effect of one person’s actions on the well-being of a bystander

• An educated person might generate more ideas because of their status

• Brain drain: the emigration of many of the most highly educated workers to rich countries, where the workers enjoy a standard of living

Health and Nutrition

• Height is reflected as an indicator of productivity-taller workers earn more

• This may be an effect of malnutrition, wherein in poor countries, wealth is more uncommon

• Policies that lead to economic growth naturally improve health outcomes

Property Rights and Political Stability

• Economic growth can be fostered from the protection of property rights and promotion of political stability

• Property rights: the ability of people to exercise authority over the resources they own

• This majorly includes the justice system.

• In poor countries, justice systems are more likely to be fraudulent.

• Economic prosperity depends on favorable political institutions.

Free Trade

• Inwardly oriented policies attempt to increase productivity and the standard of living by focusing domestically and cutting international communication

• Outward oriented policies focus on international communication and are more likely to help a country succeed

• The amount a nation trades also depends on geography

Research and Development

• Knowledge is a public good

• Most technical advances come from private research, but there is a public interest in it.

• Once one person discovers something, everyone can use it

• The government tries to encourage research and development by using research grants and patent systems

• By offering the chance to earn a profit, investors have an incentive

Population Growth

• A larger population corresponds to a larger labor force, but also a larger consumer market

• Therefore, a larger population does not necessarily mean a larger standard of living

• An increasing population will struggle to limit the use of natural resources, according to Thomas Robert Malthus. However, Malthus failed to account for the ever-growing use of technology

• According to modern theories, population growth reduces GDP per worker because rapid growth in the number of workers forces the capital stock to be spread more thinly. Some believe reducing population growth would help a raised standard of living.

• Rapid population growth also means more technological progress, which then can induce more population growth