Introduction

• Last week: GDP and long-run growth.
  • Including labour as factor of production.
• Yesterday: Labour market statistics, regional variation.
• Today:
  • 1. Forecast competition: GDP growth.
  • 2. A note about classes.
  • 3. Growth, TFP, and human capital.

Forecasting Competition

• Can you call events better than the experts?
• If you can, there’s a prize for you.
• Participate in the forecasting competition for bragging rights.
• This week: GDP growth (QoQ), to be announced next Tuesday.

• Submit forecast: http://goo.gl/forms/j4MnxAlQWU

## [1] 0.7583128

A Note on Classes

• Output of classes akin to production function: \(Y_i=f_i(E_i)\).
• Point is: You get out what you put in.
• Output of module is mark, \(M_{i,EC102}=g_i(E_i,Y_i)\).
• You won’t always have chance to discuss things you don’t understand!
• Output of degree is classification: \(C_i=h(M_{i,EC101},M_{i,EC102},\dots,M_{i,EC313})\).
• Complicated function of your effort in class via substitution.
• Your degree is costing you £27,000: Don’t waste your opportunity to maximise output!

Chapter 4: Capital Accumulation and Growth

More Capital, More Growth…?

…Not Necessarily

Determining the Right Amount of Capital

• Capital produces extra output \(p\times MPK\), capital costs \(r^0\). If \(pMPK>r^0\), invest.

Cost of Capital is Interest Rate

Why Poor Countries Play Catch-Up

Convergence when Sharing Production Function

Evidence for Diminishing Marginal Returns in Germany

More Generally Across Post-WWII Europe

Why TFP Important for Rich Countries

The Impact of TFP

Steady State, Investment and Depreciation

• Steady-state:

Steady State, Investment and Depreciation

• Steady-state, or equilibrium:
• Position from which there is no impetus to deviate.
• Investment: Purchasing of capital — machines.
• Depreciation: Reduction in productive capacity of machines.
• Gross investment: New machines plus replacing/repairing old ones.
• Net investment: New machines only.
• Capital stock evolution: \[ K_t = K_{t-1} + I_t - D_t. \]

Gross Investment and Depreciation

Convergence (with some assumptions)

Convergence in Europe

More Investment, Higher Steady State

Empirical Evidence

How Much to Invest? The Golden Rule

• More investment not necessarily better: Foregone consumption.
• Optimal investment level is called `Golden rule’.
• Increase capital stock so long as steady-state consumption rises also.
  • Hence maximise \(C^{ss}\) wrt \(K\).
• Ignore \(G\) and \(NX\) so \(Y=C+I\) and hence \(C=Y-I\).
• In steady state \(I=dK\), hence \(C^{ss}=Y-dK\).
• Care about: \(\frac{\partial C^{ss}}{\partial K} = \frac{Y}{K}-d = 0\) hence \(MPK - d=0\).
  • Golden Rule: MPK must equal depreciation rate.
• But what does this mean for investment?

How Much to Invest? The Golden Rule

• Cobb-Douglas production function: \(Y=TFP\times K^\alpha L^{1-\alpha}\).
• Differentiating by \(K\) gives: \(MPK = \frac{\alpha Y}{K}\).
• Golden Rule says \(MPK=d\) hence \(d=\frac{\alpha Y}{K}\).
• Recall we assume investment fixed proportion of output: \(I=bY\).
• Hence in steady state \(I=bY=dK\) and so \(d=\frac{b Y}{K}\).
• Implying \(\alpha=b\) for Golden Rule:
  
• Investment at around capital’s share of national income \(\approx 0.3\).

Latest Scores…

Investment (opportunity cost thereof) and Demographics

A Recent Example of Rapid Growth (Catch-up)

Lots of People, Not So Many Dependant…

at least one explanation for higher savings rates

Capital Accumulation and TFP

Other Asian Tigers for Comparison

Growth and Growing Inequality: It Isn’t Always This Way!

Inequality is Regional?

Chapter 5: TFP, Human Capital and Technology

Adding in Human Capital

• Human capital: skills and knowledge embodied in labour units (people).
  • Learning at school, on the job training, learning by doing.
• Human capital durable: We don’t forget how to read or write.
  • Can be increased by investment…
  • But depreciation does happen…

Adding in Human Capital

Human Capital Impact Distinct from Labour Input

Human Capital Helps Explain Investment Flows…

.. because Developed Countries have more of it

How to Increase Human Capital? Spend More?

Breaking it Down…

But there’s still stuff left over

Institutions

• Definition: `rules of the game’, explicit/implicit behavioural norms that provide economic incentives to society.
• Impossibly broad definition. Economists usually narrow down (to measure):
  • Property rights.
  • Regulatory institutions.
  • Macroeconomic stabilisation.
  • Social insurance.
  • Conflict management.
  • Political rights.

Rent Seeking and Corruption

• Group of individuals can only earn by adding value.
• Same not true for individuals; can:
  • Add value (entrepreneur).
  • Take value created by others (rent seeker).
• Ways rent seeking detracts from economic growth:
  • Rent seeking (e.g. piracy) diverts resources from productive (value added) uses.
• Argument: Institutions ensure more people engage in value added than rent seeking.
• But what precisely is rent seeking?…

Rent Seeking and Corruption

Rent Seeking and Corruption

Rent Seeking and Corruption

Final Aspect of Institutions: Trust

Technology: Why we still grow? Manna from Heaven

Closer to Steady State, More R&D Needed

Diminishing Marginal Returns Even to Technology

Finishing Up

• Feedback please: http://goo.gl/forms/9riiaA151P
• Material for week 3 classes: http://rpubs.com/jjreade/ec114_class1.