Economic growth

• Economic growth


  The expansion of the productive potential of the economy
• Economic growth


  • Can be depicted by an outward shift in the PPF or an outward shift in a country's LRAS curve
  • Measured by the annual change in real GDP
• Factors which cause economic growth

  • Improving the labour force, with a better quality due to higher education
  • A larger labour force due to migration, birth rates or improved participation rates
  • Improved technology, which is more productive
  • More investment to fuel economic growth
  • Discovering new resources, such as oil
  • Incentives for enterprise, such as tax breaks or subsidies
• Actual growth


  The percentage increase in a country's real GDP, usually measured annually, caused by increases in AD
• Potential growth


  The long run expansion of the productive potential of an economy, caused by increases in AS, the potential output of an economy is what the economy could produce if resources were fully employed
• Export led growth


  • Occurs when countries open up their economies to the international market
  • One of the most famous examples is China, which has had export led growth for many years
• Decisions by individuals


  Can affect economic growth, for example a firm's decisions to increase investment can lead to growth
• For a firm's decision to invest to lead to growth, the decision must be undertaken by a number of individuals. One firm's decision to invest is unlikely to have a significant impact, unless they are a very large firm undertaking vast investment.
• International trade


  • Important for export led growth
  • Countries can specialise where they have a comparative advantage, which increases world output and lowers average costs
  • A country has comparative advantage when it can produce goods and services at a lower opportunity cost than another
• Export led growth


  Initially increases AD, so only brings about short term growth, but encourages firms to invest and therefore brings about long term growth by improving the supply-side of the economy
• Export led growth


  Allows the government to bring about economic growth and high employment without seeing a current account deficit
• Export led growth means the economy is unbalanced, since there is a surplus on the current account on the balance of payments. Whilst this means there are net injections into the economy, it is not necessarily sustainable. However, the growth in the economy may lead to an increase in imports which will balance the current account.
• Export led growth means the country relies on the economic state of other countries, since these are the consumers of their goods and services. If there is a recession in a major export market, exports will fall and so will economic growth.
• Long-term trend in growth rates

  The long run expansion of the productive potential of an economy, caused by increases in AS
• Potential output


  What the economy could produce if resources were fully employed
• Output gap


  The difference between the actual level of output and the potential level of output, measured as a percentage of national output
• Negative output gap


  When the actual level of output is less than the potential level of output, putting downward pressure on inflation and indicating the unemployment of resources
• Positive output gap


  When the actual level of output is greater than the potential level of output, putting upward pressure on inflation and indicating resources being used beyond normal capacity
• Countries with high rates of inflation due to fast and increasing demand, such as China and India, are associated with positive output gaps
• Difficulties with measuring the output gap

  • It is difficult to estimate the trend in a series of data
  • The structure of the economy often changes, which means estimates may not always be accurate
  • Changes in the exchange rate might offset some inflationary effects of a positive output gap
  • Data is not always reliable, especially from emerging markets, and extrapolating data from past trends might lead to uncertainties
• Keynesian economists


  Believe output gaps exist in both the short and long run
• Classical economists


  Believe markets clear in the long run, so there is full employment, and output gaps only exist in the short run
• Business cycle


  The stage of economic growth that the economy is in, going through periods of booms and busts
• Characteristics of a boom

  • High rates of economic growth
  • Near full capacity or positive output gaps
  • Near full employment
  • Demand-pull inflation
  • Consumers and firms have a lot of confidence, which leads to high rates of investment
  • Government budgets improve, due to higher tax revenues and less spending on welfare payments
• Characteristics of a recession

  • 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
• The trade cycle has large impacts on individuals within the economy. During recessions, consumers will see lower incomes and living standards and firms will see lower revenues and profits.
• Costs of economic growth

  • Economic growth does not benefit everyone equally, those on low and fixed incomes might feel worse off if there is high inflation and inequality could increase
  • Higher demand-pull inflation, leading to more shoe leather costs for consumers
  • The benefits of more consumption might not last after the first few units, due to the law of diminishing returns
  • Firms could face more menu costs as a result of higher inflation
• Benefits of economic growth

  • The average consumer income increases as more people are in employment and wages increase
  • Consumers feel more confident in the economy, which increases consumption and leads to higher living standards
  • Firms might make more profits, which might in turn increase investment, driven by higher levels of business confidence
  • Higher levels of investment could develop new technologies to improve productivity and lower average costs in the long run
  • As firms grow, they can take advantages of the benefits of economies of scale
  • If there is more economic growth in export markets, firms might face more competition, which will make them more productive and efficient, but it will also give them more sales opportunities
  • The government budget might improve, since fewer people require welfare payments and more people will be paying tax
• Impacts of economic growth on current and future living standards

  • High levels of growth could lead to damage to the environment in the long run, due to increase negative externalities from the consumption and production of some goods and services
  • As consumer incomes increase, some people might show more concern about the environment
  • Economic growth could lead to the development of technology to produce goods and services more greenly
  • Higher average wages mean consumers can enjoy more goods and services of a higher quality
  • Public services improve, since governments have higher tax revenues, so they can afford to spend on improving services, which could increase life expectancy and education levels
• Economic growth has microeconomic consequences through the impacts on consumers, workers and firms.