ECON204 Lecture Notes - Lecture 7: Easterlin Paradox, Capital Accumulation, Logarithmic Scale
17 May 2018
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The Long Run
Reasons for the underlying growth rate of the economy:
• Technological progress: this leads to iproeets i a outrs produtie apait, and so standard of
living improvements. Countries that have recognised and cultivated technological progress through real
investment have grown more. Rich countries have succeeded in answering the question of technological
progress. Sustained growth requires technological progress.
• Capital accumulation: this refers to real investment. Growth by capital auulatio iproes a outrs
wealth and makes the potential economy grow. However, once the economy reaches its steady state) –
capital accumulation ceases to contribute to growth.
• Population growth: An increase in labour leads to output growth. However, this does not necessitate a
standard of living.
Measuring the Standard of Living
Growth matters because of standard of living – we wish to understand increases in the standard of living over time,
and across different countries. Therefore, we compare output per person (not total output) on which the standard of
living depends.
However, this is not a simple process for two reasons:
• Exchange rates can vary.
• There are systematic price differences across countries.
The way in which this problem is overcome is through Purchasing power Parity (PPP) adjustments, which apply
relative price index to the two counties. Adjusted real GDP numbers are measures of purchasing power across
countries, also called PPP numbers.
Australian Standard of Living
• The logarithmic scale on the vertical axis allows
for the same proportional increase in a variable
to be represented by the same distance.
• The growth rate represented by the slope
• Aggregate output has increased by a factor of 30
since 1901. The population went from 4m to
22m, so GDP per capita rose by about 5.
• There is steep growth from the 1950s to the
1980s
• A recession in 1990
• The increasing GDP per capita highlights
Australias otiuous tehologial progress
Other remarks:
• What atters for peoples elfare is their osuptio rather tha their ioe.
• If we wish to measure differences in productivity, then the correct measure is output per worker, or per
hour worked.
• Does a higher standard of living lead to greater happiness?
Easterlin Paradox
Higher income per capita does not necessarily lead to more happiness
3 APPARENT FACTS (which may not all be true):
1. Across countries, happiness in a country was higher as incomes rose, but only for relatively poor
countries.
2. Over time, happiness in rich countries did not increase with growth.
1. and 2. suggest that once basic needs are met, higher income did not affect happiness
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3. In a country, happiness was positively correlated with income
3. suggests that income relative to others matters.
Implications if true:
• In rich countries, income distribution is more important than the level
• Globalisation/internet make poor countries compare themselves instead to people in richer countries,
thus decreasing happiness!
• The strong positive relation between average income and average happiness across countries, even
including rich ones, contradicts that happiness only increased as incomes rose for relatively poor countries.
• The upward sloping lines within country relationships support that income relative to others matters.
Convergence of Rich and Poor Countries
Two conclusions from comparing these 6 countries from 1960 to 2009:
• There has been a large increase in output per person:
o The standard of living has increased significantly since 1950
• There has been convergence of output per person across countries.
o Japan was the first of the fast growing, and emerging Asian countries. In the 1950s, it was very poor
(poorest by a significant margin) in 1950 and produced low quality products. Similar to Germany,
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which was second poorest. These countries have had the highest growth rates. Rich countries like
Australia and US had the slowest growth rate, leading to convergence.
OCED Data
• There is no clear relation between the growth rate of output since 1960 and the level of output per person in
1960.
• There is o lear relatio. There ist geeralised oergee eerhere. Richer and emerging Asian
countries are converging, while African and middle Eastern countries are diverging.
A Broader Look Across Time and Space
• For 1500 years, from the end of the Roman Empire to roughly 1500, there was essentially no growth of
output per capita in Europe. This period of stagnation is often called the Malthusian era, which is named
after Robert Malthus. He asserted that any increase in output would lead to a decrease in mortality, leading
to an increase in population until output per capita was back at its initial level.
• From about 1500 to 1700, growth of output per capita turned positive but small. Even though it led to a
change in production methods, standard of living did not growth by much.
• Even during the Industrial Revolution until 1950, growth rates were not high by current standards.
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Document Summary
Reasons for the underlying growth rate of the economy: The long run: technological progress: this leads to i(cid:373)pro(cid:448)e(cid:373)e(cid:374)ts i(cid:374) a (cid:272)ou(cid:374)tr(cid:455)(cid:859)s produ(cid:272)ti(cid:448)e (cid:272)apa(cid:272)it(cid:455), and so standard of living improvements. Countries that have recognised and cultivated technological progress through real investment have grown more. Rich countries have succeeded in answering the question of technological progress. Sustained growth requires technological progress: capital accumulation: this refers to real investment. Growth by capital a(cid:272)(cid:272)u(cid:373)ulatio(cid:374) i(cid:373)pro(cid:448)es a (cid:272)ou(cid:374)tr(cid:455)(cid:859)s wealth and makes the potential economy grow. However, once the economy reaches its steady state) capital accumulation ceases to contribute to growth: population growth: an increase in labour leads to output growth. However, this does not necessitate a standard of living. Growth matters because of standard of living we wish to understand increases in the standard of living over time, and across different countries. Therefore, we compare output per person (not total output) on which the standard of living depends.
