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Midterm_2_Review Notes

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ECO 304L
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Lecture 2/19 1. Poor countries lack capital a. Must invest money in capital for them b. MPK will be highest where Capital perw worker is lowerst 2. HOWEVER a. Countires may not haeve the same production functions i. Total factor Productivity (A level in equation) may differ 1. Poor countries needto take measure to increase productivity (total) including educating their work force ii. Impediments to capital flows are bigger in poor countries 1. Investor fears because of poor functioning legal systems a. Must fix this so they can converge to rich country levels 3. Iiving Standards are determined by real GDP per Capita a. Output= Labor * Output/Labor i. Output/Labor = productivity b. Real GDP Per Capita i. Y/POP = L/POP * Y/L ii. L/POP = Employment to population ratio c. Level of labor productivity (Y/L) is determined by Capital labor ratio and A (level of technology) i. A is often called the total factor productivity (TFP) 4. GROWTH ACCOUNTING tells us how growth rates of labor productivity vary according to a. Growth rate of Capital labor ratio b. TFP (A) Growth 5. Y=AK^1/3N^2/3 6. How to increase labor productivity a. Capital Accuulation i. Financing of investment in physical capital ii. Domestic saving iii. Foreign souces iv. More incentive to invest 1. Property rights, political stability v. Capital accumulation and growth rates 1. Catch up effect 7. Capital equation a. K(year 2)= K(year 1) +Investment – Depreciation 8. Investment is financed by a. Borrowing from abroad, government budget surplusses b. Domestic private savings may be used for gov budget ddeficit, lending abroad 9. Types of foreign financing a. Foreign portfolio investment i. A Japanese household purchases a share of Ford Stock b. Foreign Direct investment i. Nissan builds a new factory in Tennessee and operates it c. Inward oriented policies BAD i. Discourage international trade ii. Country loses gains from specializing iii. Resources used in a way that has lower value added iv. Discourage foreign financing of domestic investment d. Capital Deepening- occurs when the capital labor ratio increases i. 3 percent increase in capital = 1 percent increase in GDP e. Captial Widening- when the capita stock K increases due to net investment but the number of workers L is increasing just as fast so the ratio stays the same 10. African countries have more young people so Labor is increasingmore than population 2-25 1. Debt Finance- Bonds and loans a. A debt contract promises to repay a fixed amount b. Debt holders are creditors not owners of the company, they get paid first 2. Equity Finance- stock or other form of ownership a. Owners have a claim to a share of profits after creditors are paid b. Limited Liability- if profits are insufficient for all creditors to be paid, owners do not have to put in additional funds to make up the shortfall 3. An entity is
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