Home > Harrod-Domar Model, Macro > First principles of long-run growth

First principles of long-run growth

When you first start learning Macro you spend a lot of time looking at short-run fluctuations around a medium-run trend, eg all of the stuff around being above or below a natural level of output, or natural rate of unemployment.

When you step outside the concept of these fluctuations and look at the concept of economic growth you can start to think about the long-run, which tells you how the medium-run concept of the natural level of output will grow over time. Looking at growth models gives us some idea of answers to questions like why do some countries grow faster than others, why have some not grown and stayed poor. Long run growth is key to raising living standards, reducing poverty and promoting economic development.

From the end of the Roman Empire to the year 1500 there was essentially no growth of output per person in Europe. Most workers were employed in agriculture, there was little technological progress and because agriculture’s share of output was so large, inventions with applications outside agriculture did not make much difference to total production and output. Output growth was roughly proportionate to increase in population, keeping output per person constant. This was the Malthusian era. Malthus argued that any increase in output would lead to a decrease in mortality, which would mean population grew until output per person was back to its initial level. Eventually Europe escaped the Malthusian trap, growth rates were positive after 1500 (around 0.1% per year until 1700, then about 0.2% per year until 1820. Starting with the Industrial Revolution growth rates increased but even there in the US output averaged only 1.5% per year between 1820 and 1950. It is in the past 50-60 years that we have had the big explosion in growth rates.

Since 1950 rich countries have seen a large increase in output per person. There has been a convergence of output per person amongst the richer countries (eg in the OECD, countries like Japan catching up the US). There has also been some convergence from the four tigers (Singapore, Hong Kong, Taiwan, South Korea), and more recently from China, who started a long way behind but is now growing at a very high rate. Economies with high growth rates but still have low output per person are called emerging economies.

However convergence is not uniform. Uruguay, Argentina and Venezuela were roughly at the same level of output per person as France in 1950, by 2004 they were between 0.25 and 0.5 of the level of France. Many African countries were very poor in 1960 and some have had negative growth of output per person since then, eg Madagascar has been falling back 1.1% per year, Niger is about 60% of its 1960 level.

So neither growth nor convergence is inevitable.

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Categories: Harrod-Domar Model, Macro
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