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4

THE ECONOMY IN THE VERY
LONG RUN:
The Economics of Growth

LEARNING OBJECTIVES
After reading and studying this chapter, you should be able to:
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Understand that economic growth is due to growth in inputs, such as capital and labour, and to improvements in technology.

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Understand that capital accumulates through savings and investment.

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Understand that the long run level of output per person depends positively on the savings rate and negatively on the rate of population growth.

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Understand that the basic economic growth model predicts that standards of living in different countries will eventually converge.

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PART 2

The Economy in the Long Run and the Very Long Run

e have enormously higher incomes than did our great-grandparents.
People in industrialized nations are far wealthier than people living in less developed countries. In fact, North Americans and many Europeans had higher incomes a century ago than people in poor countries do today.
What accounts for these vast differences? What will determine our standard of living in the future? Growth accounting and growth theory answer these questions. Growth accounting explains what part of growth in total output is due to growth in different factors of production (capital, labour, etc.). Growth theory helps us understand how economic decisions control the accumulation of factors of production, for example, how the rate of saving today affects the stock of capital in the future.
Figure 4-1 shows GDP for four countries over more than a century and a half.
The graph has three striking characteristics. First, the long-term growth record of
Canada is remarkable, with average income increasing more than twentyfold over the nineteenth and twentieth centuries. Second, Japan has gone from being a moderately poor country