Transcript TOPIC A: Irish Economic History to Independence

TOPIC C:
THE ECONOMY &
ECONOMIC GROWTH
TCD M.SC.(EPS) – RONAN LYONS – EC8001
IRISH ECONOMIC POLICY ISSUES & CONTEXT
MODULE OUTLINE
Topic Title
EoI Ch
Dates
A
Irish Economic History to Independence
1+
MT1-2
B
Irish Economic History since Independence
1+
MT3-4
C
The Economy & Economic Growth
2, 7
MT5-6
D
Public Finances, Debt & Taxation
3, 4
MT8-9
E
The Labour Market
6
MT10-11
F
Social Justice & Inequality
8
HT1-2
G
Regulation & Competition
5
HT3-4
H
Competitiveness & Trade
9, 11
HT5-6
I
Health & Education
12, 13
HT8-9
J
Natural Resources & Real Estate
10, 14*
HT10-11
TOPIC C: STRUCTURE
The Economy & Economic Growth
1.
2.
3.
4.
5.
6.
Conceptualizing the economy
National income accounts
GDP, welfare and public policy
Efficiency and production possibilities
Modern economic growth
Productivity performance
FROM TACTICS TO STRATEGY…
• Three main tools of economic policy were
mentioned in Topic B
• Trade policy (τ)– historically tariffs; within EU/WTO, replaced
by competitiveness policy
• Monetary policy (r) – concerned with currency, interest
rates, money supply; within Eurozone, replaced at national
level by macro-prudential policy
• Fiscal policy (G) – decisions about government revenues
and spending; limits within EU but increasingly important
• But these are the tools – what are the aims?
AIMS OF A REGIONAL ECONOMY
• The principal aim of an economy’s policymakers is
to deliver a high(er) standard of living
• Most often measured through citizens’ average income
• Behavioural issues: relative vs. absolute, momentum
• Range of ancillary and secondary objectives
Full employment – will be reflected in higher incomes
Competitiveness – should be reflected in higher incomes
Fair distribution of income – may not be reflected
Stability – reflected in consistently high living standards (also:
good/asset price stability)
• Sustainability – as above, but over longer time-frame (may
be at odds with higher living standards over short run)
•
•
•
•
LEVELS OF LIVING STANDARDS
GDP per capita ($ PPP), 1921-2010
$60,000
Western Europe
$50,000
Ireland
$40,000
$30,000
$20,000
$10,000
2010
2005
2000
1995
1990
1985
1980
1975
1970
1965
1960
1955
1950
1945
1940
1935
1930
1925
1920
$0
Source: Maddison Project Database (2013)
GROWTH IN LIVING STANDARDS
Average annual growth in GDP per capita, by period
5%
4%
3%
2%
1%
0%
-1%
-2%
-3%
-4%
-5%
Irish
catch-up
European slow down
Western Europe
Ireland
1921- 1929- 1939- 1946- 1960- 1973- 19871929 1939 1946 1960 1973 1987 2007
Source: Maddison Project Database (2013)
Luxembourg
Singapore
Brunei
Kuwait
Norway
UAE
Switzerland
Hong Kong
USA
Saudi
Bahrain
Netherlands
Ireland
Australia
Austria
Germany
Sweden
Canada
Denmark
Oman
Burundi
Liberia
Malawi
DRC
CAR
WORLD’S RICHEST COUNTRIES
Per capita GDP of richest & poorest countries, 2014
$100,000
$90,000
$80,000
$70,000
$60,000
$50,000
$40,000
$30,000
$20,000
$10,000
$0
FEATURES OF THE TOP 20
•
•
•
•
•
•
•
•
•
•
Luxembourg
Singapore
Brunei Darussalam
Kuwait
Norway
United Arab Emirates
Switzerland
Hong Kong SAR
United States
Saudi Arabia
•
•
•
•
•
•
•
•
•
•
Bahrain
Netherlands
Ireland
Australia
Austria
Germany
Sweden
Canada
Denmark
Oman
Size – big or small?
Location?
Island/landlocked?
Resources?
History?
Real #1 is Qatar!
MODEL OF THE ENTIRE ECONOMY
• How would you go about modelling an entire
economy?
• Not as complicated as it sounds: ultimately, in an
economy, there are only sellers and buyers
• Sellers provide a service
• Sometimes that service is a physical item, a commodity like
copper or merchandise such as TV – but even then its value
lies in the service it provides
• Buyers pay money in return
A PRE-INDUSTRIAL ECONOMY…
No firms, so aside from subsistence
production, households trade with each
other through markets
sell goods
Households
buy goods
Markets
A MODERN ECONOMY…
1. Firms sell goods that are
bought by households
2. Money flows in the
opposite direction
Goods
markets
Firms
3. Firms in turn
require inputs,
owned by
households
Households
Factor
markets
Real
Monetary
NOTES ON THE CIRCULAR FLOW
• Two important features about the ‘circular flow’
model of the economy
• Every real flow has a corresponding monetary flow
• Some of these may be imputed, e.g. stay-at-home spouse
or owner-occupier’s rent
• Someone’s expenditure is someone else’s income
• Adding up income should be equivalent to adding up
expenditure
• In an economy like this, any injection (e.g. new
deposit) would circulate around economy forever
• No leakages – annual impact would depend on velocity
DEVELOPING THE CIRCULAR FLOW
Three main additions to realism of the circular flow
1. Government – taxation, a payment by households
to government in return for public goods
2. Banking – saving (non-consumption) generates an
income (interest); the financial system transforms
into lending (saving and investment as opposites)
3. Trade – final ‘leakage’ is spending on imports,
offset (at least in part) by income from exports
• These reduce the final economic impact of any
injection into an economy
TOPIC C: STRUCTURE
The Economy & Economic Growth
1.
2.
3.
4.
5.
6.
Conceptualizing the economy
National income accounts
GDP, welfare and public policy
Efficiency and production possibilities
Modern economic growth
Productivity performance
GROSS DOMESTIC PRODUCT (GDP)
“GDP is…
the market value
of all
final
goods and services
produced
within a country
in a given period of
time”
Helps compare apples and
oranges… everything
expressed in euro
Everything sold (previously just
legally) in the economy
To avoid double-counting, leaves
out intermediate goods (e.g. paper
supplies for greeting card
company)
Only new goods counted – e.g.
not 2nd-hand cars/homes
Usually a year but people
also pay attention to
quarterly figures
In Ireland’s case, only
what’s produced here,
i.e. doesn’t include any
output by a French
company part-owned
by an Irish household
OUTPUT VERSUS INCOME
• GDP is the value of
all goods & services
produced within a
country in a given
period of time
Only GDP will
include the profits
of multinationals
based here, such
as Google or
Pfizer
• GNP is the value of
all income earned
by a nation’s
residents, regardless
of where it was
earned
Both GDP and GNP for
Ireland will include output
by firms owned by Irish
residents and which
operate in Ireland
(including their exports).
Only GNP will
include the profits
earned through
Irish firms’
overseas plants,
e.g. CRH or
Ryanair.
FOUR METHODS, SAME ANSWER?
• Possible to calculate economy’s size (i.e. the sum of
all activity) in any one of three [four] ways
1. Expenditure method – add up all money spent on final
goods and services
2. Income method – add up all money earned through all
sources (wages, rents, profits)
3. Output method – add up value of all goods and services
produced
4. Consumption method – add up value of all goods and
services consumed [not aware of any attempts at this]
• To understand why, go back to circular flow
• In practice, answers across methods vary
COMPONENTS OF GDP AND GNP
GDP = Y = C + I + G + NX
GNP includes “net factor income”
Y = C + I + G + NX +NFI
GVA = GDP - taxes/subsidies
GNI = GNP + EU transfers
COMPONENTS OF GDP IN IRELAND
Millions of euro
Quarterly GDP (2011 prices), by component
€45,000
€40,000
€35,000
€30,000
€25,000
€20,000
€15,000
€10,000
€5,000
€0
Net Exports
Government
Investment
Consumption
1998q3 2003q3 2008q3 2013q3
Source: CSO National Accounts
TRENDS IN IRISH OUTPUT & INCOME
GNP as % of GDP
GDP
90%
GNP
88%
86%
84%
82%
80%
78%
Interpretation?
1995
1997
1999
2001
2003
2005
2007
2009
2011
2013
76%
1995
1997
1999
2001
2003
2005
2007
2009
2011
2013
€200
€180
€160
€140
€120
€100
€80
€60
€40
€20
€0
Irish GDP & GNP (€bn)
Source: CSO National Accounts
DECOMPOSING GROWTH…
• Mathematically, growth
in per capita incomes
comprises five factors
• Productivity (GNP/hour)
• Effort (hours/worker)
• Employment (worker/
labour force)
• Partipication (labour
force/15-64 population)
• Demography (15-64
population/full pop’n)
10%
GNP per capita growth
Demography
8%
Participation
Employment
6%
Effort
4%
Productivity
2%
0%
-2%
-4%
-6%
19942000
20002007
20072013
JOBLESS GROWTH, GROWTHLESS JOBS
• Decline in jobs until mid2012
• 2013: growth in jobs while
GDP stagnated
• GDP’s patent cliff vs.
GNP’s new citizens
Annual change in quantities
15%
GDP
GNP
Jobs
10%
5%
0%
-5%
-10%
-15%
2006Q1
2006Q4
2007Q3
2008Q2
2009Q1
2009Q4
2010Q3
2011Q2
2012Q1
2012Q4
2013Q3
2014Q2
• In addition to real GDP,
key Irish policy metrics in
include growth in GNP
and employment
• Economic contraction
from mid-2008 to mid2010
CAN WE TRUST GDP OR GNP?
TOPIC C: STRUCTURE
The Economy & Economic Growth
1.
2.
3.
4.
5.
6.
Conceptualizing the economy
National income accounts
GDP, welfare and public policy
Efficiency and production possibilities
Modern economic growth
Productivity performance
WHAT’S IN GDP?
• Is Ireland better off
neighbours start minding
each other’s children for
€200 a week?
Imputed rent, as % of
national income
6.0%
5.0%
4.0%
3.0%
2.0%
1.0%
0.0%
1995
1997
1999
2001
2003
2005
2007
2009
2011
2013
• When measured well,
GDP includes the value of
amenities
• GDP was recently
updated to include
“value added” from
illegal activities
• To my knowledge, value
added by “housespouses” not yet included
Source: CSO National Accounts
GDP’S LIMITS: OTHER GOODS
• Black market:
• From 2014 on, meant to
include illegal activities
• How accurate will this be?
• Non-market goods:
• “The best things in life are free”
– value of leisure time
excluded
• But note that parks and other
amenities captured in
(imputed) rents are included
Source: Irish Examiner
GDP’S LIMITS: DISTRIBUTION
• GDP per capita is a mean
(i.e. an average)
• A single summary measure
of a level
• GDP says nothing about
spread around mean
• “First moment” vs. “second
moment”
• Where incomes are similar,
extra measures desirable
• Gini, %ile ratios (e.g. 90/10)
• 90/10 OECD average: 4.3
• More in Topic F
90/10 income ratio
Australia
Austria
Belgium
Canada
Chile
Czech
Denmark
Estonia
Finland
France
Germany
Greece
Hungary
Iceland
Ireland
Israel
Italy
Japan
Korea
Lux
Mexico
NL
NZ
Norway
Poland
Portugal
Slovak
Slovenia
Spain
Sweden
Switz
Turkey
UK
USA
0 1 2 3 4 5 6 7 8 9 10
GDP’S LIMITS: BADS
“Bads” are activities that contribute to GDP but are (to
some extent) unwelcome, e.g. production that pollutes
GDP’S LIMITS: PERVERSE GOODS
Japanese earthquake 2011
“Japan has said it will cost $309bn
to rebuild the country after the
deadly earthquake and tsunami…
According to the World Bank,
Japan will need up to five years to
rebuild.”
• Activities that are welcome
but are due to things that
are not welcome, e.g. postwar construction
• How much does Australia
spend on forest fires
compared to, say,
Iceland?
• This matters for policy – USEU comparisons don’t
include effect of climate on
GDP
• ~5% of homes in Europe
have AC, compared to 83%
of US homes
SHOULD WE MEASURE HAPPINESS?
Ireland is happy!
Ireland is unhappy!
Irish Times, Dec 23 2011
Irish Times, Jan 4 2012
"The EU Survey on Income
and Living Conditions
showed 79 per cent of
the Irish population aged
18 and over reported
themselves in 2010 to
have been happy all or
most of the time over the
four weeks prior to the
interview."
“The Irish are among the
unhappiest of 58 nationalities,
according to a poll by WINGallup International of “net
happiness”, or the
percentage of people who
considered themselves
happy, minus the percentage
who considered themselves
unhappy."
Happiness seems to be “adaptive”: people learn to cope with
their circumstances… but does that mean we should leave
people in poverty?
LESSONS FROM BHUTAN & OBAMA
• “Happiness is outcomes
minus expectations”
• High happiness could be
good outcomes…
• … or low expectations
• Or due to human quirks
• Gallup: huge jump in
national well-being in US
shortly after Obama took
office…
• Compromises, e.g. UN
HDI
Source: Financial Times
TOPIC C: STRUCTURE
The Economy & Economic Growth
1.
2.
3.
4.
5.
6.
Conceptualizing the economy
National income accounts
GDP, welfare and public policy
Efficiency and production possibilities
Modern economic growth
Productivity performance
FROM EXPENDITURE TO OUTPUT
• So far, thinking about GDP as the sum of all
expenditure – C, I, G, NX
• Remember that GDP is also the sum of all income, in wages,
profits, rents, etc.
• GDP is the flow accruing to factors of production
• Stocks vs. flows
• Three main factors of production
• L: Labour, or human capital
• N: Land, or natural capital
• K: Physical & financial capital – formed by investment
• The relationship between inputs and outputs is
‘technology’, A
THE PRODUCTION FUNCTION
120
K=100, α=2/3
Output
100
80
60
• Output depends on:
• Capital (100 units)
• Labour (1…100 workers)
• Technology
• Y = f (A, K, L, N)
40
20
A=1
0
0
• Here, leaving aside N
20 40 60 80 100
Input (Labour)
Production function, Y=AK1-αLα
(1) Diminishing marginal product
(2) Constant returns to scale
DMR & CRTS
• For a fixed stock of
capital (and land),
adding more workers will
lower their incomes
• The “getting in the way”
effect
• But if K, L and N are
doubled, what happens
output?
• Constant RTS
• Or increasing or
decreasing RTS?
PRODUCTION POSSIBILITIES FRONTIER
• Suppose there are 2 goods
in the economy: bagels
(α=0.8) & iPads (α=0.4)
• We can allocate our 100
workers any way we want ->
• A curve showing all possible
combinations of production
100
80
iPads
• What does α mean?
• Both have K=100 (e.g.
factory dedicated to that
good – can’t make other
good)
• “A” (technology) is the same
for both
120
60
40
20
0
0
20
40
60
80 100 120
Bagels
Production possibilities
frontier
PPF & TECHNOLOGY
• Reducing inefficiency (XZ)
• Reallocating resources
(YZ)
• Economic growth (this
graph compared to last
one)
120
100
Y
80
iPads
• An improvement in
technology (A from 1 to
1.1) expands economic
possibilities
• Can consume more of both
• Important distinction
between…
Z
60
X
40
20
0
0
20
40
60
80 100 120
Bagels
Production possibilities
frontier
PPF & TRADE
• In a one-economy model, the PPF contains insights
about (in)efficiency and full employment
• It does not say anything about whether it is preferable to
produce more bagels or more iPads
• About technology (supply) not preferences (demand)
• Adding a second country, with a different
technology, still tells us nothing about consumption
• But it does reveal insights about who should produce what
• Comparative advantage and opportunity cost
• More on this in Topic H
• International trade and competitiveness
TOPIC C: STRUCTURE
The Economy & Economic Growth
1.
2.
3.
4.
5.
6.
Conceptualizing the economy
National income accounts
GDP, welfare and public policy
Efficiency and production possibilities
Modern economic growth
Productivity performance
WORLD HISTORY IN ONE GRAPH…
PRE-MODERN ECONOMIC GROWTH
Malthusian
 Any technological
improvement goes to higher
populations not higher
incomes
 Without sufficient food (i.e.
without technology/
productivity) a larger
population is “selfcorrecting” (war, famine)
 As per Hobbes, “the life of
man [is] solitary, poor, nasty,
brutish & short”
Thomas Robert Malthus, 1766-1834
SWITCHING GROWTH ON?
• How did the trend level of growth in average
incomes go from 0% to 2-3%?
• Technological progress – in the cotton industry first – is at the
heart of the first escape from the Malthusian Trap
• Britain in the late 1700s and early 1800s – cf. Topic A
• Modern economic growth has spread to most parts
of the world in the last two centuries
• What does this tell us about how less developed
countries today can embark on economic growth?
• Need a conceptual framework and theory of economic
growth
PRODUCTION FUNCTIONS AGAIN…
120
• Output depends on:
K=100, α=2/3
• Capital (100 units)
• Labour (1…100 workers)
• Technology
Output
100
80
60
40
A=1
20
0
0
20 40 60 80 100
Input (Labour)
Production function, Y=AK1-αLα
• For given stocks of
capital and labour,
economic growth =
A (improvement in
technology)
AGGREGATE VS. PER CAPITA
• Aggregate GDP
• Y = f (A, K, L, N)
• An increase in L leads to an increase GDP (US vs. Ireland)
• Per capita GDP
• Y/L = f (A, K, N)
• With N fixed, growth in per capita output comes from A, K
• Hence the focus on…
• Attracting capital
• Technological progress
• Remember that A = “broad technology”
• E.g. reducing inefficient processes increases A
EXOGENOUS GROWTH MODELS
• Roots in 1950s (Robert Solow, MIT)
• Based on production function
• Diminishing returns means growth can’t come from
physical capital
• Adding extra capital to fixed stock of labour is just like the
reverse (Burdock’s example)
• Per-capita incomes: growth can’t come from
labour either
• Assuming constant returns to scale…
• Growth instead comes from technological progress,
which is simply assumed
• Not a very satisfying view of the world!
ENDOGENOUS GROWTH MODELS
• Popular in/since 1990s (Paul Romer, Stanford)
• Aim: where do technological progress come from?
• Together with fluctuations (boom/bust cycles),
understanding trend growth rates a key concern of
macroeconomics
• A number of strands of endogenous growth model
• One strand abandons diminishing returns to accumulating
capital
• Another tries to explain technological progress; new ideas
rewarded -> innovation
• A third focuses on “human capital” (skills): as important as
physical capital
CAN GROWTH CONTINUE FOREVER?
• Is it possible to improve
things 1% a year?
3%
2%
• Services now 75-80% of
developed economies
• What is resource footprint
of service (vs. good)?
0.80%
• Type of goods consumed
matters also
€900,000
€800,000
€700,000
€600,000
€500,000
€400,000
€300,000
€200,000
€100,000
€0
0.20%
• €50,000 vs. €750,000 in 100
years time
• Note also imprecision with
which GDP is measured
Per capita income (€) in
2115, different growth rates
Now
• Scale of growth matters –
0.2% vs. 0.8% vs. 2% vs 3%
TOPIC C: STRUCTURE
The Economy & Economic Growth
1.
2.
3.
4.
5.
6.
Conceptualizing the economy
National income accounts
GDP, welfare and public policy
Efficiency and production possibilities
Modern economic growth
Productivity performance
LABOUR’S MARGINAL PRODUCT
• Ultimately, per capita incomes depend on the
value of output a worker produces
• Economics often assumes that wages reflect the ‘marginal
product of labour’
• An increase in MPL could come about due to
changes in the price of what they produce
• The difficulty with measuring productivity in domestically
traded and public services
• Balassa-Samuelson effect : the economics of hairdressers’
wages
• Strictly, though, productivity is about the quantity of
output (of a fixed quality) produced in, say, 1 hour
PRODUCTIVITY PER HOUR WORKED
50
45
Value added, per hour worked (€)
40
35
30
25
20
15
Ireland (GDP)
euro-14
10
1980
1982
1984
1986
Ireland (GNP)
USA
1988
1990
1992
1994
Northern Ireland
Denmark
1996
1998
2000
2002
UK
OECD
2004
2006
2008
2010
Source: National Competitiveness Council (2012)
A REGIONAL PERSPECTIVE…
1980-1990
1990-2000
2000-2007
2007-2010
1980-1990
1990-2000
2000-2007
2007-2010
1980-1990
1990-2000
2000-2007
2007-2010
1980-1990
1990-2000
2000-2007
2007-2010
1980-1990
1990-2000
2000-2007
2007-2010
1980-1990
1990-2000
2000-2007
2007-2010
1980-1990
1990-2000
2000-2007
2007-2010
1980-1990
1990-2000
2000-2007
2007-2010
PRODUCTIVITY VS. UTILISATION
8%
Productivity
Ireland
(GDP)
Ireland
(GNP)
Northern
Ireland
Hours Worked
6%
4%
2%
0%
*
-2%
-4%
-6%
UK
euro-14
USA
Denmark
OECD
Source: National Competitiveness Council (2012)
PRODUCTIVITY BY SECTOR
120
EUR (2003) value added, per hour worked
100
80
Modern Manufacturing
Tradable Market Services
Economy average
Non-tradable Market Services
Public Services
Agriculture & Food-Processing
Traditional Manufacturing
Construction
60
40
20
0
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
Source: National Competitiveness Council (2012)
THE PROBLEM OF TRANSFER PRICING
140
Value added, per hour worked (€)
120
100
80
60
40
20
0
1980
1982
1984
1986
1988
1990
EU
1992
IRL
1994
USA
1996
UK
1998
DK
2000
2002
2004
2006
Source: National Competitiveness Council (2012)
WHICH SECTORS DRIVE PRODUCTIVITY?
3.5%
3.0%
2.5%
2.0%
1.5%
1.0%
0.5%
0.0%
-0.5%
-1.0%
19902000
20002007
19902000
Eurozone-14
Agri-Food
Construction
20002007
Ireland
Public services
19902000
20002007
Ireland (adj)
Non-tradable
19902000
20002007
USA
Traditional Manuf
19902000
20002007
UK
Tradable Services
19902000
20002007
Denmark
Modern Manuf
Source: National Competitiveness Council (2012)
POLICY & PRODUCTIVITY
• Can boost incomes by…
• Composition effects: moving the economy from lowproductivity sectors (e.g. agriculture, construction) to highproductivity sectors (e.g. ICT, financial services)
• Level effects: boosting the rate of productivity within a
sector, e.g. how many labour hours needed to build a
family dwelling
• Can increase productivity by thinking about how
scarce resources are used
• E.g. what % of hours are spent by typical SME filling out
forms for government? Can this be reduced by, say, 25%?
• Freeing up labour without affecting outcomes
THE COSTS OF ADMIN BURDEN
Estimate of costs of administrative burden, as % of GDP
6%
5%
4%
Low
3%
High
2%
1%
0%
Finland
UK
Ireland
France
Italy
Poland
Source: European Commission (2006)
BOOSTING FIRM-LEVEL PRODUCTIVITY
•
•
•
•
•
•
•
•
•
Investment in ICT
Investment in more efficient equipment
Greater energy efficiency
Training
Which of these is
Management development
aimed at…
Process innovation
A? K? L? N?
HR management
Exposure to international trade
Benchmarking tools
RECAPPING…
• Three related ways of capturing size of economy
and thus living standards
• Y = C + I + G + NX
• Y=w+π+r
• Y = f(A,K,L,N)
[expenditure]
[income]
[output]
• Ultimately, income per capita (Y/L) depends on
capital per person, land per person and technology
• For ever-rising living standards, technological progress
(broadly defined) needed
• This makes labour more productive
ESSAY & EXAM-STYLE QUESTIONS
• What are the arguments for and against using GDP
as a measure of living standards? Are there any
factors particularly relevant to Ireland?
• Can average incomes in Ireland grow indefinitely?
• Why is productivity growth important? How can Irish
policymakers boost productivity?