Economic Growth

Economic growth is the long term expansion of a countrys productive potential Short term growth is measured by the annual % change in real national output – this is mainly driven by the level of aggregate demand (C+I+G+X-M) but is also affected by shifts in SRAS Long term growth is shown by the increase in trend or potential GDP and this is illustrated by an outward shift in a countrys long run aggregate supply curve (LRAS) Key drivers of growth There have been numerous research studies in what determines long term GDP rowth Every country is different, each factor will vary in importance for a country at a given point in time Advantages of Economic Growth 1. Higher living standards – i. e. an increase in real income per head of population 2. Employment effects – growth stimulates more Jobs to help new people as they enter the labour market 3.

Investment – the accelerator effect – rising demand and output encourages investment – this sustains growth by increasing long run aggregate supply 4. Consumer and business confidence – growth has a positive impact on business profits & confidence. A stronger economy will help to persuade consumers that the time is right to make major purchases 5. Growth can also help protect the environment such as low-carbon investment, innovation andresearch and development, resulting in more efficient production processes to reduce costs. Ethical consumerism and corporate social responsibility has become important in recent years. Disadvantages of economic growth There are economic and social costs of a fast-expanding economy.

Inflation risk: If demand races ahead of aggregate supply the scene is set for rising prices. Many fast rowing developing countries have seen high rates of inflation in recent years, a good example is India Working hours – sometimes there are fears that a fast-growing economy places increasing demands on the hours that people work and can upset work-life balance Structural change – although a growing economy will be creating more Jobs, it also leads to structural changes in the pattern of Jobs. Some industries will be in decline whilst others will be expanding. Structural unemployment can rise even though it appears that a country is growing – the labour force needs to be ccupationally mobile.

Environmental concerns: Fast growth can create negative externalities for example higher levels of noise pollution and lower air quality arising from air pollution and road congestion Increased consumption of de-merit goods which damages social welfare It can leads to a huge increase in household and industrial waste which again creates external costs for society What can limit the rate of economic growth? Infrastructure – infrastructure includes capital such as ports, transport networks, energy, power and water supplies and telecommunications networks. Poor infrastructure hampers growth because it causes higher costs and delays for businesses, reduces the mobility of labour and hits the ability of export businesses to get their products to international markets. A good example is India whose future growt n is otten said to be threatened by structural weaknesses in ner intrastructure.

Many countries will need to increase their spending on infrastructure in the years ahead to adapt to and deal with the consequences of climate change. Dependence on limited exports – many nations still relying on specialising and then exporting low alue added primary commodities and the prices of these goods can be highly volatile on world markets. When prices fall, an economy will see a sharp reduction in export incomes, a higher trade deficit and a growing risk that a nation will not be able to finance investment in education, healthcare and core infrastructure. Over- specialisation can make a country vulnerable to the global economic cycle. Vulnerability to external shocks – in todays global economy, events in one part of the world can quickly have an effect in many other countries.

Consider the fall-out from he global financial crisis of 2007-2010 which brought about recession and deep financial distress in many regions. Low national savings and low absolute savings – savings are needed to provide finance for investment. In many smaller low-income countries, high levels of poverty make it almost impossible to generate sufficient savings to provide the funds needed to fund investment projects. This increases reliance on international borrowing or tied aid. Limited access to financial capital and poorly developed domestic capital markets – this is particularly the case for many mall, low-income countries Corruption and poor governance – this is a crucial factor for many developing countries.

High levels of deeply embedded corruption and bureaucratic delays can harm growth in many ways for example inhibiting inward investment and also making it more likely that domestic businesses will invest overseas rather than at home. Governments need a stable and effective legal framework to collect taxes to pay for public services. Look at deficit and debt problems facing countries such as Greece. In India, there are 15 times more phone ubscribers than taxpayers. If a legal system cannot protect private property rights then there will be less research and development & innovation. Declining and/or ageing population – in some countries the actual size of the population is declining partly as a result of net outward migration. If a nation loses many younger workers this can have a damaging effect on growth.

The changing age-structure of a population also matters, leading for example to a fall in the ratio of workers to dependants. Rising inflation – fast growing countries may experience an accelerating ate of inflation which can have damaging economic consequences – these are covered in the chapter on inflation. Two effects in particular can hit growth, namely falling real incomes and profits together with higher costs and reduced competitiveness in international markets. In our chart below we track real GDP growth and inflation rates in India – notice the steep rise in inflation in recent years. Many other developing countries have seen high rates of inflation in large part because of booming food and other commodity prices.