Economics 302 (Sec. 001) Intermediate Macroeconomic Theory and Policy (Spring 2011) 4/27/2011. UW Madison

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1 Economics 302 (Sec. 001) Intermediate Macroeconomic Theory and Policy (Spring 2011) 4/27/2011 Instructor: Prof. Menzie Chinn Instructor: Prof. Menzie Chinn UW Madison

2 Technological Progress and the Production Function Technological progress has many dimensions. It may mean: Larger quantities of output Better products New products A larger variety it of products Technological progress leads to increases in output for given amounts of capital and labor. lb 2of 30

3 Technological Progress and the Production Function Let s denote the state of technology by A and rewrite the production function as: Y = F( K, N, A) (+ + +) A more restrictive but more convenient form is Y = F( K, AN ) Output depends on both capital and labor (K and N), and on the state of technology (A). AN is labor efficiency units. 3of 30

4 Technological lprogress and the Production Function The relation between output per effective worker and capital per effective worker is: which we can redefine as Y K = F, 1 AN AN Y AN K = f AN In words: Output per effective worker is a function of capital per effective worker. 4of 30

5 Technological lprogress and the Production Function Figure 12 1 Output per Effective Worker versus Capital per Effective Worker Because of decreasing returns to capital, increases in capital per effective worker lead to smaller and smaller increases in output per effective worker. 5of 30

6 Interactions between Output and Capital The dynamics of output and capital per worker involve: The relation between output per worker and capital per worker. Dividing idi both sides by AN, we get I = S = sy I s Y = AN AN Given that Y AN = f K I AN AN sf K then, = AN 6of 30

7 Interactions between Output and Capital The dynamics of output and capital per worker involve: The relation between depreciation per worker equivalently, the investment per worker needed to maintain a constant level of capital per worker and capital per worker. δk + ( g = g ) K A N or equivalently ( δ + g + g ) K A N The amount of investment per effective worker needed to maintain a constant level of capital per effective worker is 7of 30 ( δ + g + g ) A N K AN

worker increases with capital per effective

8 Interactions between Output and Capital This figure focuses on output, capital, and investment per effective worker, rather than per worker: Output per effective worker increases with capital per effective worker, but at a decreasing rate. The relation between investment per effective worker and capital per effective worker is drawn as the upper curve, multiplied li li dby the saving rate, s. Tech progress is A increasing. 8of 30

9 Dynamics of Capital and Output In steady state, output (Y) grows at the same rate as effective labor (AN); effective labor grows at a rate (g A +g N ); therefore, output growth in steady state equals (g A +g N ). Capital per effective worker also grows at a rate equal to (g A +g N ). The growth rate of output is independent of the saving rate. Because output, capital, and effective labor all grow at the same rate, (g A +g N ), the steady state of the economy is also called a state of balanced growth. 9of 30

The Effects of the Saving Rate Figure 12

10 The Effects of the Saving Rate Figure 12 3 The Effects of an Increase in the Saving Rate: I An increase in the saving rate leads to an increase in the steady-state levels of output per effective worker and capital per effective worker. 10 of 30

11 The Effects of the Saving Rate Figure 12 4 The Effects of an Increase in the Saving Rate: II The increase in the saving rate leads to higher growth until the economy reaches its new, higher, balanced growth path. 11 of 30

12 12 2 Determinants of Technological Progress Technological progress in modern economies is the result of firms research and development (R&D) activities. The outcome ofr&dis fundamentally ideas. Spending on R&D depends on: The fertility of the research process, or how spending on R&D translates into new ideas and new products, and the appropriability of research results, or the extent tto which h firms benefit from the results of their own R&D. 12 of 30

13 12 2 Determinants of Technological Progress The Fertility of the Research hprocess The determinants of fertility include: The interaction between basic research (the search for general principles and results) and applied research (the application of results to specific uses). The country: some countries are more successful at basic research; others are more successful at applied research and development. Time: It takes many years, and often many decades, for the full potential of major discoveries to be realized. 13 of 30

14 12 2 Determinants of Technological Progress The Appropriability of Research hresults If firms cannot appropriate the profits from the development of new products, they will not engage in R&D. Factors at work include: The nature of the research process. Is there a payoff in being first at developing a new product? Legal protection. ti Pt Patentst give a firm that t has discovered d a new product the right to exclude anyone else from the production or use of the new product for a period of time. 14 of 30

16 .07 Labor Productivity Growth Labor productivity it growth, 4 qtr change

Department of Economics. Harvard University. Spring Honors General Exam. April 6, 2011

Department of Economics. Harvard University. Spring 2011 Honors General Exam April 6, 2011 The exam has three sections: microeconomics (Questions 1 3), macroeconomics (Questions 4 6), and econometrics