L13 - The Classical Model of Economic Growth Flashcards Preview

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Flashcards in L13 - The Classical Model of Economic Growth Deck (22)
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1
Q

How is Economic Growth defined?

A

Economic growth is the rate of change in real GDP per capita over a long period of calendar time

2
Q

What can be noted from the definition of Economic Growth?

A

There are 4 points to note about this definition:

  • We are interested in real GDP growth (or growth in GDP at constant prices sometimes referred to as extensive growth) because this measures the quantity of goods and services produced, rather than their monetary values
  • Growth is also measured in per capita terms (sometimes called intensive growth) otherwise population growth might outstrip real GDP growth thus making every individual worse off
  • Growth is measured over relatively long periods of calendar time – say periods of 7 to 10 years – since in the short run little changes and economic growth is trying to capture the growth in the economy’s productive potential
  • The growth rate needs to be measured from the same point of the business cycle; i.e. from peak to peak or trough to trough to avoid cyclical exaggerations
3
Q

What is the UK growth experience?

A

There are some very interesting facts about growth:

  • Economic growth is a very recent phenomenon - until the 18th century there was no economic growth! Then it was very slow:
  • 1700-1750 – 0.6% pa and 0.24% per capita pa
  • 1750-1776 – 1.0% pa and 0.38% per capita pa
  • 1776-1800 – 2.8% pa and 0.53% per capita pa
  • Feudal society was a no growth society and indeed commercial capitalism from the late 16th century onwards did not generate significant economic growth. Only in the last half of the 18th century was growth over 1% pa –> due to Industrial Revolution caused the growth
4
Q

Who attempted to first explain economic growth?

A
  • The so-called Classical model of economic growth was the first attempt to explain the economic growth in late18th and early19th century Britain – the originator was Adam Smith (1723 - 90)
  • Smith’s model was in fact incorrect – inconsistent with both the facts and the definition of economic growth we have already used and so it was ‘corrected’ by his successors:
  • Thomas Malthus (1766 - 1834)
  • David Ricardo (1772 -1823) and later,
  • Karl Marx (1818 - 1883)
5
Q

What did Adam Smith say about economic growth?

A

For Smith there were 3 pre-requisites for economic growth to take place:

  • The security of property was necessary for the supply of effort and capital
  • Control of primogeniture (this enabled the landed gentry to keep large estates, which were not necessarily farmed intensively)
  • Infra-structure to be provided by the state
6
Q

How is Division of Labour defined?

A

Division of labour is an economic concept which states that dividing the production process into different stages enables workers to focus on specific tasks. If workers can concentrate on one small aspect of production, this increases overall efficiency – so long as there are sufficient volume and quantity produced.

7
Q

How can division of labour increase output?

A
  • Book I of the Wealth of Nations emphasised that the productivity of labour depended on the extent of the division of labour
    The division of labour increased output through 3 channels:
    -Dexterity of workforce improves with practice
  • Time saved moving between tasks
  • Machinery can be employed
8
Q

How did Adam Smith believe growth Accumulated?

A
  • The division of labour led to higher productivity, increased output and capital accumulation
  • As capital accumulated, wages rose followed by population increases, which ensured an increased demand for the final products
  • In turn this gave rise to a further division of labour, higher productivity and so on
  • For Smith all sectors (landlords, manufactures and farmers) moved forward together: there was general harmony between the social classes. This was not true of his successors!
9
Q

What were some problems with Adam Smith’s view of Economic Growth?

A
  • Smith assumed that the extra population from economic growth would lead to more output – but this may not generate more output per head – and so could actually make individual’s worse off
  • Indeed the evidence is very much that this is the case: India has a GDP twice as large as Sweden’s but a population 80 times bigger – so India is relatively poor compared to Sweden
  • This is also a reason why residents of rich nations often protest against mass migrations
10
Q

What is Malthus’s theory of Population?

A
  • Malthus’s theory of population was essential to his ideas on economic growth: he assumed that population rose as a geometric progression, i.e.1, 2, 4, 8,16, 32, 64,….) whilst the food supply grew in an arithmetical progression, i.e. 1 ,2, 3, 4, 5, 6,….
  • Therefore unless population growth is checked the population would outgrow the supply of food
  • Population growth had to be restrained below its potential by checks on the birth rate (preventive checks) or death rate (positive checks). Such checks included – moral restraint, vice (birth control) and misery (starvation)
11
Q

What does Malthus’s theory of growth look like on a graph?

A
  • With Output per head of the y-axis and Labourers on the x-axis
  • with a negative gradient curve of Average Product (AP) –> Average output per head
12
Q

How can Malthus’s theory of growth as a graph be interpreted?

A
  • On the chart AP is the average product per head which declines as more workers are employed. At q{s} the workers are at the subsistence level of output. - So on AP{0} with less than n{0} workers, workers each earn above subsistence level, given by the relevant point on AP{0}
  • Because they are well-fed population grows until n is at n[0} and the subsistence level of income is reached
  • Suppose there is an increase in agricultural productivity which shifts the initial AP line up to say AP{1}. This has the temporary effect of raising living standards, but then again population grows and the model returns to q{s} at employment level n{1}.
  • Malthus believed that economic growth would not raise average living standards because of population growth
13
Q

What was Ricardo’s theory of growth based on?

A
  • David Ricardo’s theory of growth was based on his theory of rent. Ricardo was more optimistic about growth, but this result depended on the repeal of the Corn Laws, which prevented imports of corn.
  • [The Corn Laws were not abolished until 1846 – so Ricardo predicted growth to cease.] –> this was after the french revolution
  • The model is based on the average product (AP) and marginal products (MP) of land, which divides total product between the three classes: landowners, capitalists and peasants. Profit (for capitalists) is the residual after they have paid rent to landlords and wages to labour
14
Q

What is Ricardo’s Model of Growth?

A
  • Rent is the vertical gap between the AP and MP lines. The argument was that it is the marginal strip of land that determines the rental value of all more fertile land.
  • As less fertile land was used to feed the growing population – rents increased, but given subsistence wages, profits were squeezed. Eventually that there would be no profits and hence no growth – since it was the capitalists who re-invested their surplus
  • If the corn laws were abolished growth would continue, because food could be imported and manufactures exported to pay for them.
15
Q

What does Ricardo’s model of Growth look like of a graph?

A
  • With Output of the y-axis and Land on the x-axis
  • there are two negative gradient curves of Average Product and Marginal Product with AP having the less steep gradient
  • At any value of L the difference between the AP and MP lines is rent, if wage is therefore a fixed price the area of space left over, if any, is profit
16
Q

What is the Explanation of Ricardo’s Model of Growth?

A
  • Initially think of 0L{1} units of land being farmed and producing output of 0C{0} and a national income equal to the rectangle 0L{0}AC{0}. This income is divided between workers (wages) capitalist farmers (profits) and landowners (rent). For economic growth Ricardo realised that profits were important – these were the seed corn for next years crop.
    As population expanded more land would be need to feed them – which would push up rents – until all profits are wiped out as to 0L{2}. In this case there are no profits to invest and growth ceases.
17
Q

What is the Summary of Ricardo’s Theory of Economic Growth?

A
  • Capital accumulation led to increased output. Increased output led to an increase in population growth and higher demand for food. Due to the scarcity of fertile land, less fertile land would be brought into production, so the price of food and rents would rise
  • Wages would rise – to prevent starvation - and so with higher rents and wages profits would fall. Eventually profits would fall so low there would be no incentive to invest and growth would end – “the stationary state” would be reached
  • Ricardo’s model predicted a conflict between capitalists and landlords (over the Corn Laws)
18
Q

Who was Karl Marx see growth differently to David Ricardo?

A
  • Marx, writing in the 1830s and 1840, saw things a little different to Ricardo writing 20-25 years earlier – partly because of the rapid growth of industry and of cities (like Manchester and Glasgow) whose fast growth had lead to dreadful living conditions
  • Perhaps the most distasteful effect of the factory system was child labour. Children frequently began work at 4 yrs old, and worked from dawn until dusk
19
Q

What did Fredrick Engels say about living conditions in 1844?

A
  • Fredrick Engels in his The Condition of the Working Class in England in 1844, reports a government commissioner on his visit to an area of Glasgow which housed between 15,000 and 30,000 people:
  • The district is composed of many narrow streets and square courts and in the middle of each court there is a dunghill…..In some bedrooms…we found a whole mass of humanity stretched on the floor. There were often 15 to 20 men and women huddled together, some being clothed and others naked. There was hardly any furniture there and the only thing which gave these holes the appearance of a dwelling was fire burning on the hearth. Thieving and prostitution are the main sources of income of these people.
20
Q

What model did Karl Marx base his theory on?

A
  • Marx was a classical economist and so used essentially the same model as Ricardo to show that profits were the result of capitalists exploiting workers
  • Capitalists buy labour power at its value – the cost of workers subsistence. Because this is less than the value of the commodities the workers produce the capitalists are left with a surplus
  • Example: Suppose the worker works 12 hours, but it takes only 4 hours to produce his subsistence then 8 hours of unpaid labour have been provided. This “unpaid labour” is expropriated as profits by the capitalists
21
Q

What is Marx’s Model of Growth?

A
  • Marx assumed that the organic composition of capital – the ratio of fixed capital (machinery) to that used to employ labour (working capital or wages fund) – would rise steadily with increased mechanisation as capitalists substituted machines for men
  • For a constant rate of exploitation (i.e. profits/wages), then the rate of profit (profits/capital stock) must fall
  • In this situation capitalists tried to increase the rate of exploitation by: innovation; increasing the length of the working day; and pushing down wages. The result was a rise in the “industrial reserve army” of the unemployed
  • Although some capitalists fail, due to competition the ones that remain become bigger and richer as strong firms take over the weak: and so industrial concentration rises
  • The working class – the proletariat - become pauperised, mechanisation reducing work to mere mechanical activity, causing a deterioration in working conditions –> led to physical and psychological harm
  • In Marx’s model the conflict is between the workers and the capitalists. The socialist revolution comes when the workers revolt and take over the means of production!
22
Q

What was the Evidence for Marx’s Model on Growth?

A
  • Marx’s story fits well with British industry in the 1830s and 1840s, (e.g. hand-loom weavers wages fell from £1.15 per week in 1805 to 41p in 1818 and to 30p by 1831, due to the introduction of power looms)
  • After 1850, however, real wages began to rise and working conditions improved (e.g. Factory Act 1833 – no child under 9 yrs to be employed; The Reform Act 1867, Education Acts 1870) and so the social revolution that Marx thought would happen in England never happens