Long-term Economic

Growth and
Supply-side Policies
Long-term Growth and Supply-side Policies

Economic Growth in
the Long run
ECONOMIC GROWTH IN THE LONG RUN

■ Growth over the decades

✜ long-term growth versus short-term
fluctuations
 UK GDP at market prices (1995=100)
120

110

100
Real GDP (1995 = 100)

90

80

70

60

50

40

30
1950 1960 1970 1980 1990 2000
 UK GDP at market prices (1995=100)
120

110

100
Real GDP (1995 = 100)

90

80

70

60

50

40

30
1950 1960 1970 1980 1990 2000
Average annual percentage growth rate
in GDP per person employed
Average annual percentage growth rate
in GDP per person employed
Average annual percentage growth rate
in GDP per person employed
Average annual percentage growth rate
in GDP per person employed
Average annual percentage growth rate
in GDP per person employed
ECONOMIC GROWTH IN THE LONG RUN

■ Growth over the decades

✜ long-term growth versus short-term
fluctuations
✜ convergence of rich economies
ECONOMIC GROWTH IN THE LONG RUN

■ Growth over the decades

✜ long-term growth versus short-term
fluctuations
✜ convergence of rich economies
✜ growing gap between the richest and
poorest countries
ECONOMIC GROWTH IN THE LONG RUN

■ Growth over the decades

✜ long-term growth versus short-term
fluctuations
✜ convergence of rich economies
✜ growing gap between the richest and
poorest countries
✜ the determinants of economic growth
ECONOMIC GROWTH IN THE LONG RUN

■ Growth over the decades

✜ long-term growth versus short-term
fluctuations
✜ convergence of rich economies
✜ growing gap between the richest and
poorest countries
✜ the determinants of economic growth
✦ increase in quantity of factors
ECONOMIC GROWTH IN THE LONG RUN

■ Growth over the decades

✜ long-term growth versus short-term
fluctuations
✜ convergence of rich economies
✜ growing gap between the richest and
poorest countries
✜ the determinants of economic growth
✦ increase in quantity of factors
✦ increase in productivity
Output per person employed in 2000
relative to that in 1961
Productivity in selected countries, 1999 (UK = 100)
Productivity in selected countries, 1999 (UK = 100)
Productivity in selected countries, 1999 (UK = 100)
Productivity in selected countries, 1999 (UK = 100)
ECONOMIC GROWTH IN THE LONG RUN

■ Capital accumulation
✜ simple model of economic growth
✦ diminishing returns to capital
✦ growing proportion of replacement investment
✜ growth to a long-run equilibrium national
income
Output (Y), Investment (I), Depreciation (D) Steady-state output

Output (Y)

f
Y1

a Depreciation (D)
Y0

Investment (I)
g
I0
b
D0 c

O K0 K1
Capital stock (K)
ECONOMIC GROWTH IN THE LONG RUN

■ Capital accumulation
✜ simple model of economic growth
✦ diminishing returns to capital
✦ growing proportion of replacement investment
✜ growth to a long-run equilibrium national
income
✦ effect of an increase in the saving rate
 Effect of an increase in the rate of saving and investment
Output (Y), Investment (I), Depreciation (D)

m Y
Y2
f
Y1

n I2
h
I1
g

K1 K2
Capital stock (K)
ECONOMIC GROWTH IN THE LONG RUN

■ Capital accumulation
✜ simple model of economic growth
✦ diminishing returns to capital
✦ growing proportion of replacement investment
✜ growth to a long-run equilibrium national
income
✦ effect of an increase in the saving rate
✦ human capital and education
ECONOMIC GROWTH IN THE LONG RUN

■ Capital accumulation
✜ simple model of economic growth
✦ diminishing returns to capital
✦ growing proportion of replacement investment
✜ growth to a long-run equilibrium national
income
✦ effect of an increase in the saving rate
✦ human capital and education
✜ an optimum rate of saving?
Consumption An optimum saving rate

a b
O 100
Saving rate (%)
 An optimum saving rate

m
C*
Consumption

a b
O s* 100
Saving rate (%)
ECONOMIC GROWTH IN THE LONG RUN

■ Capital accumulation
✜ simple model of economic growth
✦ diminishing returns to capital
✦ growing proportion of replacement investment
✜ growth to a long-run equilibrium national
income
✦ effect of an increase in the saving rate
✦ human capital and education
✜ an optimum rate of saving?
✜ an increase in the workforce
ECONOMIC GROWTH IN THE LONG RUN

■ Technological progress
✜ the effect on output
Output (Y), Investment (I), Depreciation (D) Effect of embodied technological progress

p Y2
Y2
Y1

f
Y1
D

n I2
h
I1
g

K1 K2
Capital stock (K)
ECONOMIC GROWTH IN THE LONG RUN

■ Technological progress
✜ the effect on output
✦ the steady-state growth path
 Effect of technological progress on growth rates

Higher rate
of technological
progress
Output

Lower rate
of technological
progress

Time
ECONOMIC GROWTH IN THE LONG RUN

■ Technological progress
✜ the effect on output
✦ the steady-state growth path
✜ the effect of an increase in the saving rate
ECONOMIC GROWTH IN THE LONG RUN

■ Technological progress
✜ the effect on output
✦ the steady-state growth path
✜ the effect of an increase in the saving rate
✦ movement to a higher steady-state growth path
 Effect of an increase in the saving rate,
with a given rate of technological progress

Steady-state
growth path 1
Output

Actual
growth path
Slope determined
by rate of
technological progress

Time
 Effect of an increase in the saving rate,
with a given rate of technological progress
Steady-state
growth path 2

Steady-state
growth path 1
Output

Actual
growth path
Rate of saving
increases
at time t1

t1 Time
ECONOMIC GROWTH IN THE LONG RUN

■ Technological progress
✜ the effect on output
✦ the steady-state growth path
✜ the effect of an increase in the saving rate
✦ movement to a higher steady-state growth path

■ Endogenous growth theory

ECONOMIC GROWTH IN THE LONG RUN

■ Technological progress
✜ the effect on output
✦ the steady-state growth path
✜ the effect of an increase in the saving rate
✦ movement to a higher steady-state growth path

■ Endogenous growth theory

✜ determinants of technological progress
ECONOMIC GROWTH IN THE LONG RUN

■ Technological progress
✜ the effect on output
✦ the steady-state growth path
✜ the effect of an increase in the saving rate
✦ movement to a higher steady-state growth path

■ Endogenous growth theory

✜ determinants of technological progress
✜ importance of institutional factors and
incentives
Long-term Growth and Supply-side Policies

Supply-side Policies
 SUPPLY-SIDE POLICIES

■ Supply-side policies and

macroeconomic problems
✜ economic growth
✜ unemployment
✜ inflation
■ Market-based approach to supply-side
policy
✜ market-orientated supply-side policies
 Aggregate demand and supply: monetarist analysis

AS1 AS2
Price level

P1

P2

AD

O Q1 Q2
National output
Inflation (%) Long-run Phillips curve: monetarist analysis

O Un2 U n1
Unemployment (%)
 SUPPLY-SIDE POLICIES

■ Supply-side policies and

macroeconomic problems
✜ economic growth
✜ unemployment
✜ inflation
■ Market-based approach to supply-side
policy
✜ market-orientated supply-side policies
✜ neo-Austrian / libertarian school
 SUPPLY-SIDE POLICIES

■ Keynesian approach to supply-side

policy
 Aggregate demand and supply: Keynesian analysis
AS1 AS2
Price level

AD2

AD1

O Q1 Q2 Q3
National output
Inflation (%) Phillips curves: Keynesian analysis

II
O
Unemployment (%)
 SUPPLY-SIDE POLICIES

■ Keynesian approach to supply-side

policy
✜ interventionist supply-side policies
 SUPPLY-SIDE POLICIES

■ Keynesian approach to supply-side

policy
✜ interventionist supply-side policies

■ 'Third-Way' supply-side policies

 SUPPLY-SIDE POLICIES

■ Keynesian approach to supply-side

policy
✜ interventionist supply-side policies

■ 'Third-Way' supply-side policies

■ The link between demand-side and

supply-side policies
Long-term Growth and Supply-side Policies

Market-orientated
Supply-side Policies
 MARKET-ORIENTATED SUPPLY-
SIDE POLICIES
■ Varieties of market-orientated supply-
side policies
■ Reducing government expenditure
Government expenditure (central plus local) as a
percentage of GDP at market prices
Government expenditure (central plus local) as a
percentage of GDP at market prices
Government expenditure (central plus local) as a
percentage of GDP at market prices
Government expenditure (central plus local) as a
percentage of GDP at market prices
Government expenditure (central plus local) as a
percentage of GDP at market prices
Government expenditure (central plus local) as a
percentage of GDP at market prices
 MARKET-ORIENTATED SUPPLY-
SIDE POLICIES
■ Varieties of market-orientated supply-
side policies
■ Reducing government expenditure
■ Income tax cuts
 MARKET-ORIENTATED SUPPLY-
SIDE POLICIES
■ Varieties of market-orientated supply-
side policies
■ Reducing government expenditure
■ Income tax cuts
✜ effects on supply of labour
 MARKET-ORIENTATED SUPPLY-
SIDE POLICIES
■ Varieties of market-orientated supply-
side policies
■ Reducing government expenditure
■ Income tax cuts
✜ effects on supply of labour
✜ effects on unemployment
 Effect of a tax cut on total unemployment
ASL
N
after-tax wage rates (W)

Position with
no taxes
Labour costs (k),

x y
W0

ADL

O Q0
Number of workers
 Effect of a tax cut on total unemployment
ASL
N
after-tax wage rates (W)

a
k1
Labour costs (k),

T
A
X
Equilibrium
with taxes
W1
b e

ADL

O Q1
Number of workers
 Effect of a tax cut on total unemployment
ASL
N
Pre-tax
wage rate
(unit labour cost)
after-tax wage rates (W)

a
k1
Labour costs (k),

T
A
X
Equilibrium
with taxes
W1
b e

ADL

O Q1
Number of workers
 Effect of a tax cut on total unemployment
ASL
N
Pre-tax
wage rate
(unit labour cost)
after-tax wage rates (W)

a
k1
Labour costs (k),

T
A
X
Equilibrium
with taxes
W1
b e
After-tax
wage rate
(`take-home’ wage)
ADL

O Q1
Number of workers
 Effect of a tax cut on total unemployment
ASL
N
after-tax wage rates (W)

a
k1 c
Labour costs (k),

k2

W2 d f Equilibrium
with tax cut
W1
b e

ADL

O Q1 Q2
Number of workers
 Effect of a tax cut on total unemployment
ASL
N

New reduced
after-tax wage rates (W)

a unemployment
k1 c
Labour costs (k),

k2

W2 d f Equilibrium
with tax cut
W1
b e

ADL

O Q1 Q2
Number of workers
 MARKET-ORIENTATED SUPPLY-
SIDE POLICIES
■ Varieties of market-orientated supply-
side policies
■ Reducing government expenditure
■ Income tax cuts
✜ effects on supply of labour
✜ effects on unemployment
✜ effects on employment
 MARKET-ORIENTATED SUPPLY-
SIDE POLICIES
■ Varieties of market-orientated supply-
side policies
■ Reducing government expenditure
■ Income tax cuts
✜ effects on supply of labour
✜ effects on unemployment
✜ effects on employment

■ Tax cuts for business

 MARKET-ORIENTATED SUPPLY-
SIDE POLICIES
■ Reducing the power of labour
 Effect of reducing the power of labour
ASL
N

a b c
W1
Wage rate

Position with
unions: wage
rate above the
equilibrium

ADL
O Q1 Q2
Number of workers
 Effect of reducing the power of labour
ASL
N
Wage rate

e f
We

Union power
removed:
wage rate at
the equilibrium
ADL
O Qe
Number of workers
 MARKET-ORIENTATED SUPPLY-
SIDE POLICIES
■ Reducing the power of labour
■ Reducing welfare
 The effect of a cut in benefits on the number unemployed
ASL1 ASL
2

N
(Real) wage rate

b c a
We 1

Assumption:
wage rates not
flexible downwards

ADL
O
Number of workers
 The effect of a cut in benefits on the number unemployed
ASL1 ASL
2

N
(Real) wage rate

b c a
We 1
We 2 Assumption:
e d
wage rates are
flexible downwards

ADL
O
Number of workers
 Effect of a cut in benefits on the duration of unemployment

Wo
Wage rate

Wa 1

Wa 2

O T2 T1
Time
 MARKET-ORIENTATED SUPPLY-
SIDE POLICIES
■ Policies to encourage competition
✜ privatisation
✜ deregulation
✜ internal markets in the public sector
✜ the Private Finance Initiative
✜ free trade and capital movements
Long-term Growth and Supply-side Policies

Interventionist Supply-
side Policies
INTERVENTIONIST SUPPLY-SIDE POLICY

■ The case against the market

✜ too little R&D and training
✜ imperfections in the capital market
✦ problems of lack of investment
✦ problems of cyclical nature of investment

✜ the problem of de-industrialisation

■ UK experience of lack of investment

and de-industrialisation
Gross fixed capital formation as a
percentage of GDP: 1960–2001
Gross fixed capital formation as a
percentage of GDP: 1960–2001
Gross fixed capital formation as a
percentage of GDP: 1960–2001
Gross fixed capital formation as a
percentage of GDP: 1960–2001
Gross fixed capital formation as a
percentage of GDP: 1960–2001
UK balance of trade in manufactures:
selected years: 1978–2001
UK balance of trade in manufactures:
selected years: 1978–2001
UK balance of trade in manufactures:
selected years: 1978–2001
UK balance of trade in manufactures:
selected years: 1978–2001
Industrial and manufacturing production in the UK
and the OECD: selected years, 1970–2000
Industrial and manufacturing production in the UK
and the OECD: selected years, 1970–2000
INTERVENTIONIST SUPPLY-SIDE POLICY

■ The forms of intervention

✜ nationalisation
✜ grants
✜ rationalisation
✜ advice and persuasion
✜ information
✜ direct provision
INTERVENTIONIST SUPPLY-SIDE POLICY

■ Planning
✜ types of planning
✜ European experience of planning
■ Selective intervention
✜ research and development
✜ industrial reorganisation
✜ assistance to small firms
✜ training
Funding Welfare to Work (£ millions)
Funding Welfare to Work (£ millions)
Funding Welfare to Work (£ millions)
Funding Welfare to Work (£ millions)
Funding Welfare to Work (£ millions)
Funding Welfare to Work (£ millions)
Funding Welfare to Work (£ millions)
INTERVENTIONIST SUPPLY-SIDE POLICY

■ Planning
✜ types of planning
✜ European experience of planning
■ Selective intervention
✜ research and development
✜ industrial reorganisation
✜ assistance to small firms
✜ training
■ The case against intervention
Long-term Growth and Supply-side Policies

Regional and Urban

Policy
 REGIONAL AND URBAN POLICY

■ Causes of regional imbalance

✜ changing geographical patterns of demand
and supply
✜ market responses to imbalance
✜ regional multiplier effects
■ Causes of urban decay
✜ changing patterns of demand and supply
✜ local multiplier effects
 Regional (claimant) unemployment rates (%):

Region Unemployment (%)

Jan 1979 Jan 1987 Jan 1990 Jan 1993 Jan 1996 Jan 1999 Jan 2002

UK (average) 4.1 10.8 5.6 10.5 7.7 4.6 3.2

South East − 6.8 2.6 9.0 5.5 2.5 1.6

Eastern − 8.1 3.1 9.7 6.4 3.2 2.1
South West 4.1 8.8 3.8 9.8 6.5 3.3 2.1
East Midlands 3.4 9.7 4.9 10.0 7.0 4.0 3.1
London 2.8 8.9 4.7 11.6 9.1 5.2 3.5
West Midlands 3.9 12.4 5.7 11.1 7.6 4.7 3.6
North West – 11.5 6.1 9.8 7.0 4.2 3.7
Wales 5.5 13.1 6.6 10.4 8.3 5.4 3.8
Yorks & Humber 4.1 12.1 6.6 10.5 8.3 5.6 3.9
Scotland 5.7 13.8 8.4 9.9 7.8 5.5 4.2
Northern Ireland 7.8 16.9 13.0 14.0 11.2 7.3 4.9
North East − 16.2 9.7 12.8 11.1 7.4 5.4
 Regional (claimant) unemployment rates (%):

Region Unemployment (%)

Jan 1979 Jan 1987 Jan 1990 Jan 1993 Jan 1996 Jan 1999 Jan 2002

UK (average) 4.1 10.8 5.6 10.5 7.7 4.6 3.2

South East − 6.8 2.6 9.0 5.5 2.5 1.6

Eastern − 8.1 3.1 9.7 6.4 3.2 2.1
South West 4.1 8.8 3.8 9.8 6.5 3.3 2.1
East Midlands 3.4 9.7 4.9 10.0 7.0 4.0 3.1
London 2.8 8.9 4.7 11.6 9.1 5.2 3.5
West Midlands 3.9 12.4 5.7 11.1 7.6 4.7 3.6
North West – 11.5 6.1 9.8 7.0 4.2 3.7
Wales 5.5 13.1 6.6 10.4 8.3 5.4 3.8
Yorks & Humber 4.1 12.1 6.6 10.5 8.3 5.6 3.9
Scotland 5.7 13.8 8.4 9.9 7.8 5.5 4.2
Northern Ireland 7.8 16.9 13.0 14.0 11.2 7.3 4.9
North East − 16.2 9.7 12.8 11.1 7.4 5.4
 Regional (claimant) unemployment rates (%):

Region Unemployment (%)

Jan 1979 Jan 1987 Jan 1990 Jan 1993 Jan 1996 Jan 1999 Jan 2002

UK (average) 4.1 10.8 5.6 10.5 7.7 4.6 3.2

South East − 6.8 2.6 9.0 5.5 2.5 1.6

Eastern − 8.1 3.1 9.7 6.4 3.2 2.1
South West 4.1 8.8 3.8 9.8 6.5 3.3 2.1
East Midlands 3.4 9.7 4.9 10.0 7.0 4.0 3.1
London 2.8 8.9 4.7 11.6 9.1 5.2 3.5
West Midlands 3.9 12.4 5.7 11.1 7.6 4.7 3.6
North West – 11.5 6.1 9.8 7.0 4.2 3.7
Wales 5.5 13.1 6.6 10.4 8.3 5.4 3.8
Yorks & Humber 4.1 12.1 6.6 10.5 8.3 5.6 3.9
Scotland 5.7 13.8 8.4 9.9 7.8 5.5 4.2
Northern Ireland 7.8 16.9 13.0 14.0 11.2 7.3 4.9
North East − 16.2 9.7 12.8 11.1 7.4 5.4
 Regional (claimant) unemployment rates (%):

Region Unemployment (%)

Jan 1979 Jan 1987 Jan 1990 Jan 1993 Jan 1996 Jan 1999 Jan 2002

UK (average) 4.1 10.8 5.6 10.5 7.7 4.6 3.2

South East − 6.8 2.6 9.0 5.5 2.5 1.6

Eastern − 8.1 3.1 9.7 6.4 3.2 2.1
South West 4.1 8.8 3.8 9.8 6.5 3.3 2.1
East Midlands 3.4 9.7 4.9 10.0 7.0 4.0 3.1
London 2.8 8.9 4.7 11.6 9.1 5.2 3.5
West Midlands 3.9 12.4 5.7 11.1 7.6 4.7 3.6
North West – 11.5 6.1 9.8 7.0 4.2 3.7
Wales 5.5 13.1 6.6 10.4 8.3 5.4 3.8
Yorks & Humber 4.1 12.1 6.6 10.5 8.3 5.6 3.9
Scotland 5.7 13.8 8.4 9.9 7.8 5.5 4.2
Northern Ireland 7.8 16.9 13.0 14.0 11.2 7.3 4.9
North East − 16.2 9.7 12.8 11.1 7.4 5.4
 REGIONAL AND URBAN POLICY

■ Radical-right policies
✜ local wage agreements
✜ control of local authority taxes
✜ reducing unemployment benefits
■ Interventionist policies
✜ subsidies and tax concessions
✜ provision of facilities
✜ restrictions on expansion of firms in
prosperous regions
 REGIONAL AND URBAN POLICY

■ Regional policy in the UK

✜ assisted areas
✜ regional selective assistance
✜ regional enterprise grants
✜ Regional Development Agencies
■ EU regional policy
Distribution of structural funds between objectives
 REGIONAL AND URBAN POLICY

■ Regional policy in the UK

✜ assisted areas
✜ regional selective assistance
✜ regional enterprise grants
✜ Regional Development Agencies
■ EU regional policy
■ Government attitudes towards regional
policy
 REGIONAL AND URBAN POLICY

■ Regional policy in the UK

✜ assisted areas
✜ regional selective assistance
✜ regional enterprise grants
✜ Regional Development Agencies
■ EU regional policy
■ Government attitudes towards regional
policy
■ Effectiveness of regional policy
 REGIONAL AND URBAN POLICY

■ Urban policy in the UK

✜ Single Regeneration Budget
✜ New Deal for Communities
✜ English Partnerships
✜ other schemes
Government expenditure on regeneration policy
in England (£ millions)
Government expenditure on regeneration policy
in England (£ millions)
Government expenditure on regeneration policy
in England (£ millions)
Government expenditure on regeneration policy
in England (£ millions)
Government expenditure on regeneration policy
in England (£ millions)
Government expenditure on regeneration policy
in England (£ millions)
Government expenditure on regeneration policy
in England (£ millions)
 REGIONAL AND URBAN POLICY

■ Urban policy in the UK

✜ Single Regeneration Budget
✜ New Deal for Communities
✜ English Partnerships
✜ other schemes
✜ training initiatives
 REGIONAL AND URBAN POLICY

■ Urban policy in the UK

✜ Single Regeneration Budget
✜ New Deal for Communities
✜ English Partnerships
✜ other schemes
✜ training initiatives
■ The effectiveness of UK urban policy
 REGIONAL AND URBAN POLICY

■ Urban policy in the UK

✜ Single Regeneration Budget
✜ New Deal for Communities
✜ English Partnerships
✜ other schemes
✜ training initiatives
■ The effectiveness of UK urban policy
✜ limited financial help
 REGIONAL AND URBAN POLICY

■ Urban policy in the UK

✜ Single Regeneration Budget
✜ New Deal for Communities
✜ English Partnerships
✜ other schemes
✜ training initiatives
■ The effectiveness of UK urban policy
✜ limited financial help
✜ many jobs ‘created’ are not new jobs