Growth Rate of GDP
The growth rate of GDP is measured in terms of the original level of the GDP. Let us calculate the GDP for the following figures:
GDP in 2013: $13.1 trillion
GDP in 2014: $13.3 trillion
Growth in GDP: $0.2trillion
Growth rate of GDP =( 0.2/13.1)*100 =1.53%
If the growth rate remains the same, let us calculate the number of years that will be required for the GDP to double itself.
13.3(1+ 1.53/100)^t = 2*13.3
Or, (1+1.53/100)^t = 2
Or, (1.0153)^t = 2
Taking log of both sides:
tlog1.0153 = log2
Or, t= log2/log1.0153
Or, t =45.6
Thus it will take almost 46 years to double the GDP at 2014 with a 1.53% growth rate.
Human Capital
Human capital refers to the productive capacity of the labor force or the human ability to contribute to total production. The human effort is an important means of production be it physical effort or intellectual ability. This human effort in production is termed as the human capital. Human capital formation requires the development of skills among the population so that they are capable to contributing to the total production in an economy. Let us discuss the sources of human capital :
Education: Education is the primary source of human capital. Without education human capital cannot be formed. Imparting education to a person makes her or him capable of contributing to production.
Health: Being healthy is a condition for developing human capital. A person with sound health can only be productive. A person with illness or disability will not be able to work hence the person cannot be considered as a factor of production.
Training: We find that a number of firms provide training to its personnel to develop skills required for the company. Thus training is another way of forming human capital.
Mobility of labor force: A firm can have access to more human capital if there is mobility of labor.
Information: More information among the job seekers and the employers provides better access to human capital. For example, a person has to have information on the demand for different skills in the job market. In accordance with the demand the person acquires skill through proper education and training. The employers on the other hand comes to know about the availability of the skilled personnel through the information portals.
Law of Diminishing Returns
Law of diminishing returns state that as more units of a factor of production is employed keeping other factors constant the production increases at a diminishing rate. That is marginal product decreases when more and more units of a factor are employed.
When more units of a factor are employed keeping the other factor fixed the output increases at an increasing rate at the initial stage. This is the phase of increasing returns to factor. At this stage the marginal product (MP) is greater than the average product (AP). At the stage of constant return AP equals MP. The output increases at a constant rate. When even more units are employed the MP declines and becomes less than AP. AP also declines. This is the stage of diminishing returns. Let us illustrate this with an example. This is shown in table 1. On a single piece of land more and more units of labor are employed. Land is the fixed factor here which remains unchanged while labor varies. We can see that as more and more units of labor are employed initially the MP increases and so does AP. As long as MP is greater than AP, AP also increases. After a certain point MP starts declining. At a stage the MP becomes less than AP and so AP starts falling. This is the stage of diminishing returns.
Let us discuss the reasons for operation of diminishing returns. As more and more units of the variable factor are employed there is pressure on the fixed factor. If the variable factor is employed to quite a large extent it utilizes the fixed factor beyond its optimum capacity. So the fixed factor is inefficiently utilized. There is overcrowding on land or the machineries in a plant are overused. This is diminishing return. Another reason for the AP to decline is that there is limited scope of substituting one factor for another for some techniques of production. For example we cannot let three persons use the same computer at the same period of time. In such a case there will be diminishing returns.
Tax Financed Government Expenditure
When government expenditure increases is has a multiplier effect on the aggregate output in the economy. As government purchases of goods and services increase there is increase in the aggregate demand in the economy. The increased demand raises the price level. With a higher price level the producers are induced to produce more. Consequently total production in the economy increases. As total production increase more jobs are created. Thus income and employment also increases. There is a multiplier effect because the output increases more than the increase in the government expenditure. This is because the increased production and employment increases the income of the people in the economy resulting in the increase in consumer spending which further increases the aggregate demand and results in more output to be produced.
Now let us consider a situation when the government finances its increase in expenditure entirely from tax revenue. Thus the increase in expenditure is equivalent to the increase in the tax liability. Thus the increased government expenditure is accompanied by a proportionate increase in the tax rates. Though aggregate demand tends to increase due to higher government spending it also falls due to the increase in taxes. The increased tax rates reduce disposable income of the people. So consumer spending falls by the same amount as the rise in government expenditure. Thus there is no multiplier effect on the output. A rise in one component of expenditure is offset by the fall in another component. Thus increased government spending has little effect on output and employment when it is tax financed. The only effect can be on the distribution of income. If the expenditure is on the poorer section of the population then the increased spending results in redistribution of income in favor of the poorer section of the population.
References
Banerjee, A., & Mazumdar, D. (2010). Principles of Economics. Kolkata: ABS Publishing House.
