What is the significance of the growth rate

Steady and appropriate economic growth: goal in the magic square

Steady and appropriate economic growth is an economic policy goal in the magic square. In this article we will give you a definition of the term, show the meaning of the goal, and to what extent it is measurable and politically influenceable.

definition

If the gross national income or gross domestic product increases in real terms, there is economic growth.

Steady and appropriate economic growth: Continuous increase in the economic added value of an economy

Adequate growth: The increase in general prosperity, which is particularly important for the less affluent population groups.

Steady growth: The economy should grow continuously. By avoiding strong fluctuations, effects on other areas of the economy such as the labor market are to be avoided.

The goal has both a short-term and a long-term component. In the short term, it is about stabilizing the growth process, i.e. avoiding business fluctuations in the business cycle.

Realizing the growth target, however, is mainly about the long-term perspective. It is the subject of research in growth theory and growth policy.

Economic policy background

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Steady and appropriate economic growth is one of the four economic policy goals in the magic square. Magic square is the usual formulation of the stabilization goals in the Stability Act of 1967.

"The measures are to be taken in such a way that, within the framework of the market economy, they simultaneously contribute to the stability of the price level, a high level of employment and an external balance with steady and appropriate economic growth." Section 2 sentence 2 StabG

The law was passed in response to the end of the economic miracle. First of all, economic growth flattened out and unemployment rose.

One speaks of the magic square, because the depicted goals are partly complementary or contradicting each other. In principle, it is impossible to achieve all four goals at the same time.

For example, economic growth leads to a higher level of employment. A higher level of employment but leads to price instability.

Purpose: Why is steady and adequate economic growth important?

Steady and appropriate economic growth means, economically, an increase in the production of goods. All other things being equal, this goes hand in hand with better care for society. Overall, this is interpreted as an increase in the material prosperity of society.

In addition, there are the following reasons why economic growth is a goal in the magic square:

Increase in material prosperity: Economic growth is a prerequisite for achieving this goal. It includes not only an absolute increase in prosperity, but also the reduction and elimination of material poverty.

Reduction of unemployment: Or avoiding them. Regardless of how it is implemented, a market economy is characterized by competition. This competition promotes productivity increases in companies in order to achieve higher revenues and ultimately profits. However, an increase in labor productivity leads to a decline in employment if economic growth remains unchanged. (Labor productivity is defined as the ratio of production to labor input.) After all, constant growth means that production in the company also remains constant.

Fiscal reasons: In simple terms, economic growth means higher tax revenues for the state. Because growth increases the tax base via rising consumer spending or higher incomes. Even if the tax rates remain unchanged, the state will receive more income. He can use this additional income for additional expenses that lead to an increase in the quality of life. For example additional investments in the areas of education, environmental protection or health.

International influence: The “economic” size of a country is measured in terms of GDP and economic growth. The larger a country is relative to the other countries, the more influence it has on these other countries economically. E.g. through additional payments in development policy or through pressure in the form of trade sanctions. In addition, a country's share of the vote in some international organizations is measured by its GDP.

Excursus: advantages and disadvantages of economic growth

The reasons given make it clear that “the more the better” does not apply to economic growth. Instead, it is about realizing steady and appropriate economic growth. This means that it can be achieved in the long term without causing macroeconomic upheaval.

Nevertheless, when it comes to economic growth, there are numerous discussions about whether and how much a society needs. And to what extent it is compatible with other objectives. In the es, the social question arises as to the advantages and disadvantages of economic growth.

In the following we briefly outline three frequently mentioned advantages and disadvantages, whereby the advantages are already included in the reasons described above:

Benefits of economic growth

  • Growth increases the standard of living measured as GDP per capita (assumption: population remains constant)
  • Growth secures employment (see labor productivity)
  • Growth means more tax revenue for redistribution and social policy

Disadvantages of economic growth

  • Growth destroys natural resources (e.g. oil)
  • Growth harms the environment
  • Growth means living at the expense of the next generation
  • Growth does not make you happy (keyword: happiness research)

The arguments against economic growth are almost about how to deal with limited resources and the associated consequences. So it's about the trade-off between growth and the environment. This has been discussed since the Club of Rome report. However, this problem is currently the subject of public discussion under the heading “Consequences of climate change”. And is likely to have consequences for economic policy.

Determinants of economic growth

Economic growth is based on a wide variety of factors. In economics, the measurement and analysis of economic growth are carried out as a result of a production process. The GDP is the output of the production process. The amount and ultimately the growth are based on the production factors used and the efficiency of the process. A Cobb-Douglas production function is generally used for this.

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The figure shows the following determinants of economic growth. The growth thus results from three sources:

  1. Higher input quantities of the production factors
  2. Technical progress
  3. Division of labor

The Use amount of the production factors but cannot be increased indefinitely. For example, if there is full employment, the labor factor can only be achieved by increasing the population. (Keyword shortage of skilled workers and migration, e.g. in nursing).

On the other hand, there is more leeway when it comes to increasing the capital stock.

National and international Division of labor can contribute to higher economic growth through specialization. However, the possible effects on employment must be taken into account here. As the discussion about outsourcing and the thesis of the bazaar economy in the last decade show.

Technological progress offers numerous opportunities to positively influence economic growth. Better factor quality or better factor combinations can accelerate progress.

A better factor quality can be achieved above all through higher education and further training of the employees (keyword human capital). But the often unmentioned soil factor can also increase significantly in terms of quality. In a rainy period, for example, it can lead to high economic growth in agriculture (better harvest). A better combination of factors is understood to mean (positively) changed organizational processes that lead to efficiency gains.

Measurement: indicators of economic growth

Here we introduce the most important target indicators for economic growth. Even if real GDP growth rate is the main indicator, it is worth looking at various indicators. Because that way you get a comprehensive picture. On the one hand, this is due to the limited informative value due to the economic models. On the other hand, there are limits to the statistical measurement and prognosis of the indicators and their underlying determinants.

Real GDP growth rate

The GDP includes all goods and services produced in an economy in one year.

The GDP is thus an auxiliary variable for recording the performance of an economy. Criticism of the calculation and informative value of the GDP therefore also applies to its informative value as a growth indicator.

As an indicator of economic growth we use the annual rate of change in real GDPused. Real GDP is nominal GDP adjusted for inflation.

Statements about the actual growth can only be obtained if the price component is switched off. Otherwise one would not know whether the growth was caused by a rise in prices or by a higher quantity of goods produced.

Development of production potential

The development of the production potential is used as an indicator alongside the real GDP growth rate. The term is defined differently, however, what the possible degree of utilization of the production factors in the production process is. Sometimes this is understood to mean the maximum utilization and sometimes a “normal” utilization. In practice, however, normal utilization is currently the predominant definition.

Production potential: The real GDP that arises with normal utilization of the factors of production (labor, capital, human capital, technology).

The importance of potential output as an indicator of growth is that it can be used to develop the trend in real GDP. Statistically, the attempt is made to adjust GDP growth to adjust for economic fluctuations. The basis for the calculations is a production function.

Material prosperity

Income sizes

The central justification for the goal of steady and appropriate economic growth is to increase the material prosperity of a society. However, real GDP growth does not necessarily mean how real income will develop.

For this reason, income figures from the national accounts are used as additional indicators.

Per capita growth

Demographic factors must be taken into account in order to achieve the desired growth target. This includes taking into account population growth and the workforce.

A change in these factors has serious consequences for the interpretation of economic growth. In this respect, not only absolute values ​​should be used as indicators of target achievement, but also relative values. These include GDP per capita and GDP per unit of work.

Conclusion: How can politics influence the growth target?

Based on the previous presentations it could be shown that adequate and steady economic growth depends on the development of many influencing factors. Even if there are different indicators, the central factor for economic growth is still the growth rate for real GDP.

The development of the named determinants allows predictions about how high an appropriate and steady economic growth can turn out (i.e. GDP growth rate). In Germany, these are above all the Advisory Council on Economic Development and the large economic research institutes, which estimate the development of economic growth in advance in the context of economic forecasts (more information can be found in this article). Internationally comparative data are available e.g. from Eurostat, the OECD, the IMF and other institutions.

Experience shows that the following growth corridor could be achieved in Germany:

Aim of steady and appropriate economic growth: In Germany, a real GDP growth rate of 1-1.5% per year can be achieved. These are growth rates that can be achieved in the long term based on theoretically sound estimates.

How can politics have a positive influence on this possible corridor?

This is possible by influencing the numerous determinants of economic growth politically:

  • Labor market variables (e.g. participation rates, average working hours, utilization of the potential workforce, qualification level ...)
  • Promotion of technological progress (e.g. R&D output, diffusion speed of innovations)
  • Investments (see influence of savings rate)
  • Population development

All of these measures are aimed at increasing the utilization of the production factors and thereby enabling higher growth. According to estimates, ceteris paribus a growth rate of up to 2% is possible for some time.

However, when implementing the measures, it must always be taken into account to what extent the individual instruments and their implementation are socially desirable. A wide variety of other areas play a role here, such as demographic or labor market developments. And last but not least, the much-discussed trade-off between environmental and climate protection and economic growth.

Summary

  • Steady and appropriate economic growth: Continuous increase in the economic added value of an economy.
  • Steady and adequate economic growth is an important goal in the magic square: Positive relationship with employment. But conflict with the goal of the environment.
  • Economic growth is measured as the real growth rate of GDP. Supported by numerous other indicators (e.g. production potential, GDP per capita).
  • The importance of economic growth lies in increasing the material prosperity of a society and the associated positive opportunities.

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