Explain Why There Might Be Rapid Economic Growth in a Country (10m)

Explain why there might be rapid economic growth in a country (10m)

Economic growth measures the rate of change in the volume of output produced within the economy. It is a key indicator of the nation’s economic wellbeing. Rapid economic growth can be described as economic growth that occurs in a short period of time, or at a great speed. A country might experience rapid economic growth due to increases in aggregate demand which lead to actual growth, interest rates, exchange rates, as well as investment in increasing labour productivity and technology as well as full gearing of factors of production.

Rapid economic growth can be caused by actual growth, meaning an increase in aggregate demand (AD) which is the total spending on goods and services in an economy over a given period of time. . It is calculated using the formula AD = consumer expenditure (C) + investment (I) + government expenditure (G) + [exports (X) – imports (M)]. Although it is possible to discuss potential growth (increases in aggregate supply), this discussion favours actual growth because AD has the capacity to increase in a short period of time whereas increases in AS take a longer period of time to bear fruit.

The biggest sector in AD is consumption. A sudden increase in consumption will lead to a rise in AD. For example, when consumer income increases over a short period of time, say, a major bonus handout or national wage rise is given, consumer expenditure is boosted. This is especially true if the workers incomes rise faster than the rate of inflation, resulting in higher real incomes. This will lead to a sharp rise in spending thus triggering a rise in output produced to meet the increase in demand, hence causing rapid economic growth.

In a real-world context, Japan’s “low interest rates policy” in the early 50s till the 70s led to a remarkable growth rate during that period. A cut in interest rates in one country would lead to a fall in savings as the opportunity cost of spending has decreased now that less interest is foregone. This would stimulate consumption, and consequently production of goods and services. At the same time, it will also cause a rise in ‘effective disposable income’. Lower interest rates would cause a decrease in loan repayments, consumers will buy more on credit. For instance, there will be a rise in consumer durables purchased such as cars, houses and furniture.

Low interest rates policy is effective in attaining financial allocation favourable to rapid economic growth. More specifically, the lower interest rates on mortgages and loan repayments could reduce financial costs for borrowers, in particular business firms. With low interest rates, firms are more likely to increase their equity investment, as the decrease in the rate of interest to be paid makes borrowing cheaper. This rapid increase in investment spending, will lead to a rapid increase in the GDP, a measure of national output.

If a country pegs its exchange rate lower against that of another country, it will see an increase in export orders. This is the scenario that China is experiencing currently, due to its artificially low-valued Yuan against the US Dollar. A lower exchange rate relative to that of a trading partner(s) will also lead to rapid economic growth. The lower priced exports will be competitive in contrast to the relatively expensive imported goods. This is good for the country’s balance of payments account as there will be more inflows and less outflows (once its citizens decide to consume more domestically produced output). The sharp increase in domestic output rising from a lowered exchange rate signals rapid economic growth.

Rapid economic growth can also be explained by the increase in capital investment. For example, Country A invests more (in terms of buying capital goods) than Country B. Hence, country A will have the ability to increase quantity and quality of output as it possesses the capital factor of production. Moreover, if Country A manages to upgrade the state of technology of production processes, this will result in Country A achieving economic growth faster than Country B because firms (in Country A) may increase their labour productivity by increasing the output per worker as the result of the advanced technology or efficient machines used. This will cause the curve on a PPC to shift outwards, signaling economic growth that is more rapid compared to B.

Furthermore, government policy also plays an important role in causing rapid economic growth. The Government may invest in the education and training sectors for the younger generation. This is to help those who are likely to become apprentices in various sectors and generally improve the quality of the workforce. There should now be an increase in output. Output will also increase quickly if the government policy is to gear all available factors of production towards generating more and more growth. This is possible if the country has a large natural factor endowment or possesses many capital goods. Thus, it clearly also depends on a country’s economic policy whether rapid economic growth is achieved.