Introductory Task – Child Labour

In some countries, economic growth is accompanied by increases in child labour. In 2020, it was found that children as young as eight years old were picking coffee beans and doing other work on coffee farms in Guatemala. This Central American country had an average annual economic growth rate of 3.5% between 2000 and 2019. However, it also had a high rate of income inequality and a high rate of poverty. At the start of 2020, it was estimated that nearly half the population was experiencing financial difficulties and that one fifth of the population was living in absolute poverty.

The coffee beans picked by Guatemalan children were sold to European and US coffee firms and coffehouse chains. The number of children employed on Guatemalan coffee farms had risen in recent years as more coffee was produced and consumed throughout the world. The use of child workers in coffee production was despite it being illegal in Guatemala for children aged under 14 to work.

The children who were being employed were working long hours, often more than 40 hours a week. Much of the work they did was physically demanding and some was dangerous. They carried heavy sacks of coffee beans, used machetes and had to apply pesticides without being given any protective equipment or training. Some lived on the farms in barns without sanitation and lighting. Their pay was often less than $3 for an eight hour day.

When the use of child labour was reported, the European and US firms said that they would stop buying the coffee beans until they could check whether the farms were complying with the firms’ ethical standards.

Question 1: Why might the use of child labour promote economic growth in the short run but discourage it in the long run?

Question 2: Do these Guatemalan children benefit from picking the coffee beans?

Economic Growth

Over time, the output of an economy changes, and this impacts the living standards of its inhabitants. Three possible ways to measure this are:

• GDP per head – This is influenced by economic growth, and is also influenced by changes in the quantity and quality of the labour force;
• Human Development Index (“HDI“) – We will discuss this below; and
• Employment – The level of aggregate expenditure influences whether an economy achieves full employment. Increased investment (often supported by availability of finance) increases aggregate expenditure.

Economic Growth, Development & Sustainability

In the short run, economic growth refers to an increase in a country’s output, and in the long run it refers to an increase in its productive potential. The economic growth rate is the annual percentage change in output. In order for people to enjoy more goods and services, output must increase by more than the growth in population, leading to an increase in GDP per head (also called GDP per capita).

Traditionally it was thought that economic growth would automatically eliminate poverty, as benefits would “trickle down” to all members of society. History has shown, however, that economic growth may not lead to a rise in the living standards and quality of life of everyone in an economy. Conversely, a high proportion of people can see improved living standards and quality of life in the absence of economic growth, through measures such as a more even distribution of income or a reduction in pollution. Hence we now distinguish economic development from economic growth, the former being an increase in people’s economic well-being and quality of life.

A 1991 report by the world bank treats development as follows: “The challenge of development … is to improve the quality of life. Especially in the world’s poor countries, a better quality of life generally calls for higher incomes – but it involves much more. It encompasses as ends in themselves better education, higher standards of health and nutrition, less poverty, a cleaner environment, more equality of opportunity, greater individual freedom and a rich cultural life.” This wider definition helps policy planners to consider development in wider terms, including, but not limited to economic growth.

Sustainability

It may be possible to achieve very rapid economic growth at the expense of the living standards and quality of life of future generations. However, developed and developing countries now also consider sustainable development, that is , increases in output that don’t compromise the needs of future generations. This may be through using renewable resources, reducing emissions of toxic gases, and reducing the level of waste produced. More specifically:

• Sustainable growth should ensure that sufficient resources are available to invest in human capital as well as physical capital (e.g. through education);
• The distribution of the benefits of growth should be considered, such as ensuring that girls are given the same opportunities as boys and that the elderly and vulnerable in society are supported;
• Natural resources should be responsibly used to ensure that benefits are not exclusively short-term. Many countries still lack access to clean water and proper sanitation, leading charities such as UNICEF to invest heavily in these areas to try and ameliorate this.

Actual and Potential Economic Growth

Actual economic growth is an increase in real GDP, i.e. an increase in output. It can be due to a greater utilisation of existing resources, or due to ustilisation of more resources. The PPC diagram below shows economic growth due to greater use of existing resources:

We can also show actual economic growth on an AD/AS diagram, as below:

Here we see an increase in aggregate demand in an economy with spare capacity. It utilises previously unemployed resources to increase output (measured by real GDP) from Y to Y₁.

For continued growth of an economy, potential economic growth must also grow. Below we see this (i.e. a growth in the maximum output the economy is capable of producing) demonstrated first on a PPC and then on an AD/AS diagram:

Of course, if the potential economic growth (i.e. the increase in the productive capacity of the economy) is going to lead to higher output, then the increase in productive potential must be utilised (i.e actual economic growth). The situation where both of these things happen is shown below using each kind of diagram:

Task – Economic Growth

Output Gaps and the Trade Cycle

The output gap is the difference in an economy between actual and potential output. Typically an output gap is negative (actual output is less than potential output), but a positive output gap is possible in the short term, as output can be beyond maximum potential due to continually using machines and persuading workers to do overtime, however this will eventually have to be reduced as machines start to require servicing and workers reduce the overtime they are willing to work. It is demonstrated below:

A trade cycle (also known as a business cycle or economic cycle) is a period of time within which there are fluctuations in economic activity. This is demonstrated below (note that ab is a temporary negative output gap and cd is temporary positive output gap):

Economic growth can be caused by:

• Increased quantity of resources: Labour and entrepeneurs can increase over a period of time, due to natural increase in population, or more immediately due to net immigration or a change in government policy, e.g. around retirement age. Supply of capital goods will increase if firms invest in capital beyond the need to replace the capital goods previously employed. Land can be increased due to discoveries or land reclamation.
• Increased quality of resources: This will increase productivity of factor inputs. Labour and entrepeneurship quality can be increased through better education and training and better healthcare. Capital quality is improved due to technological changes. Use of fertilisers and irrigation can improve the quality of land.

Economic growth in developing countries

The main obstacle to economic growth in developing countries is the lack of resources, meaning that their is a significant opportunity cost of assigning resources away from their current use. For instance, assigning more resources to education may mean that fewer resources can be utilised health care. Similarly, producing more capital goods, or investing in research and development (beneficial in the long run) would require producing less consumer goods in the short run, leading to a decrease in living standards.

China is a good example of an emerging economy that has achieved rapid economic growth in recent years, to the extent that it it is considered likely to become the world’s largest economy in the near future. This has been driven by significant increases in foreign investment and exports. The Chinese yuan has been kept at a low value, which has contributed to the demand for Chinese exports.

Costs and benefits of economic growth

Costs

If an economy is operating at full capacity, then achieving economic growth will involve an opportunity cost. To increase the country’s productive capacity, some resources will have to be diverted from producing consumer goods to producing capital goods. However, this decrease in consumption of goods and services will only be a short-run cost, because in the long run, the increased investment will increase the output of both capital goods and consumer goods and services.

There are other costs in the short run and long run. A growing economy is necessarily dynamic, with structural changes. Workers may have to learn new skills and may need to relocate. There may also be an associated increase in people’s working hours and expectations on them. Also, economic growth may come at the price of depleted natural resources and damage to the environment.

Benefits

The primary benefit of economic growth is greater availability of goods and services, leading to an increase in material living standards. It also increases the possibilities of providing support for the poor. Higher incomes and increased spending also increases tax revenue, which can be spent to improve education and healthcare as well as to provide benefits to the vulnerable.Economic growth can also lead to a rise in employment.

A stable rate of economic growth is valued by businesses and can increase consumer confidence and encourage investment (economic growth causing economic growth). Economic growth can also increase a country’s geopolitical power.

Conserving resources

Using more natural resources can clearly increase economic growth, by increasing exports and improving the current account position on the balance of payments, in addition to increasing the available tax revenue, allowing the government to improve the country’s infrastructure and education, helping further generate economic growth.

However, there are arguments for conserving resources. Conserving rainforests for instance, may encourage tourists to visit a country, and may help the environment by absorbing carbon dioxide. Conserving resources also enables future generations to benefit from them and their value can increase in the future. Indeed, expectations about the future demand of resources is a crucial factor in deciding when to use the resources.

Task – Impact of Economic Growth

The mayor of Delhi has asked two consultancy firms to give him an introduction to policies he could introduce to reduce pollution by 10% during the next five years, without curtailing economic growth. Produce a professional presentation for the mayor, offering him ways in which your consultancy firm could provide him with further services during the next five years (and beyond).