Engineering Economics

Course code- SM300

Lecture-10
 Economic Growth
and Development
 Economic Growth

Economic Growth : An increase in the total output of a nation over

time.
Economic growth is usually measured as the annual rate of increase
in a nation’s Real (i.e. inflation/deflation adjusted) Gross Domestic
Product (GDP).
Nominal Gross Domestic Product (GDP) = The value, at current
market prices, of the total final output produced inside a country
during a given year.
Real GDP = Nominal GDP corrected for inflation, i.e. real GDP =
Nominal GDP divided by the GDP deflator.
In India:
Central Statistical Office (CSO) is responsible for compilation of
National Accounts including Estimates of National Income (i.e. GDP),
conduct of Annual Survey of Industries, Consumer Price Indexes,
Economic Census, and Compilation of Index of Industrial Production.
 GDP Calculation Methods

1. Expenditure (or Demand) approach

Here, the components of GDP include personal consumption
expenditures (C), business investments (I), government spending (G),
exports (X), and imports (M)
GDP = C + I + G + (X - M)

2. Production (or Supply or Value Added or

Output) approach
For each industry, this involves first determining its output and then
subtracting the goods and services that were used up in the process
of generating that output. Thus, the difference between an industry’s
output and its intermediate consumption is its gross value added.
GDP = Value of output – Intermediate consumption at
factor cost
 GDP Calculation Methods
3. Income approach
• Here, GDP is the sum of the incomes earned through
the production of goods and services
• It is defined as:

GDP = Compensation to employees + gross operating surplus +

gross mixed income + taxes on production and imports − Subsidies
on production

Where,
Compensation to employees = Total remuneration to employees for
work done (includes wages and salaries and employer contributions)
Gross operating surplus = Surplus due to owners of
incorporated businesses (often called profits)
Gross mixed income = Surplus for unincorporated businesses (mostly
small businesses)
 GDP Calculation In India
(Source: http://www.mospi.gov.in/133-gross-domestic-product)

Brief Method of compiling GDP estimates by Industry

• Divide the whole economy into various sectors comprising
primary, secondary and tertiary activities.
• The estimates of GDP in respect of agriculture, forestry and
logging, fishing, mining and quarrying, registered manufacturing
(establishments registered under Factories Act, 1948) and
construction are based on production approach.
• Income approach is used in the estimation of GDP originating in
Un-registered manufacturing (establishments not registered under
Factories Act), electricity, gas and water supply, trade, hotels and
restaurants, transport, storage, communication, banking and
insurance, real estate, ownership of dwellings, business services,
public administration and defence and other services.
 Economic Growth (contd.)
(Source: World Bank)
Economic growth comes in two forms:
• An economy can either grow "extensively" by using more resources
(such as physical, human, or natural capital) or
•"Intensively" by using the same amount of resources
more efficiently (productively).

Economic growth, by increasing a nation's total wealth, also

enhances its potential for reducing poverty and solving other social
problems.
Yet historically economic growth was not followed by similar progress
in human development….
Instead growth was achieved at the cost of greater inequality, higher
unemployment, weakened democracy, loss of cultural identity, or
overconsumption of natural resources needed by future generations.
 Economic Growth and Economic Development
Economic Development (as defined by World Bank):
Qualitative change and restructuring in a country's economy in
connection with technological and social progress.
The main indicator of Economic Development is increasing Gross
National Product (GNP) per Capita or increasing Gross Domestic
Product (GDP) per Capita [Per Capita  Divide The Measure by Population]

GNP = The value of all final goods and services produced in a country
in one year (gross domestic product) + income that residents have
received from abroad – income claimed by non-residents.

When will GNP < GDP and When Will GNP > GDP?
GNP << GDP if much of the income from a country's production flows to
foreign persons or firms.
GNP >> GDP if the people or firms of a country hold large amounts of the
stocks and bonds of firms or governments of other countries, and receive
income from them.
Economic Growth and Economic Development
Another term that is used in the context of economic growth of
countries is Gross National Income (GNI).

Note that gross national income (GNI) is identical to gross national

product (GNP) as previously used in national accounts generally.
Definition by Organisation for Economic Co-operation and
Development (OECD):

Gross national income (GNI): GDP less net taxes on production and
imports, less compensation of employees and property income
payable to the rest of the world plus the corresponding items
receivable from the rest of the world.

In other words, GDP less primary incomes payable to non- resident

units plus primary incomes receivable from non-resident units.

Therefore, GNP per capita ~ Income per capita or GNI per capita
 Economic Growth and Development

When economic growth (i.e. growth in GDP) is achieved by using

more labour, it may not result in economic development (i.e. per
capita income growth)
But when economic growth is achieved through more productive use
of all resources, including labour, it results in higher per capita
income and improvement in people's average standard of living
(material well-being).
Quality of Life (as defined by World Bank): People's overall well-
being.
Quality of life is difficult to measure (whether for an individual,
group, or nation) because in addition to material well-being (i.e.
standard of living) it includes such intangible components as the
quality of the environment, national security, personal safety, and
political and economic freedoms.
Economic Growth and Human
Development
 Human Development Index
Human Development Index (HDI):A composite of several social
indicators that is useful for broad cross-country comparisons.
Even though it yields little specific
information about each country. First used in the Nations
United
Development Programme's Human Development Report 1990.
HDI is a summary index, designed to reflect average achievements in
three basic aspects of human development .

(Source: http://hdr.undp.org/sites/default/files/hdr2020_technical_notes.pdf)
 Human Development Index (contd.)
What does HDI tell us?
• Emphasizes people and their capabilities as ultimate criteria for
assessing the development of a country, not economic growth
alone.
• Can also be used to question national policy choices,
How 2 countries with the same level of GNI per capita have different
human development outcomes or a country with higher GNI per
capita has lower human development outcomes.
Eg. In 2019, United Arab Emirates’ GNI per capita (66,912) > Japan’s
GNI per capita (40,799) but…
Life expectancy at birth is 77.8 as compared to 84.5 in Japan and
both mean years of schooling and expected years of schooling is
lesser than those prevailing in Japan
Japan has a much higher HDI value than UAE.
These contrasts can stimulate debate about government policy
priorities.
 Human Development Index
( Steps in Human Development Index (HDI) Calculation:
Step 1. Creating the dimension indices-
• Minimum and maximum values (goalposts) are set in order to transform
the indicators expressed in different units into indices between 0 and 1.
• These goalposts act as the ‘natural zeroes’ and ‘aspirational
goals’,
respectively, from which component indicators are standardized.
For 2020 HDI they are:
Step 1. Creating the dimension indices (Contd.)-
•For Health dimension, Life Expectancy (years) is used where,
Life expectancy at birth: Number of years a new-born infant could expect
to live if prevailing patterns of age-specific mortality rates at the time of
birth stay the same throughout the infant’s life.
• For the education dimension, index is first applied to each of
the two indicators, and then the arithmetic mean of the two
resulting indices is taken. Here,
Mean Years of Schooling [for adult population] = Average number of
years of education received by people ages 25 and older,
converted from education attainment levels using official
durations of each level
Expected years of schooling [for children of school-entrance age] =
Number of years of schooling that a child of school entrance age
can expect to receive if prevailing patterns of age-specific
enrolment rates persist throughout the child’s life.
For Income dimension
• It is believed that each additional dollar of income has a smaller
effect on expanding capabilities. Hence, for income, the natural
logarithm of the actual, minimum and maximum values is used.
• Further, Income (i.e. GNI) is represented in Purchasing Power
Parity terms
Market Exchange Rate & Purchasing Power Parity (PPP) exchange
Rate
Market Exchange Rate: Balances the demand and supply for
international currencies. They are the basis for international
trade.
Eg. If a company wants to import a equipment from US that has a
price of US$ 10,000 and the market exchange rate is US$1 = Rs. 61,
then the cost of the equipment in Rupee terms will be Rs. 61 *
10,000 = Rs. 610,000
Purchasing Power Parity (PPP) exchange rates capture the differences between
the cost of a given bundle of goods and services in different countries.
The rate at which the currency of one country would have to be converted into
that of another country to buy the same amount of goods and services in each
country.
Typically, a PPP for a country is expressed in terms of the currency of a base
country, with the US dollar commonly being used.
Used as deflators, they enable cross-country comparisons of GDP and its
expenditure components.
(Reading Source: International Monetary Fund or IMF, “PPP Versus the Market: Which Weight Matters? https://www
.imf.org/external/pubs/ft/fandd/2007/03/basics.htm)

Eg: If a burger is selling in London for £2 and in New York for $4, this would
imply a PPP exchange rate of 1 pound to 2 U.S. dollars.
This PPP exchange rate may be different from that prevailing in financial markets
(so that the actual dollar cost of a burger in London may be either more or less
than the $4 it sells for in New York).
To facilitate price comparisons across countries, the International
Comparisons Program (ICP) was established by the United Nations
and the University of Pennsylvania in 1968.
Under the authority of the United Nations Statistical Commission,
the 2011 round of ICP covered 199 economies. The ICP 2011
provides estimates of real expenditure on GDP and its major
aggregates for 177 countries.
The ICP divides GDP aggregates into 155 categories (referred to as
“basic headings”).
Prices were collected during 2011 for individual products within each
basic heading to compute national annual average prices for each
product for 2011.
These products cover all aspects of each country’s expenditure on
GDP, ranging from food, clothing and footwear to hospital
equipment and compensation of government employees, etc.
Step 2. Aggregating the dimensional indices to produce the
Human Development Index
The HDI is the geometric mean of the three dimensional indices:
HDI = (IHealth . IEducation . IIncome) 1/3

Eg…. Sudan
Human Development
Index (contd.)
HDI Index and Its Components for Select Countries
 Sustainable Development
According to the United Nations World Commission on
Environment and Development (1987), sustainable
development is "development that meets the needs of the
present without compromising the ability of future
generations to meet their own needs.“

World Bank Definition: "a process of managing a portfolio

of assets to preserve and enhance the opportunities people
face."

Sustainable development includes economic,

environmental, and social sustainability, which can be
achieved by rationally managing physical, natural, and
human capital.
Human Development Index(2022 Sep report)
1. Switzerland – 0.96
2. Norway – 0.96
3. Iceland – 0.96
4. Hong Kong – 0.95
5. Australia – 0.95
6. Denmark – 0.95
7. Sweden – 0.95
8. Ireland – 0.95
9. Germany – 0.94
10. Netherlands – 0.94
2. 132. India - 0.633
 State/Union Country
Rank HDI (2021)
Territory comparison
High Human Development
1 Kerala 0.752 Colombia
2 Goa 0.751 Saint Vincent and th
e Grenadines
3 Chandigarh 0.744 Tonga
4 Delhi 0.730 Fiji
5 Puducherry 0.726 Uzbekistan
6 Lakshadweep 0.715 Palestine
7 Himachal Pradesh 0.703 Vietnam
8 Sikkim 0.702 Vietnam
 Medium Human Development

9 Jammu and Kashmi 0.699 Philippines

r
10 Punjab 0.694 Botswana
11 Haryana 0.691 Venezuela
12 Maharashtra
0.688
12 Mizoram Iraq
13 Tamil Nadu 0.686
14 Manipur 0.678
El Salvador
15 Uttarakhand 0.672
16 Nagaland 0.670
Nicaragua
17 Karnataka 0.667
18 Arunachal Pradesh 0.665 Bhutan
19 Daman and Diu 0.661 Bangladesh
20 Telangana 0.647
Tuvalu
21 Meghalaya 0.643
22 Rajasthan 0.638
Marshall Islands
23 Gujarat 0.638
India (average) 0.633

24 Andhra Pradesh 0.630 Ghana

25 Tripura 0.629 Micronesia

26 West Bengal 0.624 Kiribati

27 Dadra and Nagar Haveli 0.620 Honduras

28 Chhattisgarh 0.605 Laos

29 Assam
0.597 Eswatini
30 Odisha
31 Madhya Pradesh 0.596 Equatorial Guinea
32 Uttar Pradesh 0.592 Cambodia
33 Jharkhand 0.589 Angola
34 Bihar 0.571 Republic of the Con