Page 521 - The Principle of Economics

simply because they happen to be on top of some of the largest pools of oil in the world.
Although natural resources can be important, they are not necessary for an economy to be highly productive in producing goods and services. Japan, for instance, is one of the richest countries in the world, despite having few natural resources. International trade makes Japan’s success possible. Japan imports many of the natural resources it needs, such as oil, and exports its manufactured goods to economies rich in natural resources.
Technological Knowledge A fourth determinant of productivity is tech- nological knowledge—the understanding of the best ways to produce goods and services. A hundred years ago, most Americans worked on farms, because farm technology required a high input of labor in order to feed the entire population. Today, thanks to advances in the technology of farming, a small fraction of the population can produce enough food to feed the entire country. This technological change made labor available to produce other goods and services.
Technological knowledge takes many forms. Some technology is common knowledge—after it becomes used by one person, everyone becomes aware of it. For example, once Henry Ford successfully introduced production in assembly lines, other carmakers quickly followed suit. Other technology is proprietary—it is known only by the company that discovers it. Only the Coca-Cola Company, for instance, knows the secret recipe for making its famous soft drink. Still other tech- nology is proprietary for a short time. When a pharmaceutical company discovers a new drug, the patent system gives that company a temporary right to be the
technological knowledge
society’s understanding of the best ways to produce goods and services
FYI
The Production Function
Economists often use a pro- duction function to describe the relationship between the quan- tity of inputs used in production and the quantity of output from production. For example, sup- pose Y denotes the quantity of output, L the quantity of labor, K the quantity of physical capi- tal, H the quantity of human capital, and N the quantity of natural resources. Then we might write
amount of output to double as well. Mathematically, we write that a production function has constant returns to scale if, for any positive number x,
xY 􏰁 A F(xL, xK, xH, xN).
A doubling of all inputs is represented in this equation by x = 2. The right-hand side shows the inputs doubling, and the left-hand side shows output doubling.
Production functions with constant returns to scale have an interesting implication. To see what it is, set x = 1/L. Then the equation above becomes
Y/L 􏰁 A F(1, K/L, H/L, N/L).
Notice that Y/L is output per worker, which is a measure of productivity. This equation says that productivity depends on physical capital per worker (K / L ), human capital per worker (H / L ), and natural resources per worker (N / L). Productivity also depends on the state of technology, as reflected by the variable A. Thus, this equation provides a mathematical summary of the four determinants of productivity we have just discussed.
CHAPTER 24 PRODUCTION AND GROWTH 535
Y 􏰁 A F (L, K, H, N ),
where F (
bined to produce output. A is a variable that reflects the available production technology. As technology improves, A rises, so the economy produces more output from any given combination of inputs.
Many production functions have a property called con- stant returns to scale. If a production function has constant returns to scale, then a doubling of all the inputs causes the
) is a function that shows how the inputs are com-