Page 22 - FINAL CFA II SLIDES JUNE 2019 DAY 4

LOS 12.d: Distinguish between capital deepening investment READING 11: CURRENCY EXCHANGE RATES: UNDERSTANDING EQUILIBRIUM VALUE
and technological progress and explain how each affects
economic growth and labor productivity.
MODULE 12.1: GROWTH FACTORS AND PRODUCTION FUNCTION

As stated earlier, for developed countries, the capital per worker
ratio is relatively high (level C so those countries gain little from
1)
capital deepening and must rely on technological progress for
growth in productivity.

In contrast, developing nations often have low capital per worker
ratios (e.g., C ) so capital deepening can lead to at least a short-
0
term increase in productivity.

LOS 12.e: Forecast potential GDP based on growth accounting relations.
Per Cobb-Douglas, growth in potential GDP can be expressed using the growth accounting relation as: ∆Y/Y = ∆A/A + α×(∆K/K) + (1−α)×(∆L/L)

where: α (1–α) OR
Y = output Y = TK L
A = technology growth rate in potential GDP =
K = capital
L = labor long-term growth rate of technology
α = elasticity of output with respect to capital = share of income paid to capital + α (long-term growth rate of capital)
(1 − α) = elasticity of output with respect to labor = share of income paid to labor
+ (1 − α) (long-term growth rate of labor)
In practice:
• levels of capital and labor are forecasted from their long-term trends,
• shares of capital and labor determined from national income accounts.

The change in total factor productivity (technology) is not directly observable (hence estimated as a residual: the ex-post
(realized) change in output minus the output implied by ex-post changes in labor and capital).