Comparing the Economic Growth of Australia, China and the United States

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This research paper is an empirical investigation comparing the economic growth of Australia, China and the United States. It covers four topics which include the production model, the Romer model’s growth rate of knowledge as it relates to population, migration and trilateral trade. The paper attempts to explain why growth rates differ between the three countries being studied and how Australian policy makers can stimulate future economic growth.

By using the production model and the empirical evidence we can see that TFP is an important part of long run economic growth. But factors such as population and net migration also influence a nation’s economy by altering per capita output, either positively or negatively. Skilled migrants increase a country’s human capital but often their accompanying families end up being inactive which mitigates the initial positive effects. Finally the paper discusses the dependency of Australia on the United States and China due to the strong trilateral trade links between the three nations.

All data has been sourced from The World Bank online data catalogue unless otherwise indicated and all graphs have been generated from the raw data in Microsoft Excel.

Theory/Model

TFP and the Production Model: Y*=AK1/3L1/3
Firms employ all the capital and labor in the economy, so that total production in the economy is given by the production function evaluated at K and L. A is the TFP (Total Factor Productivity) which is an efficiency parameter measuring how productive countries are at using their factor inputs, K and L. Population and the Romer Model’s growth rate of knowledge: g=zlL Increasing the population means there are more researchers producing more ideas which leads to faster growth (Jones 2011, p. 147).

Migration Theory
Tertiary educated immigrants positively affect per capita GDP but not enough to clear the negative effect of immigration (Orefice 2010)

Trilateral Trade between Australia, China and the United States Australia’s number one trading partner is China and the number one trading partner of China is the United States. This suggests that in terms of output in relation to net exports Australia is somewhat reliant on the growth of the US via the growth of China.

Empirical Findings
TFP and the Production Model: Y*=AK1/3L1/3
Figure 1
Total Factor Productivity Growth
Total Factor Productivity Growth

Data Source: The Conference Board Total Economy Database™, January 2012 Figure 2
Time in years
Time in years

In the production model firms employ all the capital and labor in the economy, so that total production in the economy is given by the production function evaluated above at K and L. A is the TFP (Total Factor Productivity) which is an efficiency parameter measuring how productive countries are at using their factor inputs, K and L. Total Factor Productivity (TFP) growth accounts for the changes in output not caused by changes in labor and capital inputs. It is calculated as the percentage increase in output that is not accounted for by changes in the volume of inputs of capital and labour. TFP growth represents the effect of technological change, efficiency improvements, and our inability to measure the contribution of all other inputs. Figure 3

From the evidence gathered, a major factor in China’s annual GDP growth since 1990 has been due to strong TFP growth as seen in Figure 1. Figure 2 then shows China’s GDP growth hovering around the 10 percentage point from around 1990. This growth is also evident in Figure 3 which shows a clear increase in the slope of China’s GDP curve from 1990 while Australia and the United States are on a steadier slope. All three countries took a hit to GDP growth in the 1970’s due to the oil price shocks and more recently the global financial crisis has stunted growth in the past four to five years. Both Australia and China were able to avoid falling into a recession but the United States was not so fortunate (see Figure 2).

An article in The Economist from November 13th 2009 written by Joshua M Brown titled ‘Secret Sauce’ supports my findings of why China’s GDP growth can be explained by their TFP growth. Brown (2009) argues that China’s rapid growth is not just due to heavy investment as is the common claim, but to the fact they have the fastest productivity gains of any country in the world. The United States has achieved small but steady TFP growth which translates into a similar smaller annual GDP growth than that of China. Australia on the other hand has in the past 10 years experienced a slowdown in TFP growth but it has seemed not to have affected total GDP growth too much. The Australian government should be looking at implementing policies to stimulate TFP growth in the future to replicate the China’s rapid growth. The two main methods to achieve this are through technology and efficiency. Government spending on research and development to further enhance technology as well as the adoption of established foreign technology could aid Australia’s TFP growth. Improvements in education would create more efficient workers over time and help to improve overall productive efficiency.

Population and the Romer Model’s growth rate of knowledge: g=zlL Figure 4
Population Growth 1961 -2010
Population Growth 1961 -2010

Jones (2011, p. 147) experiments with the Romer model by changing the population, L and then changing the research share l. Jones states that because the research share l is held constant, a larger population means there are more researchers. More researchers produce more ideas, and this leads to faster growth. The equation for output per person in the Romer Model Yt=A0(1-l)(1+g)t also tells us that an increase in the growth of per capita GDP would occur as g is increasing. China has a theoretical advantage in the Romer model in that they have the largest population of the three countries, a total of approximately 1.3 billion people compared to 22 million and 309 million of Australia and the United States respectively. Figure 4 shows the population growth between 1961 and 2010 of Australia, China and the United States. From 1961 to 1992 there was a clear gap between the population growth of Australia and China compared to the lower growth of the United States. From 1992 onwards the US overtook China while Australia experienced a steep increase.

Over the time surveyed Australia had a higher population growth than that of China and the United States, but China experienced much greater long run per capita GDP growth than of the other two countries (see Figure 5). However, there is still a considerable gap between the total per capita GDP of China compared to Australia and the United States because of the total population gap. These per capita GDP figures are a good indicator that in comparison the Chinese experience a lower standard of living. The One Child Policy which was implemented by the Chinese government in 1979 to slow down the country’s rapid population growth has prevented approximately 400 million births since its inception (English.peopledaily.com.cn 2011). Without the policy, China’s population would be in excess of 1.7 billion people. It is interesting to consider whether China would be experiencing such rapid economic growth today had they not enforced the One Child Policy. Per capita GDP and the standard of living would surely be much lower than its current standard and one wonders if today’s growth would be sustainable under a population of 1.7 billion. In relation we could ponder how this situation might have affected Australia’s growth with China today playing such an important role in foreign direct investment and Australian mining commodity exports.

Figure 5

As GDP per capita is measured by dividing total GDP by the population it is obvious that GDP per capita decreases as the population increases. But as the Romer Model suggests, the increase in population has brought with it an increase in researchers which has produced more ideas and created long run growth. The Romer Model’s theory on the growth rate of knowledge affecting the growth of per capita GDP supports my findings in this section.

From Table 1 we see that China’s total population growth from 1960-2010 is 100.62% which is relatively similar to Australia’s at 116.99%, yet from Figure 2 it can be observed that per capita GDP growth was substantially higher for China. We can refer back to the Romer Model once again and the growth rate of knowledge and say that over the time period China may have allocated a greater proportion of the population to doing research (l) than Australia did. Ceteris paribus, an increase in the fraction of the labor making ideas will increase the growth rate of knowledge and subsequently will increase the growth of per capita GDP. If more people work to produce ideas, less people are producing output. So this results in an initial drop in the level of per capita GDP but creates a higher growth rate for future years so output per person will be greater in the long run.

As mentioned previously, research and development is one of the most important investments a government can make in relation to long run economic growth through increasing TFP growth. Allocating a greater proportion of the population to research through government grants and increases in the quality of tertiary education to produce higher quality researchers would also help Australia achieve greater per capita GDP growth. Another option is to implement policies that allow skilled migrants easier streamlined access to living and working in Australia. Figure 6 shows the net migration numbers of Australia, China and the United States in 5 year data increments from 1960-2010.

Migration and economic growth
Figure 6

The effects of immigration on the growth rate of GDP, like most of the other topics mentioned so far, is a subject so heavily researched that this report is unable to sufficiently cover, but I will attempt to summarise some main points from the data shown graphically in Figure 6 and the results from a discussion paper by Gianluca Orefice of the University of Milan. From an initial observation of Figure 6 it is seen that China has experienced 50 years of negative net migration, whereas Australia’s has been relatively constant and the US on the rise before dropping after the year 2000. Table 2 shows the total net migration from 1960-2010:

Net migration figures since 1960 show that 8,798,756 people have left China and the United States has increased their population with migrants by a number near double the entire population of Australia. So how are these numbers related to per capita GDP growth of a country?

Below are the basic findings of Orefice (2010, p. 18); a study of the effects of immigration flows and their skill content on per capita GDP in 24 OECD host countries:

* A 1% increase in the immigrants inflows leads to a 0.69% reduction in per capita GDP * Being tertiary educated among immigrants increase per capita GDP by 0.31% * Being tertiary educated among immigrants positively affects per capita GDP but not enough to clear the negative effect of immigration

The paper concludes by stating:
Negative effect of immigrants arises under a neoclassical production function where immigrants are considered as an increase in low productive workers. But allowing for the possibility that migrants can bring with them some capital from their origin country, the capital dilution given by the increased population may be offset. Under this setting the effect of immigration on host countries income depends on the capital content of immigrants (Orefice 2010, p. 21).

From the data in Table 2, China’s negative net migration of 8.8 million is arguably not a high enough proportion of a total population of 1.34 billion people to show any effects on per capita GDP growth. Conversely, Australia and the United States have net migration values that are substantial enough to affect per capita GDP growth. From Orefice’s (2010, p. 21) conclusions stated above skilled labor is the key to successfully boosting a country’s economic growth through migration. However, the high capital content of one worker could be accompanied by a family of inactive migrants which offsets the initial positive per capita effects gained from that one skilled unit of labor (Orefice 2010, p. 18).

The Australian immigration policy makers should be focusing on increasing the level of skilled labor that is migrating to the country. In a move in line with this recommendation (workpermit.com 2012) the Australian government announced on May 14 2012 that they would be increasing the places available in the 2012-13 migration program by 5000 places from 185,000 to 190,000. The Minister for Immigration and Citizenship Chris Bowen states that this move is to fill significant skills gaps in the economy.

Trilateral Trade between Australia, China and the United States Figure 7 (USA and China on left side Y axis and Australia on right side Y axis) Time in years
Time in years

Overtaking Japan in 2007, Australia’s number one two-way trading partner is now China and the number one two-way trading partner of China is the United States. This suggests that in terms of GDP in relation to net exports Australia is somewhat reliant on the US by way of China. China’s GDP growth has been steady around 10% since 1994 (see Figure 2) which simultaneously was the first year of a current 17 year streak (see Figure 7) where net trade in goods and services has been positive for the booming Asian nation. This massive net trade that China produces, which in 2010 was US$232 billion, is most definitely contributing to the growth of the nation. It is interesting to note that as China has experienced a positive boom in net trade, its number one trading partner the USA has experienced an almost mirror image opposite in negative net trade, which makes obvious sense as they are China’s biggest customer.

Australia on the other hand has been reaping the benefits of China’s high demand for their natural resources in the midst of a mining sector boom and scored a record high net trade surplus in 2010 of US$15.2 billion. So the evidence exists where the USA is buying big from China which is in turn financing their imports from Australia. Australia’s future is solid with China’s continued economic growth and high demand for their exports. It would be in the best interests of Australian government officials to work on continually strengthening political ties with China to ensure a long lasting trade relationship between the two nations.

Conclusions

Getting through the heat of the global financial crisis without falling into a recession proved that Australia’s economy has a strong foundation and policy makers were able to make the correct decisions. Throughout time every economy experiences booms and recessions as is the business cycle but a strong economy minimises the gap between potential output and actual output. Throughout this paper I have covered four important topics relating to long run growth and presented established theories and academic literature that support my findings. The most important results and subsequent recommendations are that the Australian government needs to boost TFP by increasing funding in research and development and on education to produce higher skilled human capital which increases productive efficiency. Also, Australia must continue to strengthen trade relationships with China which will establish long term demand for exports. The other factor dealt with population and skilled migration policies where recently the Australian government announced an increase in the 2012-13 migration program to fill skills gap in the economy. This policy should result in a better quality of human capital entering the country and therefore boost economic growth.

References

All data has been sourced from The World Bank online data catalogue unless otherwise indicated and all graphs have been generated from the raw data in Microsoft Excel.

Brown, J. M 2009, Secret sauce: China’s rapid growth is due not just to heavy investment, but also to the world’s fastest productivity gains, The Economist, viewed 16 May 2012, <http://www.thereformedbroker.com/2009/11/13/the-economist-total-factor-productivity-is-chinas-secret-sauce/>.

English.peopledaily.com.cn 2011, 400 million births prevented by one-child policy, viewed 15 May 2012, <http://english.people.com.cn/90882/7629166.html>.

Jones, CI 2011, Macroeconomics, 2nd ed., [International Student ed.], W.W. Norton & Co., New York, N.Y.

Workpermit.com 2012, Australia announces immigration increase to fill skills gaps, viewed 15 May 2012, <http://www.workpermit.com/news/2012-05-14/australia/australia-announces-immigration-increase-to-fill-skill-gaps.htm>.

Comparing the Economic Growth of Australia, China and the United States

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