Construction Firms

If this decline in technology in the housing market were the only change in the economy, what would happen? Construction firms would fire workers because these firms were building fewer new homes. Over time, however, the fired construction workers would find new jobs in other sectors of the economy. The same logic applies to other inputs: capital and other inputs that were being used in the construction industry would be redeployed to other markets. For example, there would be additional labor and other inputs available for automobile production. Part (b) of Figure 7.4 “An Inward Shift in the Market Supply of Houses” shows the resulting outward shift in the supply curve for cars. It is difficult to explain the big decrease in output and the high rate of unemployment in the Great Depression through a change in technology in a single market. Suppose, however, that this change in technology does not happen in just one market but occurs across the entire economy. Then a version of part (a) in Figure 7.4 “An Inward Shift in the Market Supply of Houses” would hold for each market in the economy. We would see declines in economic activity across a wide range of markets. Moreover, with declines in so many industries, we would expect to see lower real wages and less employment. The idea that workers could easily move from one industry to another is not as persuasive if the entire economy is hit by an adverse technology shock. Using Growth Accounting to Understand the Great Depression We use growth accounting to show how changes in output are driven by changes in the underlying inputs—capital, labor, and technology. Equivalently, we use the technique to give us a measure of the growth rate of technology, given data on the growth rates of output, capital, and labor: technology growth rate = output growth rate − [a × capital stock growth rate]− [(1 − a) × labor growth rate]. We have omitted human capital from this growth accounting equation. We do so because, unfortunately, we do not have very good human capital measures for the period of the Great Depression. Human capital typically changes very slowly, so this is not too much of a problem: over a period of a decade, we do not expect big changes in human capital. Any changes in human capital that do occur are included in the catchall “technology” term. Toolkit: Section 16.17 “Growth Accounting” You can review the technique of growth accounting in the toolkit. The key ingredient needed for the growth accounting equation is the number a. It turns out that a good measure of a is the fraction of real GDP that is paid to owners of capital. Roughly speaking, it is the amount of GDP that goes to the profits of firms. Equivalently, (1 − a) is the fraction of GDP that is paid to labor. The circular flow of income reminds us that all income ultimately finds its way back to households in the economy, which is why these two numbers sum to one.