Potential output

The term production potential refers to the total economic output that could be achieved by making use of all the economic factors of production. This indicator of the growth of an economy can only be approximately estimated, but not exactly determined.

Definition

Production potential is equal to the production capacity ( total economic output ) of an economy with normal employment of all the economic factors of production. The Advisory Council provides for a normal load then as given, if the existing factors of production are utilized to 96.75 %. In the literature, often the terms " natural level of production " or "normal production levels " are used as synonyms. Another concept defined as the maximum potential output of an economy at full employment and a given stock of factors of production. Here at maximum efficiency is not technically possible maximum production to understand, but the productive capacity that can be produced without the construction of an additional inflationary pressures.

The following equation defines the normal production levels:

Variables

• : Number of employed population
• : Collective variable (includes institutional factors that influence the wage setting, such as: non-wage labor costs, unemployed support, union power, protection against dismissal and others)
• : Profit margin of the company

Mathematical derivation

The normal level of production is characterized by the structural conditions; especially those of the labor market. First, some assumptions must be made:

Wages are described in the labor market through the following function:

( Wage-setting function)

Assuming and transformation, one obtains the function:

(1)

Exists between the real wage and the unemployment rate is a negative correlation, that is, the higher ( lower) the unemployment rate, the lower ( higher) is the real wage.

The pricing is described by the already -formed function: (see also price-setting function)

(2)

Increase the company their profit margin, so the prices also increase and thus decreases ( at constant wage rate ) the real wage.

For an equilibrium on the labor market occurs when the real wage, which is determined by the wage-setting function, the real wage is equal to the induced by the pricing function. Substituting equation (1) into equation (2) we obtain the function of the natural unemployment:

(3)

The unemployment rate is the ratio of unemployed (U ) and the number of the labor force (L). The number of unemployed (U ) is the difference between the labor force (L) and the number of employees (N). By rearranging the equation we obtain the expression for the natural level of employment.

Assuming that the production function of an economy is given, there is a natural level of output due to the equation. By rearranging the equation and by inserting into the equation (3 ) is formed, the function that defines the natural production levels:

Natural production potential in the AS- AD model

In the short term it is possible that the production deviates from its natural level. Reason for this is that the short-term aggregate supply curve ( AS curve ) is positively sloped. ( A explanation that, the prices along the short-term aggregate supply curve is not uniform, offers the Keynesian theory of the rigid wage rates as well as the New Keynesian theory of rigid prices. ) This means that an increase ( decrease) in the price levels in the short term the supply of goods and services increased ( reduced). Increases the expected price level ( including wages ), then the companies adjust their prices, ie they offer at a given price level of goods less. Ultimately, the production depends not only on the expected price level, but of all the factors that influence the position of the aggregate demand curve (AD- curve). These are the money supply (M), government spending (G ) and taxes (T).

In the medium term there is a process of adjustment. Total economic output returns to its natural level. The prices are the expected price level adjust. If there is production on its natural balance, so the price level rises. This means that the demand and ultimately the production goes back to its natural level is reached.

In the long term, changes in aggregate demand have only influence on the price level. The production and employment in the long term remain at its natural level.

Factors

The development of production potential initially depends mainly on the supply-side factors, such as the investment made ​​in the country. In addition, the production potential is also influenced by the development of technical progress ( that is to say productivity), since an increase of the same efficient use of the existing capital stock allowed. Another influencing factor is the amount of labor used in the production process. At the same time, however, demand factors act indirectly, eg via an investment demand, on the production potential. This raises a serious endogeneity problem in correctly determining the production potential.

Importance

Measurement of potential output

While the microeconomic production potential is mostly determined relatively reliably surveys, as it is usually defined technically, the calculation of an economic production potential is extremely difficult because the scan can not determine when full utilization of all factors of production is achieved.

Can be estimated the economic potential output for example by means of a production function (eg a Cobb- Douglas production function). This, however, it is necessary to know the quantities factor; these depend, as mentioned above, of the investments, the efficiency of corporate processes and technological progress from.

In addition, the development of production potential also be estimated by comparing the current gross domestic product with which a trend arising. This turns out, however, difficult, since changes in the trends can not be identified without their underlying economic factors. In practice, different approaches to determine the production potential are pursued. For a multivariate theory-based approaches are used to estimate econometric techniques production functions. On the other hand one uses univariate, pure statistical methods for the analysis of time series. Consistent estimation methods are:

Development of potential output over time

In the long-term time course of the growth rate of potential output increases in developed countries tend to decline. This is due to the low and sometimes even negative population growth, low domestic investment rates and decreasing productivity growth. Thus, the potential growth in the United States in the mid -1960s was around four percent per year, while it declined to 1990 per year to less than three percent.

The IT revolution made ​​from the mid- 1990s in the United States for a rise in potential output growth by almost half a percentage point and was based on the observed boom in those years. After the U.S. economy had the productivity benefits realized by the use of information and communication technology for the most part, the potential growth of the early 2000s, went back sharply to less than three percent. Various studies hold a fall in the rate in the coming years to less than 2.5 percent as likely. This scenario would probably have serious impact on the government's economic policies and investment decisions of firms.

For Germany can be from the 1970s, a relatively constant potential output growth of just over two per cent observed. Unlike the U.S., the potential growth in Germany has declined to less than two percent from the mid- 1990s. The Expert calculated for Germany in 2004, a growth rate of potential output by about 1.5 percent. The lower value for Germany arises inter alia from the lower population growth.

Documents

Literature sources

• Arthur M. Okun; see A.M. Okun: Potential GNP: Its measurement and its Significance; Proceedings of the Business and Economic Statistics Section, American Statistic Association; 1962
• Blanchard, Olivier / Illing, Gerhard: Macroeconomics, Pearson Education, 3rd revised edition, Munich 2003;
• Gustav Horn and Silke Tober: How strong can grow the German economy? Among the trials and tribulations of the potential calculation, IMK Report No. 17, January 2007
• Knights break, Klaus; Macroeconomics, 11th edition, Munich 2000;
• " Great Vahlens economic lexicon "; Publisher: E.Dichtl, O.Issing, Volume 2 LZ, Munich, 1987;