Open blog # 6 Capital Change VS Technological Change

Capital Change VS Technological Change

Before we focus on this topic, let me introduce some background information first. There are four elements can determine the labor productivity: physical capital per worker (machines, software, etc.), human capital per worker (knowledge and skill- one might also add level of effort), natural resources per worker and technological knowledge.

About “Technological change”, it is mean change in the quantity of output a firm can produce from a given quantity of inputs which is mean better ways of organizing production. We can find many example like, Henry Ford and the assembly line, Toyota and “just in time” production, Walmart and then Amazon in retailing. The new products they produced can do what old ones did better or at less cost.

So to increase production which one we should invest more money? Should it be capital change (physical capital, human capital) or technological knowledge?

I think we can analysis this question in two ways

First, we solve this problem from the production function. A production function is Y = A•F (L, K, H, N), which Y is output, L is number of workers, K is physical capital, H is human capital, N is natural resources and A is a measure of technology. So if we can add one more unit on A, we can have a bigger result than we add one more unit in the F. Because by increasing the A, the number we get is increasing multiply.

We also can think this question in logical way. If we add so much funds on capital, it will cause “Diminishing returns” which like the picture I show below.

As the picture describe, productivity can grow is by giving workers more capital to work with, but we expect the increases in output to diminish as more capital is added. So Diminishing returns to increasing quantity of capital. A failure of the Soviet Union was too much emphasis on the quantity of capital, without incentives for improving technology.

Above all, even thorough both are important, technological change should occupy more attentions.

Citation:

Mankiw, Brief Principles of Macroeconomics, 7th edition