What drives economic growth and does it always raise living standards?
Explain the causes and measurement of economic growth and evaluate its effect on material and non-material living standards in Australia.
How real GDP measures growth, the sources of growth, and the difference between material and non-material living standards, including the costs of growth, with Australian data.
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What this dot point is asking
Economic growth is one of the central objectives of macroeconomic policy. It is the engine that raises incomes, funds public services and creates jobs, but the course asks you to evaluate growth, not just describe it, because more output does not automatically mean a better life.
Measuring growth
Growth is measured as the annual percentage change in real Gross Domestic Product. Real GDP strips out inflation so that we see genuine changes in the volume of output rather than just higher prices.
Because population also changes, real GDP per capita is the better guide to average living standards: it divides output by the number of people. An economy can grow overall yet have stagnant per capita output if the population is rising just as fast.
Sources of growth
Growth comes from two broad sources. The first is increasing the quantity of resources: a larger labour force from population growth or higher participation, and a bigger capital stock from investment. The second, and more sustainable, source is productivity: producing more output per unit of input through better technology, skills, infrastructure and work practices. In AD-AS terms, demand-side factors can lift output toward capacity in the short run, but only supply-side improvements shift the production possibility frontier and aggregate supply outward for lasting growth.
Material living standards
Material living standards refer to the quantity of goods and services people can consume, closely tied to real income per person. Growth tends to raise material living standards: higher output means higher incomes, more employment and greater government revenue to fund services. Decades of growth explain why Australian households today consume far more than earlier generations.
Non-material living standards
Non-material living standards capture quality of life factors that are not bought and sold: leisure time, health, environmental quality, safety and life satisfaction. The link between growth and these is mixed. Growth can fund better healthcare and education, lifting non-material wellbeing. But the pursuit of growth can also lengthen working hours, increase stress, and generate pollution and congestion that reduce wellbeing. This is why some economists prefer broader measures such as the Genuine Progress Indicator alongside GDP.
The costs and sustainability of growth
Rapid growth can fuel inflation if it outpaces capacity, widen the gap between rich and poor, deplete natural resources and damage the environment. Sustainable growth aims to raise output at a pace that can be maintained without storing up these problems for the future. This is why the objective is usually stated as strong and sustainable growth rather than maximum growth.
A strong response defines and measures growth correctly, explains its supply-side and demand-side drivers, and weighs its benefits for material living standards against its uneven and sometimes negative effects on non-material wellbeing.
Exam-style practice questions
Practice questions written in the style of TASC exam questions on this dot point, with worked answer explainers. The year tag is the paper they imitate, not the source.
2023 TASCWhat is sustainable economic growth? Describe two (2) limitations of gross domestic product as a measure of general welfare.Show worked answer →
Sustainable economic growth. Growth in real GDP that can be maintained over the long term without causing excessive inflation, unsustainable external imbalances or environmental degradation that would undermine the capacity for future growth. It is growth that meets present needs without compromising the ability of future generations to meet theirs.
Two limitations of GDP as a welfare measure (about 3 marks each):
- It ignores non-material wellbeing and distribution. GDP measures the value of output but says nothing about how income is shared, leisure time, health, or the quality of life. Higher GDP can coincide with greater inequality, so average GDP per person can rise while many are no better off.
- It omits externalities and non-market activity. GDP does not subtract environmental costs such as pollution or resource depletion, and it excludes unpaid work (household and volunteer work) and the black-market economy, so it can overstate or understate true welfare.
A complete answer defines sustainability and then clearly links each GDP limitation to why measured output is an imperfect proxy for living standards.