Economic Growth and Financial Intermediaries

Economic Growth and Financial Intermediaries

How do we measure long-term economic growth of a country? What are the key determinants of long-run economic growth?

A country can measure its long-term economic growth by tracking down the changes in its gross domestic product (GDP) over time. However, it is understood that long-run growth trends are as a result of deeper changes in the country’s economy and also have long-lasting consequences.

The determinants of long-run growth include the following. The first determinant is the growth of productivity. The increase in productivity lowers the cost of goods. Therefore, this results to lower prices that increase the demand for goods and services (Karatas, & Tunca, 2010). The second determinant is demographic changes. The demographic factors such as quantity and quality of natural resources and age structure of the country’s population influence employment. It also influences long-run growth. Lastly, labor force participation also influences long-run growth. A country with high labor force participation, industrialization and development experience high long-run economic growth.

What is the relationship between economic growth and productivity? What is the major source of growth in labor productivity?

The relationships between economic growth and productivity are close since a country will experience economic growth when its productivity increases to give space for growth. Similarly, a country’s productivity will occur when the resources such as raw materials, manpower and technology and combined to produce the final product. Economic growth will not occur in circumstances when a country’s productivity decreases without a corresponding decrease in demand. This is because the prices of products and services will rise and only fewer people will get what they need.

Human capital is the main source of growth in labor productivity. It encompasses knowledge, skills, and expertise that workers possess. Therefore, the higher the average level of education in an economy, the higher the human capital. Hence, this will result in high labor productivity.

What are the roles of financial intermediaries and loanable funds market in promoting long-run economic growth? How do financial intermediaries link saving and investment?

Firms acquire their funds mainly from households through the following ways. They get funds directly from the financial markets that include stock and bond markets. Secondly, they can acquire funds indirectly through financial intermediaries (Karatas, & Tunca, 2010). Similarly, in the section of markets for loanable funds, the borrowers and lenders interact to determine the market interest rate. Also, they determine the number of loanable funds exchanged.

In an economy, the amount of savings available is equal to funds available for investors. Besides, high amount of savings has a correspondingly lower rate of interest. Financial intermediaries play a role of increasing the incentive to save. They do so through developing financial products that provide a higher return than a saving account. Similarly, they offer ease of liquidation. The financial intermediaries transform all forms of savings into investment.

How does government borrowing crowd out investment? What is the relationship between government borrowing and budget deficits?

Crowding out effect is as a result of large volumes of government borrowing. Therefore, the government borrowing uses up a large proportion of savings available for investment. Since investor’s demand for savings increase while the supply remain the same, the interest rates increases. The investors will start to experience the crowding out effect when the interest rates are at the point that only the government can afford to borrow. Therefore, at this point, individuals and private firms will be unable to compete for loans.

If the government spending is greater than the revenue, then the country experiences a budget deficit (Panizza, & Presbitero, 2014). Therefore, the government will have to borrow money to finance the deficit.


Karatas, M., & Tunca, M. Z. (2010). Sustainable economic development and the influence of information technologies: Dynamics of knowledge society transformation. Hershey, PA: Information Science Reference.

Panizza, U., & Presbitero, A. F. (2014). Public debt and economic growth: is there a causal effect?. Journal of Macroeconomics, 41, 21-41.


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