Chapter 12: Growth Theory Flashcards
Based upon inference from widely accepted principles
Deductive Reasoning
The process of discovering explanations for a particular set of facts by estimating the weight of observational evidence in the form of a proposition which asserts something common to the entire class of facts
Inductive Reasoning
Good Economic Theories are:
(1) Simple
(2) Flexible
(3) Useful for making accurate predictions
- Serves as the foundation of growth theory
- Began in the 1950’s
- We must accept imperfection
Evolution of Modern Growth Theory: Solow Model 1
Describes the relationship between the inputs the firm uses and the outputs it creates
Production Function
Solow Model I’s Main Focus
Physical Capital
Reason behind why Solow Model I focused on Physical Capital?
(1) Increasing tools available can increase output per worker
(2) Capital in wealthy nations exceeds capital in developing nations
(3) Periods of investment growth and periods of expansion
How do economists measure the impact of resources?
Marginal Product
The change in output associated with one additional unit of an input
Marginal Product
Occurs when the marginal product of an input falls as the quantity of the input rises
Law of Diminishing Marginal Return
Implications of Solow I:
(1) Steady State
(2) Convergence
The condition of a macroeconomy when there is no new net investment
Steady State
A long run equilibrium point in which there is no new net investment
Steady State
Net Investment
Investment minus depreciation
Capital Stock is ______.
Constant
A fall in the value of a resource over time.
Depreciation
The idea that per capita GDP’s across nations equalizes as nations approach the steady state
Convergence
Why Solow I Model Failed?
(1) Growth in wealthy nations consistently outpaces poor countries
(2) No sign of convergence
Capital and Growth
- Capital is associated with economic growth, but association is not causation
- We observe strong correlation between wealth and output
- Workers are more productive with more tools
- Adjustments acknowledge how technology can lead to economic growth
- With technology nations can produce more output with each input
- Model now includes capital plus exogenous technology
- Graphically, marginal product increases, shifting the production function upward
Solow II Model
Solow II assumes that change in technology are _______________.
Exogenous
Growth that is independent of factors within the economy.
Exogenous Growth
Two assumptions for the Solow II Model:
(1) Technological progress often is luck and is also often random
(2) It made the theoretical models easier to solve
Policy Implications of Solow II:
(1) Solow II emphasizes the importance of technology and capital
(2) For low income countries to grow, they need the latest technology available
(3) High income countries can help by funding capital investment in poor countries
Results of Solow II Implementation:
(1) Actual capital goods were built outside aid (exogenously provided by the West)
(2) Aid was given to developing countries to fund the building of infrastructure
Results of the Policies Implemented by Solow II Model:
(1) Some countries received billions in aid and are no better off today than they were in 1960
(2) Other countries received almost no aid and have grown rapidly
Technological change is __________ and depends on factors that currently exist in the economy.
Endogenous
Results of Solow II Aid Program
(1) Some countries received billions in aid
(2) Other countries received almost no aid; yet they’ve grown rapidly
Is an approach that focuses on technological change and institutions
New Growth Theory
With the new growth theory, technological change is now considered ___________.
Endogenous
Because technological change is endogenous, nations need to create an environment that encourages technological change.
Institutions
Positive Institutions
(1) Transparent and consistent government
(2) Private property rights
(3) Stable money and prices
Negative Institutions
(1) Corruption
(2) Political Instability
Institutions that Foster Growth
(1) Political stability and rule of law
(2) Private property rights
(3) Competitive markets
(4) International trade
(5) The flow and funds across borders
(6) Efficient taxes
(7) Stable money and prices
