Economic Growth L13+14 Flashcards
What is technological knowledge in terms of L and K?
The use of combinations of the two to produce output
Why is the classical model unable to explain the economy’s LR trend in growth?
Because:
Y = F,(L,K) - all are fixed in classical tf doesn’t explain increasing Y
What does the Solow model explain?
How growth in L, K and technological knowledge affect an economy’s total output
Show how you get the demand per worker equation y=c+i?
Now
G and C become joined since both are used immediately
Show how you get the supply per worker equation y=f(k)?
Now
What is the saving rate?
The fraction of income saved (Solow model assumes constant)
Explain how changes in capital shift the LRAS right?
Since y=f(k)
Δcapital implies Δoutput
Tf
Δcapital over time implies Δoutput over time
2 factors that influence capital?
Investment (causes increase in k)
Depreciation (causes decrease in k)
Yearly capital depreciation = ?
δk
Derive the Solow model equation?
Now
What does the Solow model show?
Changes in capital are crucially influenced by the saving rate
Draw diagram showing the curves of output and investment? Why are they like this?
Investment curve sf(k) represents the part of output that is used for saving(=i)
Both curves have diminishing returns on capital per worker wrt output
Draw diagram showing the steady state of depreciation and investment? What happens beyond and before the steady state?
Beyond: depreciation>investment tf negative Δk(capital/worker)
Before: investment>depreciation tf positive Δk
Why? Solow model equation
Why is the depreciation line straight?
Because as capital increases, the total amount of capital that depreciates also increases
Why does the steady state occur?
When k=k*
Tf when sf(k)=δk
Due to diminishing returns, the smaller the initial value of k,…? (2)
The greater the effect of Δk on the increase in output will be
Tf all other things being equal, it is easier for a country to grow faster if it starts relatively poor (CATCH UP EFFECT)
How does the saving rate affect the steady state? How does a country with a higher saving rate look on the diagram?
The higher the saving rate (s), the higher the k* tf countries with higher saving rates have higher income
Line starts at 0 still but ends higher up (diminishing returns are slower to come about)
What is the slope of the f(k) line?
The marginal physical product of capital
When finding the optimum saving rate, why shouldn’t we aim to maximise income?
Because if we use s=1 (required to maximise income):
c=(1-s)y tf c=0y=0 - zero consumption level is bad!
Why can’t we maximise consumption when looking for optimal saving rate?
Spending all income on c means s=0:
Tf i=sf(k)=0 tf all capital will depreciate
How does the golden rule suggest we find the optimum saving rate?
To find steady state k* that is optimal, we have to compare consumption at different steady states
Where is the golden rule level of capital? Show on a diagram this?
When the distance between f(k) and δk is maximised, consumption is maximised whilst in a steady state, therefore the government will choose whatever saving rate this occurs at (if they could)
When is the golden rule of capital reached (equation) ?
MP(k*)=δ
When is the golden rule of capital reached (graphically)?
When the slopes of f(k) and δk are the same and equal to δ
See transition and page 11L14 for diagram of y,c,i against time
Reminder: i in all of this is investment/worked
What happens as the saving rate is changed to reach GR?
There is a short term fall in C (see diagram for why)
