ROMER MODEL

Question 1

The romer model is about…

Answer 1

How the process of ideas can generate economic growth.

Question 2

The economics of ideas involves 2 things:

Answer 2

1. IRS in production

2. Problems with perfect competition

Question 3

2 classes of FOPs

Answer 3

Objects

Ideas

Question 4

2 difference between objects and ideas

Answer 4

1. potentially infinite ideas vs finite objects

2. Ideas are non-rival vs rival ideas

Question 5

Why are ideas non-rival?

Answer 5

because one person’s use of an idea do not prevent its inherent usefulness to someone else.

Question 6

Why are objects rival?

Answer 6

Because one person’s use diminishes the stock / reduces usefulness to someone else in terms of efficiency.

Question 7

How can ideas be made excludable?

Answer 7

By legal boundaries such as property rights

Question 8

2 implications of non-rivalry

Answer 8

1. IRS in production due to replication argument - if we double objects, production doubles, so if also double ideas, production will more than double.
2. Innovation not compatible with perfect competition

Question 9

Why is innovation not compatible with perfect competition?

Answer 9

Perfect comp: price = MC
Zero profits
Innovation incurs an additional fixed cost
If non-rival any firm can use so no firm willing to incur the loss for it. Need market power.

Question 10

Simplification of Romer model

Answer 10

NO physical capital Kt

Question 11

4 equations romer

Answer 11

1. production of goods: Yt = At Lyt
2. ideas pf: change At+1 = z bar At Lat
3. Resource constraint: Lyt + Lat = L bar
4. Allocation of labour: Lat = l bar L bar

Question 12

Ideas production function & explain

Answer 12

change At+1 = z bar At Lat
z bar = productivity of ideas production
At = stock of existing ideas ‘standing on shoulder of giants’
Lat = no workers in R&D

Question 13

Output per worker pf romer. Explain.

Answer 13

yt = At (1-l bar)

Output per worker depends on total stock of ideas since non-rival so total stock available to every worker.

Question 14

Growth rate of knowledge =

Answer 14

change At+1/At = z bar l bar L bar

g bar = z bar l bar L bar

Question 15

Stock of knowledge at time t

Answer 15

At = A0 (1+g)^t

Question 16

Output per worker solved in terms of parameters only

Answer 16

yt = A0 (1- l bar) (1+g)^t

Question 17

So does Romer model produce LR growth?

Answer 17

YES - output per worker grows at a constant rate g over time.

Question 18

Why does Romer –> LR growth?

Answer 18

Because idea are non-rival - no diminishing returns + no depreciation.

Question 19

Transition dynamics in romer?

Answer 19

NO - because at all times all endogenous variables grow at constant rate g - no periods of varying growth.

Question 20

What do we call the LR in romer?

Answer 20

Balanced growth path

Question 21

impact of higher L bar on romer

Answer 21

Higher L bar = increases g bar = increases output per worker. Immediate and permanent increase in growth rate per worker = scale effect.

Question 22

Are scale effects data consistent?

Answer 22

NO - countries with large LF do not grow faster. But can’t be sure as we don’t know whether the correct boundaries for flow of ideas is actually countries.

Question 23

impact of higher l bar on romer

Answer 23

higher l bar = reduces yt in SR

higher l bar = higher g bar = increases yt and growth in LR. SR trade-off.

Question 24

Does Romer predict convergence?

Answer 24

NO - two economies one with higher A0 and same growth = constant GDP level gap. Otherwise divergence.

Question 25

How do we combine solow and romer?

Answer 25

Non rival ideas from romer = LR growth along balanced growth path. Transition dynamics to balanced growth path from solow.
Add endogenous K accumulation from solow into romer.

Question 26

Solow romer model equation

Answer 26

Yt = At Kt^1/3 Lyt^2/3

Question 27

Explain transition dynamics solow romer

Answer 27

When K stock is low, high MPK= K accumulation generates growth, as well as ideas, so g > g bar. In LR, K stops generating growth, only comes from ideas so g = g bar.

Question 28

gyt solow romer =

Answer 28

gyt = gAt + 1/3 gKt + 2/3 gLyt

Question 29

gLyt solow romer =

Answer 29

0

Question 30

gAt solow romer

Answer 30

g = z bar l bar L bar

Question 31

In order for growth rate of K to be constant on balanced growth path, what do we need?

Answer 31

Capital output ratio to be constant.

So gYt = gKt

Question 32

Therefore, growth rate of output in solow romer =

Answer 32

gYt = g bar + 1/3 gYt
2/3 gYt = g bar
gYt = 3/2 g bar = 3/2 z bar l bar L bar

Question 33

What is the growth rate of output PER WORKER solow romer?

Answer 33

SAME as growth rate of output
gyt = 3/2 g bar = 3/2 z bar l bar L bar
Since L bar is fixed

Question 34

Compare LR growth rate solow romer vs romer & explain.

Answer 34

3/2 g > g
Combined model generates higher growth on balanced growth path due to At leading to direct increase Yt and indirect increasing K accumulation which increases Yt.

Question 35

Output per person on balanced growth path solow romer

Answer 35

yt* = (s bar / gY* + d bar)^0.5 At^3/2 (1- l bar)

Question 36

So impact of increasing s bar on Output per person on balanced growth path

Answer 36

SR growth from K accumulation

In LR on a new balanced growth path with higher level of GDP per capita, but same growth rate as before.

Question 37

2 ways to increase g bar in solow romer

Answer 37

1. Increase share of LF in R&D

2. Increase productivity of ideas production process.