Solow Model

Question 1

Who created the Solow Model?

Answer 1

Robert Solow & Trevor Swan

Question 2

Which are the Solow model’s initial assumptions?

Answer 2

• Closed economy
• No firms, no employees, no markets (Robinson Crusoe)
• Technology is free (non-rivalrous, non-excludable) and exogenous

Question 3

Which are some of the assumptions for households in the Solow model?

Answer 3

• Households save an exogenous and constant fraction of their income (s) and consume (1 - s)
• Households have a constant fraction of their income
• Will choose a savings rate that maximizes consumption

Question 4

Which are the four main production assumptions in the Solow model?

Answer 4

• Constant returns to scale (homogenous of degree one)
• Positive and diminishing marginal returns to scale
• Inada conditions
• Essentiality

Question 5

Which are the two purposes for which firms in the economy invest in the Solow model?

Answer 5

• Increasing capital stock for production

- Replacing deprecated capital

Question 6

How does capital deprecate in the Solow model?

Answer 6

At a constant rate

Question 7

Which is the size of the economy in the Solow model?

Answer 7

L: the population size equals the number of workers

Question 8

How does the population grow in the Solow model?

Answer 8

At a constant rate, n

Question 9

What does Solow’s fundamental equation tell us?

Answer 9

The rise in capital stock per capita over time is determined by how much capital deprecates

Question 10

Which are some properties of the steady state in the Solow model?

Answer 10

• It is unique
• An economy that is not in the steady state will eventually get there
• An economy that finds itself in the steady state will stay there forever
• In the steady state there is no growth in any of the “per capita” variables

Question 11

According to the Solow model, what happens if the savings rate increases?

Answer 11

An increase in the savings rate increases investment, which increases capital stock

Question 12

What is the Solow model’s golden rule?

Answer 12

k gold is the level of k that maximizes consumption per capita

Question 13

What does the golden rule mean for consumption in the Solow model?

Answer 13

Consumption is maximized where the slope of the production function is equal to the slope of the depreciation curve

Question 14

In the Solow model, what happens when there is an increase in the savings rate and in the level of technology?

Answer 14

There will be an increase in the growth rate of capital per worker

Question 15

In the Solow model, what happens when there is a higher depreciation and population growth?

Answer 15

There will be a decrease in the growth rate of capital per worker

Question 16

Which is the main conclusion from the Solow model?

Answer 16

Savings and investment do not lead to a permanent increase in the long-run growth rate