Economic Growth and Solow Model

Economic Growth and Solow Model - Economic Growth and Solow...

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1 Economic Growth and Solow Model Is there some action a government of India could take that would lead the Indian economy to grow like Indonesia's or Egypt's? If so, what exactly? If not, what is it about the nature of India that makes it so? The consequences for human welfare involved in questions like these are simply staggering: Once one starts to think about them, it is hard to think about anything else. - Robert Lucas, Nobel Laureate (1995). 1 Economic Growth One of the most striking features of the world economy is the vast disparity in standards of living and rates of economic growth. For example, in 2000, real GDP per capita in the United States was more than fifty times that in Ethiopia. And over the period 1975-2003, real GDP per capita in China grew at a rate of 7 . 6% annually, while, in Argentina, real GDP per capita grew at a rate of only 1%:Seventy-six times slower. Moreover, there are often vast reversals in prosperity over time. Argentina, Venezuela, Uruguay, Israel, and South Africa were in the top 25 countries (by GDP per capita) in 1960, but none made it to the top 25 in 2000. From 1960 to 2000, the fastest growing country in the world was Taiwan, which grew at 6%. The slowest growing country was Zambia which grew at - 1 . 8%. That is, people in Zambia were markedly worse off in 2000 than they were in 1960. The theory of economic growth seeks to address these issues and provide explanations. The Solow model is a long-run model that seeks to explain why there are such vast income disparities and growth differences across the world. It describes the evolution of potential output or the productive capacities of countries over time. Because we assume an economy is always at potential in the long run, there are no recessions or booms in this analysis. Furthermore, there is no mention of nominal quantities such as money and prices since the classical dichotomy holds; namely, money has no effect on output in the long run and is thus irrelevant for explaining output differences. Over the long run, printing pieces of paper cannot generate increases in prosperity. In 1957, Nicholas Kaldor documented some key facts on economic growth by empirical investigation. Kaldor did not claim that any of the variables he examines would be constant at all times; on the contrary, growth rates and income shares fluctuate strongly over the business cycle. Instead, his claim was that these quantities tend to be constant when averaging the data over long periods of time . His broad generalizations, which were initially derived from U.S. and U.K. data, but were later found to be true for many other countries as well, came to be known as 'stylized facts'. These may be summarized and related as follows:
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2 1. Output per worker grows at a roughly constant rate that does not diminish over time.
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