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08+The+Sources+of+Growth+and+the+Solow+Model%2C+Part+2

08+The+Sources+of+Growth+and+the+Solow+Model%2C+Part+2 -...

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1 8-1 The Sources of Growth and the Solow Model Part 2 8-2 Agenda 1. The Solow Model’s Disequilibrium Dynamics 2. Changes in the Saving Rate, s 3. Changes in the Labor Force Growth Rate, g L 4. Productivity Change in the Solow Model 8-3 The Solow Growth Model The Solow Growth Model combines: 1. The per-worker production function , 2. The per-worker saving function , and 3. The per-worker balanced investment function. It initially assumes that A is constant. So there is no productivity growth, i.e., g A = 0 8-4 “S” The Solow Growth Model K/L Y/L, I/L, I B /L I/L = s 0 *A* f(K/L) I B /L = ( δ 0 + g L0 )K/L Y/L = A* f(K/L) (Y/L) S (I/L) S = (I B /L) S (K/L) S

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2 8-5 Disequilibrium Dynamics What if the economy is BELOW its steady- state? 1. Suppose (K/L) 1 < (K/L) S 8-6 “S” Disequilibrium Dynamics K/L Y/L, I/L,I B /L I/L = s 0 *A* f(K/L) I B /L = ( δ 0 + g L0 )K/L Y/L = A * f( K/L ) (Y/L) S (I/L) S = (I B /L) S (K/L) S 8-7 Disequilibrium Dynamics What is the adjustment mechanism that moves the economy to its steady-state? 1. If (K/L) 1 < (K/L) S , then at (K/L) 1 , I/L > I B /L 2. If I/L > I B /L, then K/L will increase. 3. This process continues until K/L = (K/L) S 8-8 Disequilibrium Dynamics What if the economy is ABOVE its steady- state? 2. Suppose (K/L) 1 > (K/L) S
3 8-9 “S” Disequilibrium Dynamics K/L Y/L, I/L, I B /L I/L = s 0 *A*f(K/L) I B /L = ( δ 0 +g L0 )K/L Y/L = A*f(K/L) (Y/L) S (I/L) S = (I B /L) S (K/L) S 8-10 Disequilibrium Dynamics What is the adjustment mechanism that moves the economy to its steady-state? 1. If (K/L) 1 > (K/L) S , then at (K/L) 1 , I/L < I B /L 2. If I/L < I B /L, then K/L will decline. 3. This process continues until K/L = (K/L) S 8-11 The Solow Growth Model With no productivity growth: 1. The economy reaches a steady state, 2. with a constant capital-to-labor ratio, K/L, and 3. with constant output-per-worker, Y/L. The steady state is where the economy converges to in the long run and so is the long-run equilibrium for the economy. 8-12 Changes in the Saving Rate, s Suppose that: 1. The economy is at its steady-state, and 2. The saving rate, s, then increases.

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4 8-13 “S” Changes in the Saving Rate, s K/L Y/L, I/L, I B /L I/L = s 0 *A*f(K/L) I B /L = ( δ 0 +g L0 )K/L Y/L = A*f(K/L) (Y/L) S (I/L) S = (I B /L) S (K/L) S 8-14 Changes in the Saving Rate, s What is the adjustment mechanism
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