Growth Part 3

Question 1

Describe how capital stock comes to its steady state.

Answer 1

• Where investment per worker meets depreciation per worker
• Capital stock per worker becomes constant

Question 2

What does the change in capital per worker depend on?

Answer 2

• Investment during year t
• Depreciation during year t

Question 3

Describe how depreciation per worker and investment per worker affects the change in capital from year to year.

Answer 3

• If investment per worker exceeds depreciation per worker - change in capital per worker is positive -

Question 4

Why does the economy always end up at the steady state?

Answer 4

• To the left of K*/N: saving per worker exceeds depreciation of the existing stock, so capital per worker rises
• To the right of K*/N: investment less than depreciation so equipment is wearing out faster than it can be replaced, capital per worker shrinks
• Once capital stock reaches K*/N, investment = depreciation - no pressure on the capital stock to increase or decrease

Question 5

What happens when K>K* at K0 / N?

Answer 5

• Depreciation exceeds investment
• Capital stock per worker and output per worker decrease over time

Question 6

Derive how in a steady state, Y/N = f(K/N).

Answer 6

• In a steady state, output per worker and capital per worker are no longer changing => (Kt+1/N) - (Kt/N) = 0
• 0 = sf (K/N) - δ(K/N)
• Given the steady state of capital per worker (K/N) steady state value of output (Y/N) is given by:
• Y/N = f(K/N)

Question 7

Consider a country that loses part of its capital stock as a result of bombing during a war.

Answer 7

• If capital stock losses exceed population losses - it will cause the nation to come out of the war at a point to the left of the K*/N
• Investment from this point will result in rapid growth until converging back at the steady state
• Explains German growth post WW2

Question 8

How does saving rate affect growth?

Answer 8

• If production function shows decreasing returns to capital, an increase in the saving rate can only affect the growth rate temporarily
• In the long run - savings do not affect growth but do affect level of output per worker

Question 9

What is the effect of increasing the saving rate on a country’s output?

Answer 9

• Investment per worker increases so Kt/N shifts upward
• Steady state

Question 10

Summarise the effect saving rate has on long run growth rate.

Answer 10

Has no effect if technological progress is equal to zero

Question 11

Does increasing the savings rate lead to higher growth forever?

Answer 11

No, due to diminishing returns