Question

Solow model without ideas accumulation

Consider the simple Solow model without ideas accumulation in the long term (steady-state).

What does the model predict economic growth?

What does it predict the level of GDP?

Answer 1

Solows model shows that there would be a tendency for capital labour ratio to adjust itself through time in the direction of equilibrium ratio. The theory states that economic growth is the result of 3 factors- labour,capital and technology.   

Solow takes output as a whole, the only commodity in the economy.It's annual rate of production Yt which repersent the real income of the community , part of it is consumed and the rest is saved and invested. That which is saved is a constant S, and the rate of saving is S.Yt.Kt is the stock of capital .Thus , net ivestment is the rate of increase of this stock of capital ie,    K=S.Y    - (1)   

Since ,output is produced with capital and labour ,technological possibilities are represented by the production function Y=F(K,L) -(2)

   That shows constant return to scale .inserting equation (2) in (1) ,we've

   K=SF(K,L) - (3)

In (3) , L represents total employment.Since popilation is growing exogeneously the labour force increase at a constant relative rate n . Thus Lt= Loeet -(4)

   Lt= the available supply of labour at time (t) , the RHS of(4) shows the compund rate of growth of labour force from period o to period t. (4) can be regarded s the supply curve of labour.By inserting (4) in (3) solow gives the basic equation

   K=SF(K, Loent)

   solow regards the basic equation as etermining the time path of capital accumulation K that must be followed if all available labour is to be fully employed .It also provides the time profile for capital stock.

   In this situation, the growth of output per worker is determined solely by the rate of technological progress.