Question

1. i) What are the main features of the Solow growth model? Explain how the steady state level of capital determined in the Solow growth model. Why is the steady state stable? Explain your answer with a diagram.

ii) Explain the main features of the balanced growth path implied by the Solow growth model.

iii) Can austerity policies can have a positive effect on growth? Using economic knowledge, assess that statement in the context of the Solow growth model.

Answer 1

SOLOW Growth Model :- It is the model of economic growth that analyzes the changes in the level of output in an economy over the time as the changes in the population growth rate, savings rate and technological progress.

This model developed by Nober Price Winning economist Robert Solow.

Diagram-1

Main Features:-

1. The protection takes place according to linear homogeneous production function.

a. Y=F(K,L)

2. The relationships between the savings and investment changes the output.

3. Full employment in the economy.

4. Capital and labour are paid according to their productivities.

5. Labour and capital are substitutes for each other.

6. Technical progress does not effect productivity and efficiency of labour.

7. The Steady Sate level of capital determined in the Solow Growth Model.

When the depreciation is growing at the same rate as the capital stock grows this situation is called the Steady-State Level of Capital. It is the main feature to understanding the Solow Model. At the Steady-State, an investment is equal to depreciation.

2. Main features of the balanced growth path implied by the Solow-Growth Model.

Diagram-2

The Solow mode emphasis is placed on the ease of substitution between capital and labour in the production function to have balanced growth.

3. Austerity Policies can have a positive effect on growth.

Austerity policy is a set of political-economic policies that aim to reduce government budget deficits through spending cuts, tax increases.

So we can say that Austerity policies can have a positive effect on growth.