Question

If the return on capital is constant over time, explain why technological change causes capital investment. show why with a diagram

Answer 1

The above question can be answered with the help of Solow model with technological progress.The constant returns to scale is a key assumption of the Solows model.When technological progress is added to Solows model it will create a constant growth in capital and in productivity.Technology will increase the capital ,output and population and consumption at a constant rate.When new technology is introduced it will increase the productivity of economy as there is an increase in the quantity of goods and services produced in the economy.When technology is added the capital will never remain constant .

This can be explained with the help of diagram.In the diagram k⁰ is the capital stock in the steady state.Point A in the figure represents the steady state.y⁰ is the initial savings and investment due to technological progress the production function (sy) in the figure will shift upwards and the investment and savings represented by y in the diagram will increase from y⁰ to y¹ and thus thus capital will increase from k⁰ to k¹