Question

2) China’s real per capita GDP has been growing significantly faster than that in the U.S. – China’s growth rate was about 10% several years ago, compared to about 3% for the U.S.

a) Using the Solow growth model (with no technological progress), is there reason to believe this disparity in growth rates will disappear in time? What about the disparity in income levels per person?

b) How is your conclusion affected if you were told that China has a higher saving rate than the U.S.?

c) What if the saving rates are the same, but China has a higher population growth rate?

Answer 1

a. The Solow Model states that growth rates of two countries will converge to the same level of capital per capita and output per capita given that the savings rate, population growth rate and depreciation rate in the economies are same. Thus, using Solow Model it can be stated that disparity in the growth rates will disappear in time. It cannot be stated that disparity in the income levels per capita will disappear because Solow Model does not state whether inequality in each country will disappear or not.

b. If China has a higher savings rate than the United States, then both the countries will not converge to the same level of growth rate rather a country with higher savings rate will have higher growth rate as compared to the country with lower growth rate. Thus, differences in the savings rate does not lead to convergence in the growth rates of economies.

c. If China has a higher population growth rate, then output per capita will be lower in China and higher in US. There will be no convergence in their growth rates if there is difference in population growth rates of two countries.