Question

Consider an economy in steady state (or on a “balanced growth path”)without population growth. Suppose that a mysterious new disease (COVID-19) suddenly kills half of the population. We are interested in the effect this likely has on kapital and output per person , both in the short and the long run. How will this affect in the Solow-model? Show with a graph

Answer 1

Answer:  

If an economy is in steady state without population growth, we can link it to a situation that the population growth is constant . For example,current population (represented by N) and future population (represented by N’) are linked through the population growth equation N’ = N(1+g). If the current population is 100 and the growth rate of population is 2%, the future population is 102.We can also define as'steady-state ' is reached when output, capital and labour are all growing at the same rate, so output per worker and capital per worker are constant.

But suddenly if a mysterious new disease occour and kill half of the population then we can say that a large part of human capital has decreased this inturn will effect the economy as a whole.Human capital and economic growth have a strong correlation. Human capital affects economic growth and can help to develop an economy by expanding the knowledge and skills of its people.Human capital refers to the knowledge, skill sets, and experience that workers have in an economy. The skills provide economic value since a knowledgeable workforce can lead to increased productivity. The concept of human capital is the realization that not everyone has the same skill sets or knowledge. Also, the quality of work can be improved by investing in people's education. So if human capital decrease the economic growth will also fall in a larger way.

Secondly Some of the economic consequences that take place due to the dectrease in population to half are obvious: fewer people make less stuff, so a declining population means slower economic growth or even falls in output. But fewer people also consume less stuff: what matters for living standards is output per person, and the crucial question is whether declining population can affect it. It is assumes that economic growth ultimately comes from new ideas, and the discovery of new ideas depends on the number of people researching them. If population suddenly decline to half level, it would mean ever fewer people devoted to research and thus ever slower progress, at a time when new technologies already seem to have become harder to find. Thus in all we can say that such a sudden decrease in population can bring an economy to stand still in no time , human capital , non living asset as well as the output per person decline to to the decrement of thoughtful mind and brain. The impact of such activity will be of long run.

Let us explain the current situation with Solow Growth model point wise

1) The Solow growth model focuses on long-run economic growth but here the long term growth cannot take place due to sudden decline in population

2)A key component of economic growth is saving and investment. An increase in saving and investment raises the capital stock and thus raises the full-employment national income and product. The national income and product rises, and the rate of growth of national income and product increases. But under the given condition saving and investment will not take place due to decline in income so their is no issue of full employment and positive increase in National income.

3)Solow sets up a mathematical model of long-run economic growth. He assumes full employment of capital and labor. Given assumptions about population growth, saving, technology, he works out what happens as time passes. The Solow model is consistent with the stylized facts of economic growth. Under the given condition neither full employment nor the capital investment will take place.

4) The production function exhibits constant returns to scale; doubling the capital and labor doubles the output under Solow's model but it will not exihibit under present condition.

The graph may be represented up to some extent

The dark line and the arrow represent the decline in population. The actual investment will touch it after a long time so as the break even point.