Question

Consider the Basic growth model from your text and

lecture as defined below:

Production function: GDP = f(At, Kt, Lt); where capital (K) and labor (L) are substitutes and technology (A) aids production

Demographic Behavior: Lt+1= Lt(1+n) = Nt+1; where n is the population growth rate, N is the total population and there is no unemployment

Capital and Savings/Investment Dynamics: Kt+1 = It + Kt(1-δ); It = St = s*Y; where δ is the depreciation rate of capital, s is the savings rate and investment is I.

Technology Change: At+1= At(1+λ); where λ is the constant growth rate of technology Suppose output would be Y*1 in the next period if nothing changed.

Part 1: Now suppose that the parameters (δ, λ , δ , n ) of the model change in the ways described below. For each outcome listed, determine whether the Y1 that would result under the new parameters is larger, smaller, or of unknown sign compared to Y*1.

a) GDP

Increase in δ

Increase in λ

b) GDP per capita

Increase in δ

Increase in n

Answer 1

a). Increase in i.e the depreciation rate of capital, would lead to a decline in GDP or Y1, however increase in i.e, constant growth rate of technology would lead to increase in GDP or Y1. It must be noted that, if increase in is more than increase in then the GDP would decline and vice versa.

b). Increase in would lead to decline in GDP per capita and an increase in n would also lead to a decline in GDP per capita.