Question

A country is described by the Solow model with a production function of y=k^(1/2). Suppose that k is equal to 400. The fraction of output invested is 50%. The depreciation rate is 5%.

a. How does k change at this level?

b. What is the steady state level of k?

c. Suppose the level of k is 900. How does this change affect the
rate of change of k to the steady state?

Answer #1

(a) Change in k = sy - dk

Where k=400

y= k^{1/2} = 400^{1/2} = 20

d = deprecation rate = 0.05

s = saving rate= 0.50

change in k = (0.50)20 - (0.05)(400)

= 10 - 20

= -10.

So, when k=400, k decreases.

(b) At steady state level , change in k = 0.

change in k = sy - dk

0 = (0.50)(k)^{1/2} - (0.05)(k)

0.50/ 0.05 = k^{1/2}

10 = k^{1/2}

**k = 100 [ Steady state level of k]**

(c) k= 900

Because k=900 and at steady state k =100. Therefore, change in k =sy - dk

y = (900)^{1/2} = 30

change in k = (0.50)(30) - (0.05)(900)

= 15 - 45

= **-30.**

There is increase in the rate of change of k to the steady state.

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