Ch 9&10 Economic Growth II: Technological Growth & Policy

4. If the marginal product of capital net of depreciation exceeds n+g, then:

B. The economy is below the Golden Rule steady state.

5. Which of the following policies directly promotes technological progress ?

C. Enforcing patent protection and funding R&D

7. Explain the meaning of “break-even investment” in this context

Break-even investment (δ+n+g)k is the amount of investment needed to keep capital per effective worker constant - it replaces depreciated capital, provides capital for new workers, and equips workers with the new technology.

10. If the saving rate increases from 0.3 to 0.4, what happens to k*, y*, and c*?

k* and y* both rise because higher saving increases investment and steady-state capital.

However, c* might rise or fall depending on whether the economy was initially below or above the Golden Rule. If below, consumption increases; if above, it decreases.

11. Explain why, in the long run, only technological progress (g) can lead to sustained growth in living standards.

Without technological progress, diminishing returns to capital implies per-worker output eventually stops growing.

14. What are two policy options for increasing the saving rate in the economy?

1. Reduce government budget deficits (increase public saving).

2. Create incentives for private saving (e.g, lower capital gains tax, shift to a consumption tax).

15. Identify three institutional or policy factors that can enhance technological progress in the Solow framework

1. Strong patent protection for innovators

2. Tax incentives for R&D investment

3. Public funding for education and basic research to increase human capital

16. Define and explain conditional convergence in the context of growth trends.

Conditional convergence occurs when poorer countries grow faster than richer ones only if they share saving rates, population growth rates, and education levels. Each country converges to its own steady state determined by its structural parameters. 

17. Discuss what is meant by balanced growth in the Solow model and compare it with real-world data.

In steady state, both output per worker (Y/L) and capital per worker (K/L) grow at the same rate g.

Empirically, US data show both grow about 2% per year - confirming the Solow model’s prediction of balanced growth.

Solow model predicts that only technological progress

can explain sustained growth and persistently rising standards of living

BALANCED GROWTH

• Solow model’s steady state exhibits balanced growth—

many variables grow at the same rate

• Solow model predicts that

• Y/L and K/L grow at the same rate (g), so K/Y should

be constant.

• True in the real world: for the U.S., Y/L and K/L grow

at 2% per year.

• Real wage grows at same rate as Y/L (g)

• Also true in the real world: for the U.S., real wage

has increased about 2% per year.

CONVERGENCE

 Solow model predicts that, other things equal,

poor countries (with lower Y/L and K/L) should

grow faster than rich ones

• If true, then the income gap between rich &

poor countries would shrink over time

• Hence living standards should converge

• In real world, many poor countries do NOT

grow faster than rich ones.

GROWTH EMPIRICS: CONVERGENCE

• Solow model predicts that, other things equal,

poor countries (with lower Y/L and K/L) should

grow faster than rich ones.

• But “other things” aren’t equal:

• For countries with similar s and n,

income gaps shrink about 2% per year.

• After controlling for differences in saving, pop.

growth, and human capital, incomes

converge by about 2% per year.

Conditional Convergence

Countries converge to their own steady

states, which are determined by saving,

population growth, and education

FACTOR ACCUMULATION VS. PRODUCTION EFFICIENCY

International differences in income per capita

among countries due to differences in:

1. Capital per worker (physical or human capital)

2. Efficiency of production (the height of the production

function)

• Studies:

• Both factors are important

• Correlation between the two factors:

countries with higher capital per worker also

tend to have higher production efficiency

HOW TO INCREASE THE SAVING RATE?

Reduce the government budget deficit (or increase the budget surplus)

• Increase incentives for private saving:

• Reduce capital gains tax, corporate income tax,

estate tax, as they discourage saving

• Replace federal income tax with a consumption

tax

ESTABLISHING THE RIGHT INSTITUTIONS

Creating the right institutions is important for

ensuring that resources are allocated to

their best use

• Examples:

• Legal institutions protect property rights

• Capital markets help financial capital flow to the

best investment projects

• A corruption-free government promotes

competition, enforces contracts, etc.

ENCOURAGING TECHNOLOGICAL PROGRESS

• Patent laws: encourage innovation by

granting temporary monopolies to inventors

of new products

• Tax incentives for R&D

• Grants to fund basic research at universities