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Islamia College of Science and Commerce

This document summarizes the Solow growth model. [1] It describes the key assumptions of the model, including constant returns to scale, diminishing marginal productivity of capital and labor, exogenous population growth, and savings equal to investment. [2] It then explains how the model shows the economy reaching a steady state level of capital and output per worker. [3] Graphically, it illustrates the steady state as the intersection of the savings curve and the investment curve required to maintain the capital stock.

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Muhammad Sahil
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14 views

Islamia College of Science and Commerce

This document summarizes the Solow growth model. [1] It describes the key assumptions of the model, including constant returns to scale, diminishing marginal productivity of capital and labor, exogenous population growth, and savings equal to investment. [2] It then explains how the model shows the economy reaching a steady state level of capital and output per worker. [3] Graphically, it illustrates the steady state as the intersection of the savings curve and the investment curve required to maintain the capital stock.

Uploaded by

Muhammad Sahil
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PPTX, PDF, TXT or read online on Scribd
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ISLAMIA COLLEGE OF SCIENCE AND

COMMERCE

Name: Arsheen Mubin


Roll no.: 21870002
Course: B.A Economics (H)
Teacher Incharge: Mr. Umer
Robert Merton Solow is
an American Economist,
who received Nobel
price in economic
sciences in 1987.
Particularly known for
his work on the theory
of economic growth
that culminated in the
exogenous growth
model named after
him.
Solow model of economic growth
 Prof. R. M. Solow builds his model of
economic growth as an alternative to the
Harrod-Domar model. As Harrod Domar
model was based on a crucial assumption of
fixed proportions in production. But Solow
postulated a continuous production
function linking output to input of labour
and capital which are substitutable. Solows
growth model is an exogenous growth
model.
Assumptions
1) Prices , wages and investment rates are flexible.
2) Labour and capital are substitutable to each other.
3) Production function is homogenous and of first degree
which means there is a constant returns to scale of
production Y= AK α L 1 − α where 0< α< 1.
4) Labour and capital are paid according to their marginal
physical productivity and marginal productivity of labour
and capital decreases with increase in labour and capital.
5) Labour force is exogenously determined and increase with
n rate.
6) Saving is constant proportion of income (S= sy) and saving
is equal to investment.
Explanation
 The model assumes that initially, the economy is in a position
of minimal capital stock. Hence, in every specified period,
the capital stock will increase with the help of saving until it
reaches a steady state where the depreciation equals the
savings. During the path to a steady state of capital stock,
there will also be an increase in consumption per capita,
leading to the economy’s growth.
 Furthermore, as soon as it achieves the steady-state, the
consumption per capita also becomes saturated. As a result,
economic growth stops. Therefore, if the economy has to
witness any more growth, then the exogenous factors have to
change, like the improvement in the technology for enhancing
the quantity of output vis-a-vis the inputs for production.
Steady state
 Steady state shows long run equilibrium of
economy. It shows that regardless of the level of
capital with which economy begins it will end at
steady state level of output.
 So, for steady state equilibrium capital must be
increasing equal to (n+d)k. So,at steady state
capital and investment must be growing at same
rate as labour force. So above equation shows the
condition for steady state growth rate when
capital per worker and therefore income per
capita remain constant .
 In solow’s model we use per worker production function as;
Y=AF(K, L)
Where Y is income or output
K is capital
L Is labour.
 tY=AF(tK, tL)
 Y/L=AF(K/L, 1) _______t =1/L

 Where y= Y/L is output per worker, k= K/L is capital labour ratio.


 Thus, the production function can be written as
y =AF(k)
GRAPHICAL EXPLINATION

Output per worker y is measured on y axis &


capital per worker k is measured on x –axis.
The y =f(k) curve is the production function.
The S=sy curve represents saving per worker.
The (n+d) k is the investment requirement
line. The steady state level of capital is
determined where the S=sy curve intersects
the (n+d) k line at a point E. The steady state
income is y with output per worker P, as
measured by the point p on the production
function
 In order to understand why k is a steady state situation, suppose the
economy starts at the capital labour ratio k1. Here saving per worker
k1B exceeds the investment required to keep capital labour ratio
constant. K1A, (K1B>K1A.)
 Thus, k &y increase until k is reached where the economy is in the
steady state at point E.
 Alternatively , if the capital labour ratio is k2 , the saving per worker
K2C will be less than investment required to keep capital labour ratios
constant K2D, (K2C < K2D) . Thus, y will fall as K falls to K & economy
reaches the steady state E.

 The solow model shows that the growth process is stable. No matter
where the economy starts, forces exists that will push the economy
over time to steady state.
Thank you

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