Question

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2. Suppose the India and China were at the same point on the same labor productivity curve in 1978, and during the period from 1928-2004, China added physical capital per capita faster than India, and adopted new technologies faster than India. Show graphically (and explain) the positions of the two countries in 2004. 5 points.

Answer 1

Countries: C, and In

Physical capital: technology, real estate, machines, and inventory

Human capital: workers, and employees. This also includes their knowledge, skills, productivity, and upgradation.

Explanation:

The faster use of physical capital increases production opportunities. This shifts the Long Run Aggregate Supply (LRAS) curve to the right, increasing the potential level of real GDP, and reducing the price level.

Price level LRASO LRAS1 PO E SRAS1 P1 E1 SRASO AD 0 Q QC) Real GDP Before the faster use of physical capital both the countries were at E point. This is the potential level of equilibrium, since LRASO, SRASO, and AD curves meet. The corresponding real GDP was Q and price level was PO. Now, the country C is in the faster use of physical capital. It shifts the LRAS curve to the right as LRASI. The SRAS curve also shifts, since the short-run production facilities increase. The equilibrium shifts to E1, where all three curves meet. The corresponding real GDP of Cincreases to Q(C) and price decreases to Pl. Country In is still there at E point.