Question

Given the Solow model, a production function y = Ak^1/3; depreciation =δ , and an investment rate=γ.

(a) Draw the basic Solow model from class, labeling all lines, axes, and the steady state.

(b) Start a new diagram. Assume a country in its steady state is hit by an earthquake that destroys physical capital but does not kill anyone. Draw a Solow model that describes the transition of the country from (1) its original steady state to (2) its immediate post-earthquake state to (3) its final steady state.

(b) Start a new diagram. The investment in the economy is different than the basic model. Consider a level of subsistence consumption, c . If income per worker is less than or equal to c , people will consume all of their income. If income per worker is above c , then all income per worker in excess of c will be split between consumption and investment, with a fraction s going to investment. Use a diagram to analyze the possible steady-states of this economy. Under what circumstances does growth in output per capita occur? [Hint: this question has an "interesting" investment line, but different than the one in class]

Answer 1

y = AK^1/3 Solow growth model where p + k steady state of output growth Due to earthquake there will be reduction in capital stock lower than steady state y^a = f(y) = AK now govt needs to mi vent again to reach sack at point k increase an incorne will induce saving income per mover also has in crease with higher consumption per worker