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LR Growth Model

Refinements
Golden Rule Level of Capital
Is there a level of capital stock that the economy would prefer over
any other?
Yes, steady state with the highest level of consumption.
Golden Rule level of capital accumulation denoted as k*Gold.
Does the economy automatically move to this level of the capital
stock?
NO, it moves to the level k* where its actual savings just equals breakeven
investment necessary to maintain k*.
A Government my try to influence savings rate, s, to move the economy to
the Golden Rule level.
This is very difficult to achieve.
Golden Rule Level of Capital

How is the Golden Rule Level of the Capital Stock determined?


Consumption per worker is c = y - i.
steady-state consumption is c* = f(k*) (d+n+g)k*
use MB = MC argument from any k*.
Marginal benefit (MB) of adding 1 unit of capital per worker is the additional
output produced, MPK, the marginal physical product of capital
Marginal Cost (MC) is the additional Break-even Investment that must be
replaced each year and requires savings rather than consumption.
if MB = MPK > MC = BI = (d+n+g), then increase k.
continue this process until until MPK = (d+n+g)
MPK is slope of prod'n function, so k*Gold is where slope of Break-even
Investment line and prodn function are the same.
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Golden Rule Steady State
Output
per Worker
y
f(k)

dk
c*gold

sgoldf(k)

i*gold

k*gold k
Policies to Promote Growth
Evaluating the Rate of Saving.
Evidence for US is that MPK - d (8%) > n + g (3%).
U.S. is below the Golden Rule level of capital so should try to increase saving rate.
Changing the Rate of Saving.
Public policy affects Public saving directly and may affect private saving indirectly
through incentives.
Allocating the Economys Investment.
Govt may invest in infrastructure for physical capital, encourage education for human
capital, target certain types of capital to build positive externalities in capital.

Encouraging Technological Progress.


How? Patents and copyrights. Credits for R&D.
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