Chapter 3: Economic Growth
Chapter Summary:
The chapter discusses the importance of economic growth for raising living
standards over time and provides a basic framework for understanding the
sources of economic growth. Statistics are provided which allow for
complex material found in the next two chapters.
Outline:
I. The Importance of Economic Growth
II. Facts About Economic Growth
A. World Economic Growth, 1960-2000
III. Theory of Economic Growth
A. The Production Function
B. Growth Accounting
C. The Solow Growth Model
1. Growth Rate of the Capital Stock
Teaching Tips:
1. –“The Rule of 70” is a rough method of demonstrating how small changes in
the economic growth rate lead to large changes in living standards over time.
The approximate number of years it takes for income to double is given by the
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2. As a way of motivating the material, have the students “guess” the
purchasing power in the major regions of the world. Then have them check their
3. The material in this chapter introduces some algebraic symbols with which
economists are very familiar. However, students will have trouble keeping track
4. After discussing the equations introduced in the text using algebraic symbols,
5. Much of the excitement and controversy in macroeconomics comes from the
way in which the economy is modeled, but students are less likely to be
enthusiastic by the intricacies of model building. So the temptation for the
6. Remind students of the law of diminishing returns to capital. Ask them what
would happen to their test scores if they had to share their textbook with a friend
Answers to Review questions, pg. 62
1. A production function associates a particular level of output with each
2. Marginal product of capital is the additional output obtained from an
additional unit of capital employed. Average Product of Capital is the total
output divided by the total amount of capital employed. Since the average
3. In our model we assumed that the labor force was growing (n>0). In this case
a positive savings rate is necessary, but not sufficient to raise the level of capital
per worker. The savings rate must be sufficiently large to replace worn out
4. A positive saving rate cannot guarantee growth in the long run, due to
diminishing returns. The average product of capital would continue to fall and
the amount of depreciation would increase as the capital stock grew larger.
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Answers to Problems for discussion, pg. 63
6. Constant returns to scale implies that for our production function Y=A*F(K,L)
has the property that xY=A*F(xK,xL) for any constant x.
7. a. A=the state of technology, K is the capital stock, and L is the labor force.
b. A is a scalar factor, so that when A increases by “x percent”, Y will increase
by “x percent.”
8. Increase in variable: Effect on k*:
a. Saving rate (s) increase
b. Technology (A) increase
9. a. In the steady state, sy/k-s-n=0 and y/k=Ak/k = Ak−. Combining these
two expressions yields sAk−=s+n; or k−=( s+n)/sA. Raising each side by
the exponent 1/(-1) yields: k*=[( s+n)/sA]1/(-1). Substituting this into the
10. a. Using the results from problem number 9 above, but substituting =1, we
get k/k= sA-s-n; k grows at a constant rate. The s(y/k) curve is a
horizontal line with vertical intercept at sA.
b. k/k= sA-s-n; Since y=Ak, y=Ak and y/y=Ak/Ak or k/k. Output