Chapter 11
Growth in the Open Economy
Chapter 11 Growth in the Open Economy 45
◼ Solutions to Problems
2. In a closed economy, the usual mechanism of the Solow model operates: higher saving means more
capital, higher GDP per worker, and higher wages. In an open economy, the level of capital is
determined by the world interest rate. Thus, higher saving will not affect the level of capital in a small
3. In the closed economy Solow model, an increase in the growth rate of the population will reduce the
steady-state level of income per capita by reducing the steady-state level of capital per capita. To see
this, recall that the steady state of capital is
In an open economy, the change in the growth rate of the population does not affect the world rate of
return,
w
r
, nor the steady-state level of capital within the country. The steady-state level of capital is
given as,
Thus GDP will not change. On the other hand, the increase in n will lower the domestic level of
46 Weil • Economic Growth, Second Edition
4. In an economy perfectly open to the world capital market, the steady-state level of output per capita is
given by the following equation as reproduced from the chapter.
11
1.
ss
w
yA r
−
−
=
5. In a closed economy where one slice of cheese is consumed with one slice of bread, we can write a
production function for each sector as
cc
YL=
-and-
(1/ 2) ,
bb
YL=
where
b
Y
and
c
Y
is the production of bread and cheese, respectively, with
b
L
and
c
L
as the number of
labor hours devoted to each sector. In equilibrium,
b
Y
will equal
.
c
Y
Therefore,
,
Chapter 11 Growth in the Open Economy 47
With the economy opened up to trade where the price of bread equals the price of cheese on the world
market, the economy is strictly better off when they specialize in the good that they have a comparative
c
b
6. If there is only one auto factory in each country under autarky, then each auto factory would have a
local monopoly, and therefore there will be no competition driving the auto factory to become
efficient. Upon the opening of trade, all the auto factories will begin competing with each other, and
therefore will have an incentive to lower costs and become as efficient as possible. Cars will become
relatively less expensive since they now cost less to produce and they are sold in a competitive
market.
7. A tariff on the import of widgets is a form of trade protection, insulating the domestic widget industry
from international competition and pressure. Although the result is a higher wage for those members