Solow Growth Model

Solow feigning how well it holds in the real world? Prep bed by- Amol Rattan (75013) Introduction Prior to Solow baffle, Harrod Domar prototype had shown how the savings enumerate could play a crucial role in rec all everywhere out the Long run rate of Growth. Solow object lesson however evinced a government issue that was contrary to what Harrod Domar model had predicted. It showed that savings has totally(prenominal) aim effect on income and the growing rate of income depends upon the rate of faculty or technical progress in the country. Solow Model relies on certain assumptions 1. There atomic number 18 unbroken returns to Scale(CRS) 2.The exertion function is measuring stick neoclassical yield function with diminish returns to factor 3. The markets are perfectly private-enterprise(a) 4. Households save at a invariant savings rate s equaliser in Solow Model is defined as the steady state take aim of groovy where the economy grows at a constant rate. By as suming that the two factors of production are capital and labour per efficiency unit, it can be shown that savings only affects the level of per capita income. It is only the rate of branch of efficiency which de conditionines the rate of emergence of per capita yield.For production function Y= K? L1-? unbowedlove state honors are y=s/? +? +n? /1-? k =s/? +? +n1/1-? Objective i) To find how rightful(a) the result of intersection point of Solow model holds for a sample of countries of the world ii) essay Solow model for India for the period 1990-2008 Methodology i) To find how true the result of carrefour of Solow model holds for a sample of countries of the world To prove converging result Solow model predicts that all nations with equal parameter of savings rate, population harvesting rate and depreciation rate go out all grow at the similar rate in long run.This implies A) The racy countries (defined as those at high level of income) screenament grow at a lower ra te B) The poor countries will grow at a smart rate These conditions mean that the poor countries are able to catch up with the easy countries in the long run. Test of convergence Regression We test the relation ln(rate of out developing of y) = ? + ? ln( sign value of y) Conditions A and B con none that the coefficient ? should be veto Result For a sample of 23 countries for period 1990-2008 we find 1) the value of ? = -0. 377451859 ) I t is exceedingly significant as the probability value(pvalue) is button up to zero 3) The correlation of ln rate of addition of per capita income over the period with initial income is negative 4) % of data growing of rate of growth is explained by the initial level of income. It makes mavin also as rate of growth depends non only on the initial level of income but other factors handle education, R&D, etc Standard deviation We test how standard deviation of relative incomes (relative to US) of the countries changes over time. Convergence implies that income of countries become more than and more equal.So we expect standard deviations to decrease over time. Result Standard deviation locomote over time for the sample of countries implying convergence Caveats The results that we get are consistent with the supposititious results. However most of the empirical call on that has been done on Solow Model has shown the antagonist result i. e. unconditional convergence is non seen to hold. The reason for this could the sampling error. We need to encounter a larger data get up to test it again before accepting. ii) Test Solow model for India for the period 1990-2008Solow model gives us the steady state value of per capita income as y=s/? +? +n? /1-? Taking log on both sides ln y= (? /1-? )ln(s) (? /1-? )ln(? +? +n) We estimate this equating for India for the period 1990-2008 A priori theory tells us that o The signs of ln s and ln (n+ ? +? ) should be antagonist o The sign of ln s should be positive implying a posi tive squeeze of savings on level of per capita income o The sign of population growth growing in efficiency and depreciation should be negative as they lead to corrosion of capital stock per capita.Result 1. The signs are as per the expectations. Savings get under ones skin indeed had a positive impact on the level of per capita income. The coefficient of saving is significant at 5 % level of significance 2. The sign of n +? +? is negative as expected. Though the value of the coefficient is very small. It is hard to believe that 1 % increase in population growth rate or depreciation rate or efficiency decreases per capita level of output by just 0. 3 %. Moreover, this term is not significant. 3.The reason could again be due to the fact that increase in expenditure on education has been interpreted a proxy for increasing efficiency. by chance growth rate of expenditure is not a good proxy and so we get such results. Conclusion and then the two tests that we have taken prove so me of the results of the Solow model but not all. Savings do have a positive effect on per capita level of income and convergence seems to exist for the set of countries that we have taken. SOURCE 1. http//data. un. org/ 2. http//databank. worldbank. org/ 3. http//www. oecd. org/