New growth theory

1
New growth theory

• Review limits of classical theories
• features of the the new growth models
• Romer spillovers
• multiple equilibria, market failure and poverty
  traps

2
Limits of classical models

• Assumptions that s,n,d,t are all exogenous
• Solow residual very large
• Solow predictions of
• zero per capita growth in the steady state
• faster growth in countries with low K/L
• convergence to the same steady state level of
  income per capita

3
Endogenous growth theories

• Persistent growth that is determined by the
  production process, not outside the system, to
  explain
• why growth rates differ
• a greater proportion of growth
• change assumptions
• increasing returns to scale
• non-diminishing returns to capital because of
  externalities/spill-overs
• main implications no convergence to a steady
  state

4
Romer learning by investing

• important spill-overs from capital
• economy level of capital positively affects
  output Yi at the firm or industry level
• so constant returns at firm level become
  increasing returns to scale at economy level
• ? captures returns to own capital, ? captures
  spillovers from economy capital

5
Growth in the Romer model

• If there are no spillovers ?0, so gn
• if there are spillovers, ?gt0, so ggtn
• the larger the spillover effect, the greater is
  per capita growth
• even if there is no technological progress, ggtn
  so we have long-run growth in per capita income

6
Policy implications of Romer

• Catch-up not a feature of the model
• public investment in physical capital (roads,
  bridges, internet) and human capital (skills,
  education, health) will have positive impacts on
  growth
• but still assumes new capital can be used
  effectively is ? very much greater than zero?

7
Multiple equilibria, market failure and poverty
traps

• Solow model predicts one equilibria, but new
  models of endogenous growth can predict multiple
  equilibria
• example credit market failure
• poor cant invest in physical capital
• poor cant invest in human capital
• poverty traps

8
Multiple equilibria
Cost of education
B
Returns to education
Returns, costs ()
A
P
S
U
Education (years)
9
Conclusions

• Endogenous growth models place much more emphasis
  on human capital - learning by doing, exchange
  of ideas
• may explain better why growth rates differ across
  countries - no single steady state, and
  possibility of low-level traps
• role for government in providing economy-wide
  capital infrastructure, subsidised education,
  credit