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Endogenous Growth Models Brief Summary (Ch 8)

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Neil Hepburn

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Kelaine Brand Oct. 29, ‘12 ECO 364 Reading Summary #2 Chapter 8 of the text focuses on a time period that saw the fall of Neoclassical development models in the wake of rising Endogenous Growth Models. According to the former Solow-type model, the rate of growth and development of a country’s economy is limited by diminishing returns in the two input variables, labor and capital. Thus, economic growth rate reaches a point where it slows and eventually levels off at zero, a ‘steady state’ of GDP that cannot be surpassed unless there is a change in technology that reduces the amount of input needed, where this technology is exogenous and available in the same capacity to every economy. Applying this theory means that less developed economies could achieve higher rates of growth than developed countries, thereby ‘catching up’ as the developed economies growth rate slows. However, this convergence of income levels throughout the world as predicted by the Solow model is conditional; in order for this model to apply, the economies in question must share similar savings rates and population growth rates. In contrast to this is unconditional convergence, whereby similar savings and population growth rates are not required. With unconditional convergence, it is theorized that the lack of capital in less developed economies will lead to comparatively high returns on capital, encouraging foreign investment in these areas as entrepreneurs seek profits. This would increase the growth rate of the less developed economy faster than that of the developed economy from which money is being supplied. Studies and theorists discussed in this section of the chapter present cases that both support and reject the Neoclassical Growth Model, but in nearly all cases there are significant flaws found with either the results compared to the theory, or flaws in the study itself. Kelaine Brand Oct. 29, ‘12 These flaws opened doors for a new economic model to emerge, the Endogenous Growth Model (EGM). This new model cast-off the idea of technology as exogenous and available to every economy, and revised the input variables for growth. EGMs included physical capital, human capital, and technology as forms of input that were not all limited by diminishing returns, as inputs in the Solow model were, so there was no ‘steady state,’ no maximum point of development after which the growth rate had to slow. For example, EGMs emphasize education and knowledge that spill-over as positive externalities into society in general, creating a larger increase in general knowledge without increasing the p
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