P1254413611jSnQZ

1
UCL ECON1005. THE WORLD ECONOMY. Hugh Goodacre.
Lecture Topic 11. ENDOGENOUS GROWTH THEORY.
Alternative response Abandon residual method
Endogenous Growth Theory. Criticisms of old
growth theory. EGT (1) Lifting / modifying the
assumption of decreasing MPK. EGT (2)
Increasing MPK.
2
Endogenising growth Construct models of
economic mechanisms explaining differences in
productivity in terms of economic variables.
Note Explanation in terms of rational
economic behavior. Two main routes (1) Lift or
modify assumption of decreasing MPK. (2) MPK
increasing. Note Both these are modeling
problems for OGT but are turned into
opportunities by EGT.
3

• Review Problems for OGT?
• Or opportunities for EGT?
• (1) Constant MPK ? PF no longer flattens out,
  neither does I
• ? No intersection between I and D!
• i.e. no SS.
• Potential for growth is unlimited.
• Rate of growth is now a function of the rate of
  investment.

4

• Outcome
• Rich countries able to maintain high rate of I
  get richer.
• Poor countries unable to raise rate of I get
  poorer / caught in poverty trap.
• Endogenous growth theory preview.
• We have here endogenised modeling of growth
  rate
• ?Y is function of rate of I, i.e. function of an
  economic variable.
• Not just function of exogenously given factor
  inputs with values determined outside the
  economic model (by technology, institutions,
  etc.).

5
Even flattening out PF ? SS?
6
Positive spillovers. KP and KH both subject to
decreasing marginal returns separately. BUT we
model an interaction between them which counters
MPK. i.e. MPKP is decreasing. MPKH is
decreasing. BUT MPK MPKP MPKH is
constant.
7
Productive power of education rises. i.e. for
given amount of KH, increased product. ? outward
shift of MPKH curve
8
This higher return encourages the economy to
increase stock of KH
9
Now suppose KH ? ? productivity of KP ?
? firms increase KP
? further rounds of expansion of KH and KP
10
i.e. virtuous circle / positive spillovers /
cumulative causation.
11

• i.e. Retain assumption of decreasing MPK of
  different categories of K.
• BUT Model interaction which counters decrease of
  MPK as a whole.
• Endogenise behavior of MPK within economic model.
• Model economic (i.e. investment) decisions.
• Not look outside economic model for explanatory
  variables.
• e.g. Technology, institutions, etc.

12

• Market failure
• Markets not ? socially optimal outcome.
• In this case
• Market forces may fail to maximize the positive
  spillovers between KP and KH.
• e.g. Individual firms may not have motive to
  invest in KH to socially optimal level.

13
(No Transcript)
14
? rationale for government intervention Remedy
market failure by subsidizing investment. ? FF
increase investment ? socially optimal level
Even if not fully achieve social optimum, at
least ward off effects of decreasing MPK /
flatten PF to some extent.
15
Traditional growth theory, contd. Assumption of
decreasing MPK is crucial.
Area X, investment exceeds depreciation K stock
is increasing. Area Z, depreciation exceeds
investment K stock is decreasing. Point E
equilibrium Capital stock tends towards this
point from both directions.
16
Review Problems for OGT? Or opportunities for
EGT? (2) Increasing MPK ? instead of tendency
towards SS / equilibrium We have tendency to
diverge away from point Q
? More scope for endogenising Economic
explanation for the tipping point?
17
EGT (2) Increasing MPK. Review Equilibrium / SS
only sustained with decreasing MPK
18

• Outcome Divergence
• Rich countries get richer.
• Poor countries get poorer / poverty trap.
• Q is thus a historical tipping point (or break
  point).
• Can be used to model / endogenise influences
  formerly seen as non-economic (geographical
  factors, etc.).
• Network and local effects, as already seen
  industrial districts, etc.
• i.e. Not a modeling problem, but a modeling
  opportunity.

19

• Example of endogenous modeling Krugmans new
  economic geography preview.
• Model of location of global manufacturing.
• Historical trends modeled as long term decline in
  transport costs.

20

• Initial symmetrical equilibrium between two
  locations with identical amount of manufacture.
• Very high transport costs (T) ? no trade.
• T ? ? even slight initial productivity advantage
  in manufacture ? tipping point.
• Manufacture increasingly concentrated in one of
  the two locations / core.
• The other location becomes a periphery.
• BUT T now fall yet further.
• ? FF desert former core to benefit from lower W
  costs in periphery.
• ? Globalisation.