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5 views15 pages

Discussion Session

Uploaded by

Yue Pan
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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501 TA Session 1

Rong Yuwen
Sep. 16, 2024

Teaching Assistant: Rong Yuwen


E-mail: ryuwen2@illinois.edu
Office Hours: MW 12:30-13:30 pm, TR 11:00-noon, DKH110
TA Sessions: Friday 3:30-4 :50 pm

1 Review of Solow Model


1.1 Important Formulas:
Aggregate:
(C) Ct = (1 s)Yt
(Y) Yt = AKt✓ Nt1 ✓ (1 + A )t(1 ✓)

(K) Kt+1 = (1 )Kt + sYt


(N) Nt+1 = (1 + N )Nt

Per capita representations:


Ct Yt
ct = N t
, yt = N t
, kt = K
Nt
t

(c) ct = (1 s)yt
(y) yt = Akt✓ (1 + A )t(1 ✓)
(k) (1 + N )kt+1 = (1 + )kt + syt

1.2 Steady State and Balanced Growth Path


Two steps to solve for BGP/SS:
Step 1: Use per capita formulas to solve for the growth rate (gc , gk , gy )
ct+1 yt+1 kt+1
c t = 1 + g c , y t = 1 + g y , kt = 1 + g k
Step 2: Use growth rates to solve SS/BGP
(ln(1 + x) ⇡ x)

1.3 Law of diminishing returns:


The law of diminishing returns, also known as the principle of diminishing marginal returns,
describes a situation where the addition of one more unit of a variable input, while keeping other
inputs constant, leads to a smaller increase in output. In other words, as you increase the quantity of
one input (e.g., labor or capital) in the production process, there comes a point where the additional
units of that input become less and less productive, causing the overall output to grow at a decreasing
rate.

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1.4 The relationship of kt+1 and kt when A =0
1 sA
kt+1 ⌘ f (kt ) = 1+ N
kt + 1+ N kt✓

f (0) = 0
1 s✓A ✓ 1
f 0 (kt ) = 1+ N
+
1+ N kt >0
00 s✓(1 ✓)A ✓ 2
f (kt ) = 1+ N kt <0
Monotone, Increasing, concave curve

Graph Actual Savings (sA ) vs. Needed Savings (sN ):


( N + )k = sAk ✓

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2 Practice
2.1 Profit Maximization Problem
If we use Y = AK ↵ L , then
⇡ = 0, if ↵ + = 1,
⇡ < 0, if ↵ + > 1,
⇡ > 0, if ↵ + < 1.

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2.2 Two Capital Stock Version of Solow Model
Ks ⌘ structures, Ke ⌘ equipment
Aggregate:
(C) Ct = (1 se ss )Yt
(Y) Yt = AKet✓
Kst Nt1 ✓ (1 + A )t(1 ✓ )

(Ke ) Ke,t+1 = (1 e )Ket + se Yt


(Ks ) Ks,t+1 = (1 s )Kst + ss Yt
(N) Nt+1 = (1 + N )Nt

Per capita:
Ct Yt
ct = N t
, yt = N t
, ket = KNett , kst = KNstt
(c) ct = (1 se ss )yt
✓
(y) yt = Aket kst (1 + A )t(1 ✓ )
(ke ) (1 + N )ke,t+1 = (1 + e )ket + se yt
(ks ) (1 + N )ks,t+1 = (1 + s )kst + ss yt

- Find BGP growth rate:


gc , gy , gke , gks

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- Profit Maximization Problem:
Get growth rate of wt , ret , rst

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3 Calibration of Solow Model
Steps:
1. Pose a question
2. choose a model
3. Define consistent measures
4. Assign Parameter values
5. Test theory. Compare predictions of the model to data

3.1 Step 3: National Income and Product Accounts (NIPA)


3.1.1 GDP - Expenditure Approach
Definition:
1. market value (currency)
2. all final goods and services
3. produced
4. within a nation’s borders
5. in a given period

GDP = C + I + G + N X
Extra variables: X
X = sY
GDP = C + X
X = I + GI + N X
(K) Kt+1 = (1 )Kt + Xt

3.1.2 GNI
GNI = sum of claims to value-added (VA) =GDP
Claims to VA:
1. (wN) Wages, Salaries, and other compensation
2. (rK) Net Interest paid by Businesses and Home Mortgages
3. (rK) Capital Consumption Allowance (Depreciation)
4. (rK) Business Transfers (Bad Debt)
5. (rK) Corporate Profits
6. (rK) Rental Income
7. (rK) Government Profits minus Subsidies
8. Proprietor’s Income
9. Taxes on Production and Imports

r =i+

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3.2 Step 4: Assign Parameter Values
(c) ct = (1 s)yt
(y) yt = Akt✓ (1 + A )t(1 ✓)
(k) (1 + N )kt+1 = (1 )kt + syt

Parameters: s, A, A, ✓, N,

s= XY
A⌘1
1 + A = yt+1
yt
✓ = rK
Y
1 + N = NNt+1 t
Y
1 = (1 + N )(1 + A) sK

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4 Problem Set 1
Q1: Consider the Solow Growth Model with Exogenous Technological Change. Assume a country (call
it the US) is initially on a path with per capita GDP growing at a constant rate. For each question,
provide a time plot of the logarithm of per capita output for the United States as predicted by the
Solow Model:
1. A Donald Trump Victory in the 2024 presidential election causes a large number of US citizens
to immigrate to Canada.

2. Climate change makes people have fewer children.


3. Climate change and extreme weather reduces the productivity of land for farming.

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Q2: Consider the following growth Model:
(C) Nt ct = (1 s)Yt
(Y) Yt = AKt✓ Nt1 ✓
(K) Kt+1 = (1 )Kt + sY
Pt
t

(N) Nt+1 = (1 + N )Nt


(P) Pt+1 = 1+PtK
The new element in this model is that the price of capital falls each period by rate K . The idea is
that each period one unit of output saved can be converted into a greater quantity of physical capital
because of improvements in the technology for producing machines. For example, in 2010 one unit of
output saved could be converted into one machine, but in 2020 that same unit of output saved could
be converted into 2 machines.

1. Take the aggregate representation above and convert it into its per capita representation.

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2. Solve for the growth rate of the per capita output, per capita capital, the price of capital, the
wage rate, and the rental price of capital.

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5 Exercise:
Q: Consider an extended Solow model with human capital. There is no technological change. The
government introduces a tax at the rate ⌧ , and all tax revenue is invested in human capital that firms
can use free of charge. Assume ↵ + = 1, ✓ < 1
(1) Nt ct = (1 s ⌧ )Yt
(2) Nt+1 = Nt
(3) Yt = AKt↵ (Ht✓ Nt )
(4) Kt+1 = (1 )Kt + sYt
(5) Ht+1 = (1 )Ht + ⌧ Yt

1. Does the production function from this model exhibit diminishing returns?
2. What kind of returns to scale does this firm have?

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3. Find factor prices in this model. Find the firm’s profit.

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4. Is this economy at the steady state? Or BGP?

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