Ec413: Growth and Technology

Ec413: Growth and Technology
Danny Quah
E onomi s Department LSE
Fall 2009
London
Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009
Neoclassical growth
1. Growth through fa tor a umulation and te hni al progress

(a) Only te hnology in the long run
(b) Convergen e to long-run steady state growth path
( ) Key determinants
2. Key puzzles and problems
(a) Determinants of riti al determinants
(b) Convergen e doesn't mean at hing up
( ) Convergen e is too slow (and steady states don't align)
LSE D. Quah 1
log y(t)
log y1 (t0 ) t + 0
log y2 (t0 )
t0 t
Figure 1: Convergent time path: Convergen e from initial level to

steady-state path t + 0 .
LSE D. Quah 2
Throw-away (and slightly misleading) overview
Assume losed e onomy.
y = f (k)
= (1 s)y
k_ = y k =) k_ = sf (k) k
What's wrong with this pi ture?
LSE D. Quah 3

s f (k)
k
k
Figure 2: Neo lassi al growth and onvergen e?
LSE D. Quah 4
Constant Returns To Scale (CRTS) Production Function
Y = F (K; N; A) (CRTS in (K; N ))

= F (K; N A) (labor-augmenting)

Y K
=) =F ; 1 or y = Af (k=A)
NA NA
LSE D. Quah 5
CRTS Production Function Two implications
1. Euler's Theorem
F F
F =K +N
K N
2. Cobb Douglas
F (K; NA) = K (NA)1 =) f (k=A) = (k=A)

and (1 ) fa tor shares
LSE D. Quah 6
Neoclassical (Solow-Swan) growth
Assume losed e onomy.
y def
= Y=N k def
= K=N
y = Af (k=A); f 0 > 0; f 00 < 0; klim
!1
f (k)k 1
=0
_ = 0; xed A(0) > 0 =) A(t) = A(0)et
A=A
_ = 0; xed N (0) > 0 =) N (t) = N (0)et
N=N
K_ = Y K; in (0; 1) and > 0
=) k=k
_ _ = f (k=A)
A=A ( + + )
k=A
LSE D. Quah 7
f (k=A)[k=A 1
( + + ) 1
0 [k=A k=A
Figure 3: k=A dynami s: Convergen e to steady state [k=A o urs

for all initial values [k=A
LSE D. Quah 8
Implications and issues
1. In steady state, k and y grow at same rate as A

2. Growth in k and y , in steady state, don't vary with savings
rate , although the value of steady state [k=A does: The
higher is , the higher is [k=A .
3. Stability of fa tor in ome shares? (Cobb Douglas; ompetitive
markets)
4. Driving fa tor A: Should it be ommon a ross e onomies?
More useful endogenous determination?
LSE D. Quah 9
Steady state
log y (t) = log f ([k=A ) + log A(t)

= log f ([k=A ) + log A(0) + t
= 0+t
where
0 = log f ([k=A) + log A(0)
def

= g [ + + 1 + log A(0); with g 0 > 0:
If f (k=A) = (k=A) with 2 (0; 1), then
g [ + + 1 = 1 log [ + + 1 :

LSE D. Quah 10
LSE D. Quah 11
Convergence
From Figure 3, outside of steady state:

log y (t) = 0 + t + [log y (0) 0 et ;
with = (f; ( + + ); ) < 0

d
=) log y (t) = [ 0 + log y (0)
dt t=0
If f (k=A) = (k=A) as before, then

= (1 )( + + ) < 0:
LSE D. Quah 12
log y(t)
log y1 (t0 ) t + 0
log y2 (t0 )
t0 t
Figure 4: Convergent time path: Convergen e from initial level to

steady-state path t + 0 .
LSE D. Quah 13
log y(t)
log y1 (t0 ) t + 0;a
log y3 (t0 )
log y2 (t0 ) t + 0;b
log y4 (t0 )
t0 t
Figure 5: Time paths a ross ountries: A ross se tion of

e onomies, having dierent possible steady-state paths varying
with 0 , shows a range of possible behaviors.
LSE D. Quah 14
In omes
Ri h remaining ri h
Singapore
S. Korea
Venezuela
Poor remaining poor
t t+s Time
Figure 6: Emerging twin peaks in the ross- ountry in ome

distribution: Post-1960 experien es proje ted over 40 years for
named ountries are drawn to s ale, relative to histori al
ross- ountry distributions.
LSE D. Quah 15
Convergence, steady state predictions inaccurate
(Will need broader notion of apital)
1 MRW: Steady state

log y (t) = 0 +t
where
0 = log f ([k=A) + log A(0):
When f (k=A) = (k=A) with 2 (0; 1), then

log f ([k=A) = log [ + + 1 :
1
LSE D. Quah 16

=) log y (t) = log log( + + ) + t
1 1
= 1:42 log 1:92 log( + + ) + : : :
But =(1 ) is in reasing in so if we take the smaller estimate:

1:42
= 1:42 =) = = 0:59
1 2:42
is a lower bound.
LSE D. Quah 17
2 MRW: Convergence
log y (t) = 0 + t + [log y (0) 0 et ;

with = (f; ( + + ); ) < 0
If f (k=A) = (k=A) then

= (1 )( + + ):
Or
0:02
= 1+ =1
+ + ++
If = 0:03, = 0:02, and = 0:05, then
0:02
=1 = 0:8
0:10
LSE D. Quah 18
Neoclassical growth
1. Growth through fa tor a umulation and te hni al progress

(a) Only te hnology in the long run
(b) Convergen e to long-run steady state growth path
( ) Key determinants
2. Key puzzles and problems
(a) Determinants of riti al determinants
(b) Convergen e doesn't mean at hing up
( ) Convergen e is too slow (and steady states don't align)
3. Looking deeper: Why do onsumers save? What drives
te hnology?
LSE D. Quah 19
Optimal growth
1. Preserve the stru ture as mu h as possible

2. Ask why do onsumers save?
3. Ramsey-Cass-Koopmans model
(a) Innitely-lived representative onsumer optimizing
onsumption traje tory dynami ally
(b) Produ tion stru ture, te hnology traje tory, and initial
onditions taken as given
( ) Output path and savings endogenized
LSE D. Quah 20
Ramsey-Cass-Koopmans growth
Closed e onomy
Consumers
Per apital output or in ome y = Y=N
Te hnology-adjusted version y~ = y=A
Similarly, k; k~; : : :
Timepaths: ~ = f ~(t) : t 2 [0; 1g
n o
k~ = k~(t) : t 2 [0; 1
y~ = fy~(t) : t 2 [0; 1g
to be determined by model.
LSE D. Quah 21
People identi al and innitely-lived. Population N (t) at time t:

N (t) = N (0)e t () N=N
_ = :
Preferen es
U ( (t)) = U (~ (t)A(t)); U 0 > 0; U 00 < 0:
Re all oe ient of relative risk aversion:

U 00 ( )
R( ) def
= >0
U 0 ( )
(even if deterministi model).
LSE D. Quah 22
Forward-looking representative onsumer

Z 1 Z 1
e t U ( (t)) dt = e t U (~ (t)A(t)) dt:
0 0
Adding a ross so iety,

Z 1
e t U (~ (t)A(t)) N (t) dt
0
Z 1
= N (0) e ( ) t U (~ (t)A(t)) dt:
0
LSE D. Quah 23
Te hnology
Y = F (K; NA) =) y~ = F (k~; 1) def

= f (k~):
Assume:
f (k~) f (k~)
lim ~ = +1 and lim ~ = 0:
k~!0 k k~!1 k
A(t) = A(0)e t () A=A

_ = :
K_ = Y C K =) k~_ = f (k~) ~ k~; where = + + .
Assume K (0) > 0 given by history, and > 0.
LSE D. Quah 24
Social planning problem
Z 1
max e ( )t U (~ (t)A(t)) dt
f ~; k~g 0
s.t. k~_ (t) = f (k~(t)) ~(t) k~(t) (1)
given k~(0) > 0
lim k~(t) = 0 (2)
t!1
k~(t) 0 8t 0: (3)
1. ~; k~ are timepaths, not just values at a point in time.
2. Initial ondition, transversality ondition.
3. Dierentiability (not just ontinuity) in k~.
LSE D. Quah 25
Hamiltonians
Let = f (t) : t 2 [0; 1 g and dene
H(~ ; k~; ; t) def

= U (~ (t)A(t)) e ( ) t
h i
+ f (k~(t)) ~(t) k~(t) (t) e ( ) t : (4)
1. The Hamiltonian is not a Lagrangean (but it is derived from
one.
2. The Hamiltonian ontains not the obje tive fun tion but just
the time t omponent of it.
3. Inessential but onvenient: the multiplier (t) has a
non-negative exponential multiplying it.
LSE D. Quah 26
FOCs
H= ~(t) = 0 (5)

dh i
H= k~(t) = (t)e ( ) t (6)
dt
1. Consumption ~(t) an vary however turns out to be best at
ea h instant; it might even jump dis ontinuously.
2. Capital k~(t) must vary smoothly, given its history
f k~(s) : s 2 [0; t) g.
LSE D. Quah 27
In this model the FOCs turn out to be
A U 0 (~ A) = (7)
f 0 (k~) = ( ) =_ (8)
and k~_ = f (k~) ~ k~ (9)
1. Equations (7){(9) three dynami equations for timepaths in
(~ ; k~; ) simultaneously.
2. Equation (9) is just a repeat.
LSE D. Quah 28
Balanced growth steady state
Guess steady state

y~_ = ~_ = k~_ = 0:
But then
y=y
_ = = _ = = A=A;
_ = k=k _
repli ating the predi tions of the earlier growth model.
LSE D. Quah 29
But still too complicated
But even in su h a steady state, behavior will be quite

ompli ated. Log-dierentiate with respe t to time both sides of
equation (7):

~_= ~ + = =
_ R(~ A) 1
(10)
U 00 ( )
where R( ) = > 0:
U 0 ( )
1. If U = log then R( ) = 1, giving ~_= ~ = =
_ .
_ onstant in steady state.
2. If R( ) = R onstant, then =
LSE D. Quah 30
Dynamics
Assume R( ) = R > 0 onstant; an study either (; k~) or (~ ; k~).

k~_ = f (k~) ~ k~
h i
~_= ~ = f 0 (k~) ( + + R ) R 1
LSE D. Quah 31
RCK saddlepath convergence
_ =0
~
k
or ~ = f (k~) ~
k
k~
~_ = 0
or k~ 3 f 0 (k~ ) = + + R > 0
LSE D. Quah 32
Growth and productivity
1. Growth a ounting
(a) Cobb Douglas
(b) Dire t al ulation
2. Some results
3. Duality
LSE D. Quah 33
Growth accounting: Y = F (K; N A)
Cobb Douglas example

Y = F (K; NA) = K (NA)1
=) log Y = log K + (1 ) log N + (1 ) log A
=) Y_ =Y = K=K
_ + (1 )N=N_ + (1 )A=A_
or
TFP ontribution = Y_ =Y _
K=K _
(1 )N=N:
In steady state (if the model is orre t) then
TFP ontribution = y=y
_ _ = (1 ):
k=k
LSE D. Quah 34
Direct calculation
If only onstant returns to s ale (using gx def

= x=x
_ ):
log Y = log F (K; N; A)

1 F _ 1 F _ 1 F _
=) gY = K+ N+ A
Y K Y N Y A

F F
=) TFP ontribution = gY K =Y gK N =Y gN :
K N
Under onstant returns to s ale then TFP ontribution is:

F F
gY 1 N =Y gK N =Y gN :
N N
LSE D. Quah 35
Some results
Annual growth
TFP/Output Y K N Labor share TFP
HK 32% 0.073 0.080 0.032 0.628 0.023
Sg 2% 0.087 0.115 0.057 0.509 0.002
SKorea 17% 0.103 0.137 0.064 0.703 0.017
Tw 28% 0.094 0.123 0.049 0.743 0.026
Cn % 0.014
Table 1: TFP in East Asia. Sour e: Young (1995, 2003).
LSE D. Quah 36
Duality (1)
Y = rK + wN
Constant returns to s ale and ompetitive fa tor markets, with
Euler's Theorem?
Or, more simply, just national in ome a ounts?
LSE D. Quah 37
Duality (2)
Time-dierentiate and divide by Y :

Y_ K r _ N w _
= r_ + K + w_ + N
Y Y Y Y Y
! !
rK r_ K_ wN w_ N_
=
Y
r+K + Y w+N
rK wN rK wN
=) gY g gN = gr + g
Y K Y Y Y w
LSE D. Quah 38
Difference in results
Annual growth rates

Alternative interest rates Primal TFP Dual TFP
Equity returns 1971{1990 -0.69 1.52
Average lending rate 1968{1990 -0.22 2.16
E-P ratio 1973{1990 -0.66 1.61
Table 2: TFP in Singapore. Sour e: Hsieh 2002, also using Young

1995.
LSE D. Quah 39
Growth and productivity
1. Growth a ounting
(a) Cobb Douglas
(b) Dire t al ulation
2. Results
3. Duality
LSE D. Quah 40
Growth and endogenous technology
1. Endogenous te hnology
(a) A umulation of knowledge
(b) What is spe ial about knowledge?
2. Consisten y with neo lassi al model but endogenised growth
3. Poli y impli ations:
(a) Imperfe t ompetition to support pri e on ideas
(b) R+D: so ial e ien y
( ) IPRs: ex ante versus ex post in entives
LSE D. Quah 41
Rivalry and Excludability
Rivalry
Shopping mall Cookies
parking spa es
Ex ludability
Standard publi Commer ial

goods (sunsets) software
Figure 7: Rivalry and ex ludability are entirely dierent
LSE D. Quah 42
Model structure
Skilled Workfor e
Knowledge Patents Manufa turing
Growth Consumers
Figure 8: Models of te hnology and growth: Patents and ma hinery

intermediate between knowledge produ tion and onsumers
LSE D. Quah 43
Endogenous technical change
_ = HA ; > 0
(Frontier of ideas) A=A
K_ = Y C
units of K and 1 idea !

! 1 unit durable intermediate input X (!)
Z 1 Z A
K = X (! ) d! = X (! ) d!
0 0
(as X (! ) = 0 for ! > A)
LSE D. Quah 44
The profile of ideas
A(t) !
Figure 9: S ale in using available ross se tion of ideas
LSE D. Quah 45
Production
r > 0 onstant interest rate

H_ = N_ = 0 (two kinds of labor)
Z 1
Y = g (HY ; N ) X (! ) d!
0
2 (0; 1) and g homogenous degree 1

H = HA + HY
(allo ation a ross resear h and manufa turing)
LSE D. Quah 46
Allocation
Human apital ompares

Z A
w = g1 X (! ) d!
0
in manufa turing against

ApA (from A_ = HA A)
in resear h.
LSE D. Quah 47
Ownership and use of ideas
with pA patent pri e on idea, i.e., (with monopoly power):

Z
pA (! ) = e rt sup [g Xt (! ) rXt (! ) dt
t0 Xt (!)
so that
2 gXt (! ) 1
r = 0 (FOC)
pX = gXt (! ) 1 = r 1 > r (Markup)
sup [g Xt (! ) rXt (! ) = (1 )pX Xt (! ) > 0
Xt (!)
(Monopoly prot)
LSE D. Quah 48
Equilibrium: Symmetric and time-invariant
Xt (! ) = Xt (! ) = X0 (! 0 ) = X0 (0) = X
0
=) pA (! ) onstant in ! and t
Finally,
w = g1 AX = pA A
(equating wages of the skilled in manufa turing and in resear h)
and X = K=A gives
Y = g (HY ; N )AX = g (HY ; N )A1 K
= g (HY A; NA)K = F (K; NA; HY A)
LSE D. Quah 49
Results
1. Y rts in (K; N; HY ); A labor-augmenting; diminishing returns

in K
2. Te hni al hange endogenous: Nonrival, partially ex ludable
3. Monopolies: Imperfe t ompetition to support positive pA
4. Enough resear h undertaken? Monopolies. Ex ante in entives
versus ex post so ial e ien y
LSE D. Quah 50
Growth and endogenous technology
1. Endogenous te hnology
(a) A umulation of knowledge
(b) What is spe ial about knowledge?
2. Consisten y with neo lassi al model but endogenised growth
3. Poli y impli ations:
(a) Imperfe t ompetition to support pri e on ideas
(b) R+D: so ial e ien y
( ) IPRs: ex ante versus ex post in entives
LSE D. Quah 51

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Ec413: Growth and Technology

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

1. Growth through fa tor a umulation and te hni al progress

Figure 1: Convergent time path: Convergen e from initial level to

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

Throw-away (and slightly misleading) overview

Assume losed e onomy.

What's wrong with this pi ture?

Figure 2: Neo lassi al growth and onvergen e?

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

Constant Returns To Scale (CRTS) Production Function

Y = F (K; N; A) (CRTS in (K; N ))

CRTS Production Function Two implications

F (K; NA) = K (NA)1 =) f (k=A) = (k=A)

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

Neoclassical (Solow-Swan) growth

Assume losed e onomy.

Figure 3: k=A dynami s: Convergen e to steady state [k=A o urs

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

Implications and issues

1. In steady state, k and y grow at same rate as A

log y (t) = log f ([k=A ) + log A(t)

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

From Figure 3, outside of steady state:

If f (k=A) = (k=A) as before, then

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

Figure 4: Convergent time path: Convergen e from initial level to

log y1 (t0 ) t + 0;a

Figure 5: Time paths a ross ountries: A ross se tion of

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

Figure 6: Emerging twin peaks in the ross- ountry in ome

Convergence, steady state predictions inaccurate

(Will need broader notion of apital)

1 MRW: Steady state

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

But =(1 ) is in reasing in so if we take the smaller estimate:

log y (t) = 0 +  t + [log y (0) 0 et ;

If f (k=A) = (k=A) then

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

1. Growth through fa tor a umulation and te hni al progress

1. Preserve the stru ture as mu h as possible

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

People identi al and in nitely-lived. Population N (t) at time t:

Re all oe ient of relative risk aversion:

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

Forward-looking representative onsumer

Adding a ross so iety,

Y = F (K; NA) =) y~ = F (k~; 1) def

A(t) = A(0)e t () A=A

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

Social planning problem

Let  = f (t) : t 2 [0; 1 g and de ne

H(~ ; k~; ; t) def

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

 H= ~(t) = 0 (5)

In this model the FOCs turn out to be

Growth and Te hnology E 413: Ma roe onomi s for MS Fall 2009

log y1 (t0 ) t + 0;a

log y (t) = 0 + t + [log y (0) 0 et ;

People identi al and innitely-lived. Population N (t) at time t:

A(t) = A(0)e t () A=A

Let = f (t) : t 2 [0; 1 g and dene

H(~ ; k~; ; t) def

H= ~(t) = 0 (5)

But even in su h a steady state, behavior will be quite

Assume R( ) = R > 0 onstant; an study either (; k~) or (~ ; k~).

Time-dierentiate and divide by Y :

Figure 7: Rivalry and ex ludability are entirely dierent

units of K and 1 idea !