Harrod-Domar model

A detailed Summary of Harrod-Domar model

The Harrod-Domar model explains how the income of today affects the income of tomorrow in a simple equation where the data entries are minimal. Although the Harrod-Domar model is easy to use, there are a few limitations. The economy only enters equilibrium when there is a full employment of both labor and capital. Using the fixed-coefficient production function, the capital-labor ratio must remain constant. On a graph, with capital on the y-axis and labor on the x-axis, we can illustrate all the different combinations of capital and labor that equal the same income through L-shaped isoquants. In order to be at full employment, capital and labor must grow at the same rate, which is unlikely. First, capital stock must grow at the same rate as output, which implies constant growth at full employment of capital. The capital stock to output ratio (v) is capital stock divided by output, where the variables grow at the same rate. Output grows at a rate of g; therefore, capital stock must be growing at the same rate. If we apply the above logic to labor, the population must be growing at same growth rate, g. Now what if the labor force is growing too fast, where n

Although Solow's model is an improvement to the Harrod-Domar model, assumptions made in the Solow model are very simplified. Solow's model makes assumptions about the savings rate, and the rate of growth of the labor supply, the skills of the workforce, and technological growth, yet these values are partially determined by factors outside of the model, implying endogenous to the model. Solow's model assumes a constant returns to scale, although the national economy is subject to increasing returns to scale. For example, by doubling capital, labor, and other factors of production, we are able to more than double output. The impact of capital, labor, and technological advances will have a greater impact on the economy than Solow's model suggests. For example, Henry Ford's development of the production line system, not only created benefits for Ford Motor Company, but also opened a door for the entire economy. The technique was able to "spill over" to other firms, which is not captured by the Solow model. Also, the model does not necessarily lead to the conclusion that poor countries will grow faster than rich countries. With increasing returns to scale, diminishing returns to capital do not necessarily set in. Growth rates do not slow or plateau, implying the economy does not reach a steady state; therefore, continue

Some common words found in the essay are:
, capital stock, grow rate, grow rate output, employment capital, rate output, capital labor, harrod-domar model,

Approximate Word count = 897
Approximate Pages = 4 (250 words per page double spaced)

Category: Miscellaneous

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Harrod-Domar model

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