Lecture 9: Convergence Most countries are in transition and hence Not at steady state. In China the growth rate is 10% of their income. This is not at steady state since at that rate China would double their income every 7 years. It would 16,384 times larger than today in a hundred years time. CLEARLY THIS IS NOT SUSTAINABLE. China is not in steady state. Lets study Solow model to see if there is an explanation. What does Solow model tell us? 1. )()(. . +=+=nkyskkknsyk Clearly this mean that )(. +=nkkskkor )(1.+=nks kkWhat does this mean graphically? kk.kk.k In this diagram, for any level of capital per worker (k), the gap between the downward slope and the horizontal line is the growth rate of capital per workerkk. If )(1+nks, then the economy is experiencing positive growth in kk. This means that over time the ration1ksis decreasing. Clearly from that, we see the economy dynamics is leading the growth rate from above to steady state growth rate. This also true if )(1+.but getting closer to n. (c) As the economy approaches steady state from above, nYY.but getting closer to n. Solow model shows that the further below steady state, the faster the economy grows and the further above steady state, the slower the economy will grow. Convergence: The difference in growth rate across countries was due to the theory of “convergence“, namely, the idea that poor countries would grow faster than rich ones. The underlying economic intuition was that, because of diminishing returns, countries with low level of k would have higher marginal product of capital and hence attract more investment and grow faster. The empirical evidence seems to suggest that convergence only hold within industrialized economies such as the OECD countries. If we look at a larger sample of countries, then poor countries do not seem to grow faster than rich ones. (See graph)