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Home Theories of Economic Growth Golden Rule of Economic Growth

 

Golden Rule of Economic Growth:

 

Mrs. Joans Robinson Model of Economic Growth:

 

Mrs. Robinson includes the issue of population growth in her model. She shows the effects of Population on the rate of Capital Accumulation and rate of Growth of Output.

 

Her model is based upon two conditions:

 

(i) Capital accumulation depends upon distribution of income.

 

(ii) The utilization of labor depends upon supply of labor and capital.

 

Assumptions of the Model:

 

(i) National income is distributed between two classes of the economy, i.e., labor and producers.

 

(ii) The laborers entirely spend their wages on consumption and do not make savings.

 

(iii) The producers who earn profits make the savings and reinvest such savings and do not make any consumption. If they do not earn profits, they will not be able to invest. And if they do not invest, they will not be able to earn profits.

 

(iv) There are no technological changes and ratio of K to L remains constant.

 

(v) There is no change in price level.

 

(vi) There is closed economy and no intervention by the state.

 

(vii) There is no shortage of supply of labor in the economy.

 

As told above that model assumes the existence of two classes in the economy. The labor class consumes all of its income while the entrepreneurs reinvest their profits. Accordingly, the real savings remain equal to real investment. But how much money producers invest, depends upon the real wages demanded by. the labor. Moreover, the productive efficiency and BOP, etc., are obstacles in the way of promoting investment. As the economy grows, such obstacles become high and high. Thus, in the presence of such obstacles, economic growth depends upon the role of entrepreneurs. If they make inventions and innovations then the obstacles in the way of economic growth will be surmounted. In this way, the economy will enter in a stage which is known as Golden Age by Mrs. Robinson. Here, capital accumulation is at a higher rate. Here, capital accumulation is maintained through the constant rate of profit - which is known as Golden Rule of economic growth by Mrs. Robinson.

 

The growth rate during golden age will be similar to Harrod's Natural Growth rate. We now explain the model symbolically.

 

The equation (3) shows that the rate of profit (π) depends upon the efficiency of labor = p = Y/N, real wages (w/P) and the ratio of K to N. i.e., θ  = K/N.

 

As producers wish to maximize their profits. Accordingly, we will take first derivative of profit function and keep it equal to zero. As P.F. is:

 

Y = f (N, K) ............. (4)

 

 

Equation (11) shows the growth rate of capital which the entrepreneurs can attain by depending upon capitalistic principle. This equation also shows that growth rate of capital may grow if net return of capital (p - w/P) increases more than capital labor ratio (9). As Ricardo said, "Capital accumulation will be strengthened if the level of real wages is low". This means that Mrs. Robinson wishes to take us towards Ricardian growth theory through Keynesian window.

 

In Robinson's golden age, at equilibrium, labor will be fully employed and full use of capital will become possible. But such will happen only if θ = K/N remains constant. At Yf, the rate of change of labor and rate of change of capital will be equalized. It is as:

 

K/N = θ

 

K = Nθ

 

K/θ = N

 

N = K/θ

 

 

In case of change, we have:

 

ΔN = ΔK/θ

 

From this relation we can find the rate of change of labor force having compatibility with the rate of change of capital.

 

Dividing both sides by N, we get:

 

 

The eq.(12) shows that the labor will be fully employed if labor and capital grow at the same rate or if capital grows at the same rate to that of growth of labor, Yf of labor will become possible. Because in this situation the ratio of K to N, i.e., θ will remain constant. When labor and capital grow in the same ratio - the equilibrium position of the economy is known as Golden Age. It is shown in fig.

 

Diagram/Figure:

 

 

Here, OW* is minimum wage rate. ON is growth of labor force. While OY* is expansion path. At C, we draw a tangent. Here, K/N = OK, while growth rate of labor is ON*. The wages given to labor are OW*, then the rate of surplus (profits) will be equal to HC. Such profits will be able to absorb the growth of labor which is ON*. This is the golden age, because profits absorb the labor growth.

 

Golden Age:

 

Showing the effect of capital accumulation on growth of the economy, we show the effects of growth of labor force on economic growth. She says if in an economy, population and labor grow but capital does not grow. As a result, the MPL will decrease. If real wages remain constant then profits of producers will decline - badly affect the capital accumulation.

 

This will result in unemployment, as it is happening in LDC's. Thus Yf ia possible only if increase in labor force and increase in capital are equal. This is the golden age. It is as:

 

ΔN/N = ΔK/K

 

In golden age, the proportion of profits and wages remain the same. All the variables in the economy grow at the same rate. Under the proper rate of capital accumulation - there is a neutral technical progress and there is a constant ratio between capital and output.

 

Relevant Articles:

 

Adam Smith's Model of Economic Growth
Ricardo's Model of Economic Growth
Classical Model of Economic Growth
Marxian Model of Economic Growth
J.E. Meade's Model of Economic Growth
Schumpeter Model of Economic Growth
Secular Stagnation - Hansen's Thesis
Kaldor - Mirrlees Model of Economic Growth
Golden Rule of Economic Growth
Neo-Classical Theory of Economic Growth
 

Principles and Theories of Micro Economics
Definition and Explanation of Economics
Theory of Consumer Behavior
Indifference Curve Analysis of Consumer's Equilibrium
Theory of Demand
Theory of Supply
Elasticity of Demand
Elasticity of Supply
Equilibrium of Demand and Supply
Economic Resources
Scale of Production
Laws of Returns
Production Function
Cost Analysis
Various Revenue Concepts
Price and output Determination Under Perfect Competition
Price and Output Determination Under Monopoly
Price and Output Determination Under Monopolistic/Imperfect Competition
Theory of Factor Pricing OR Theory of Distribution
Rent
Wages
Interest
Profits
Principles and Theories of Macro Economics
National Income and Its Measurement
Principles of Public Finance
Public Revenue and Taxation
National Debt and Income Determination
Fiscal Policy
Determinants of the Level of National Income and Employment
Determination of National Income
Theories of Employment
Theory of International Trade
Balance of Payments
Commercial Policy
Development and Planning Economics
Introduction to Development Economics
Features of Developing Countries
Economic Development and Economic Growth
Theories of Under Development
Theories of Economic Growth
Agriculture and Economic Development
Monetary Economics and Public Finance

History of Money
 

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