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Problem Set #1

API-119. Advanced Macroeconomics for the Open Economy II Due Tuesday, February 5, 2013 by 10am (Littauer 2nd floor MPA/ID homework dropbox) You may work in groups, but you must write your own answer. For open-ended questions (“explain your results”) write just a couple of sentences (one may be enough). Please write legibly and show all intermediate steps when presenting math results. Don’t forget to staple your homework, and put your names on the 1st page of your answer.

Question 1. Natural resources in the Solow model (45 pts)
The world economy is very dependent on natural resources, and many of them are nonrenewable. This means that the stock of such resources will eventually start declining. Let us consider the implications of that for long-run growth, within the context of the Solow model. Suppose the production function is Cobb-Douglas: Y = AKRL

where R denotes natural resources. The growth rate of the workforce is n, technology A advances at rate gA, and the natural resources are being depleted at a rate b. a. What has to be the relationship between the growth rate of Y and that of K so that we can have a steady state? (9 pts per item) b. Express the growth rate of Y as a function of the growth rate of the inputs, K, R, and L. c. Find the steady-state growth rate of Y, and of output per capita Y/L. d. What condition needs to be imposed in order to ensure long-run growth of output per capita? Provide intuition for that result. e. Now consider a case such as Brazil’s, which has recently discovered gigantic new oil fields. Suppose you were hired as a consultant by the Brazilian government, and they want you to assess what will be the impact of those discoveries on the economy’s rate of growth. More specifically, they believe there will be higher growth, but the opposition argues that there will be no such effect. Write a short memo about these competing claims, based on the lessons from the Solow model.

Question 2. Income disparities and population growth (30 pts)
Consider a Solow model with capital accumulation equation and no technological progress. The production function is Cobb-Douglas. The equation describing the motion for capital is:

k  sf (k )  nk  k
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with n’(k)<0. Suppose that n0 is sufficiently high. with fertility right at the so-called “replacement rate”. From then on. starting from n(0)=n0>0 until it reaches n(kR)=0 – that is. It is the case that wealthier countries have lower fertility. Which country is richer? (7 pts) c. fertility stays at the replacement rate. The Economist. but different population growth rates (both positive). (7 pts) b. 10/29/2009. see the article “Go Forth and Multiply A Lot Less”. and set the depreciation rate at 4%). and kR sufficiently low. let’s assume that population growth is a decreasing function of the capital stock per capita: n = n(k). so that the Solow diagram (in terms of growth rates) now looks like this: What can you say about the long-run prospects of an economy like this? How do they depend on the initial level of capital per worker? What’s the intuition behind that? Can you think of policy prescriptions that could help very poor countries here? (8 pts) Page 2 of 3 . but it is also true that fertility goes down as countries become wealthier. the same depreciation rate (keep this assumption from now on). (There are many reasons why this could be the case. To make things even simpler. Compute their relative income per capita as a function of population growth. Compute the steady state level of capital and income. Imagine one country has a population growth of 1% and the other has a population growth of 4%.a. What is the relative income level? (Continue to assume α =1/3 and equal savings and depreciation rates. population growth eventually reaches zero. let us assume that n decreases linearly with k. the same savings rate. Do you think differences in population growth explain a large share of observed income disparities across countries? (8 pts) d.) To capture this in simple fashion. Consider two countries with α = 1/3.

eresource:wdionlin (WDI). What is the implied ratio in productivities (A) between the two countries? Compute a formula and then give the numerical answer. Some say α = 1/3. Let’s split it down the middle and assume that α = 1/2.eresource:eiucdata (EIU) and http://nrs. Population growth (take the average over the period 2006-2009). Explaining income disparities in the real world (25 pts) Choose two countries: a rich and a poor one. Gross savings rate (take the average over the period 2005-2009). Does this answer seem plausible? 1 Access them at http://nrs.harvard. For both of them get the following data from EIU Country Data or from WDI (World Development Indicators)1 (indicate which one you’re using):    GDP per capita (in PPP dollars) for 2009. some say it’s 2/3. Use a depreciation rate of 6%.Question 3. Assume both countries are in steady state and have Cobb-Douglas production functions with the same share of capital. Page 3 of 3 .edu/urn-3:hul.harvard. You will be asked to input your Harvard ID and PIN in order to access the EIU