Growth model behind the second indian plan

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Growth model behind the second indian plan

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model that fit into development planning of the Indian economy. Initially making national

income and investment the variables in his single model, Mahalanobis (1953) further

developed a two-sector model where the entire net output of the economy was to be produced

in the investment goods sector and the consumer goods sector. The model assumes an

economy that is related to a closed economy; non-shiftable capital equipment once installed

in any of the sector; a full capacity production in both the consumer and capital goods

sectors; determination of investment by the supply of capital goods; and no changes in prices.

On the basis of the above assumptions, the economy is divided into i, that is, the

proportion of net investment used in the capital goods sector; and c, the proportion of net

investment used in the consumer goods sector. Thus,

c + i = 1

(1)

Further, at any point of time (t), net investment (I) is divided into cIi, the part that

increases the productive capacity of the capital goods sector, and cIc the part that increases

the productive capacity of the consumer goods sector. In the form that

It = cIt + iIt

(2)

If taking as the total productivity coefficient when i and c are the capital-output

ratio of the capital goods sector and consumer goods sector, then it can be shown that

i Ii + c I c

=

i + c

(3)

Y t = It + Ct

(4)

As national income changes, investment and consumption also change. The change in

investment depends upon previous years investment (

depends on previous years consumption (

period t, is

It = It

It-1

(5)

C = C C

t

Ct 1

I t 1

t-1

(6)

Essentially, the increase in the two sectors is related to the liniing up of productive

capacity of investment and the output-capital ratio. Initially, the investment growth path is

determined by the productive capacity of investment in the capital goods sector (i Ii) and its

output-capital ratio (i), such that

I I = I

t

t-1

(7)

i i t-1

It = It-1 + iiIt-1

(8)

It = (1 + ii) It-1

(9)

Inserting different value for t (t= 1, 2, 3, . . .,) the solutions to equation (7) become

I1 = (1 + ii) I0

(10)

I2 = (1 + ii) I1

(11)

I2 = (1 + ii) (1 + ii) I0

(12)

I2 = (1 + ii)2 I0

(13)

Similarly, by putting the value of t in equation (13), it gives

It = I0 (1 + ii)t

(14)

I I = I (1 + )t I

t

It

i i

I0 = I0 (1 + ii)t

(15)

(16)

Also, by inserting the value of t (t= 1, 2, 3, . . .,) in the consumption growth path, as

C C =I

(17)

t

c c 0

C2

C1 = ccI1

(18)

Ct

C0 = cc (I0 + I1 + I2 + . . . + It)

(19)

By substituting the values of I1, I2, . . ., It in equation (19) and its related equations, it

can be solved as below

Ct C0 = cc [I0 + (1 + ii)I0 + (1 + ii)2I0 + . . . + (1 + ii)t I0]

C C = I [1+ (1 + ) + (1 + )2 + . . . + (1 + )t]

t

or

Ct

Ct

c c 0

C0 = ccI0

C0 = ccI0

i i

[

[

( 1+ i i )t1

(1+ i i ) 1

( 1+ i i )t1

i i

i i

i i

(20)

(21)

]

]

(22)

(23)

As such, the growth path of income for the whole economy, given equation (4), is

Yt = It + Ct

(24)

Yt

Y0

=

(It

I0)

+

(Ct

C0)

(25)

By substituting the values of equations (16) and (23) in equation (25), it gives

(1+ i i )t1

Yt

Y0 = [I0 (1 + ii)t

1] + ccI0

i i i

Yt

Y0 = I0[(1 + ii)t

1]

1+

c c

i i

(26)

(27)

Yt Y0 = I0 [(1 + ii)t

1]

i i + c c

i i

(28)

i i + c c

Yt Y0 = 0Y0 [(1 + ii)t 1]

i i

Yt = Y0

1+ 0

1]

i i+ c c

i i

i i + c c

i i

[(1 + ii)t

+ Y0

1)

(29)

(30)

(31)

where 0 is the rate of investment in the base year, Y0 and Yt are the gross national income in

the base year and year t, respectively.

k i + c c

Intuitively, the ratio

i i

coefficient. If, on assumption that i and c are given, the growth rate of income will depend

upon 0 and i. Assuming further that 0 to be constant, the growth rate of income depends

upon the policy instrument, i.

In the economy, if c i, it implies that the larger the percentage investment in

consumer goods industries, the larger will be the income generated. However, the expression

(1 + ii)t in equation (54), shows that after a critical range of time, the larger the investment

in capital goods industries, the larger will be the income generated. Thus, initially a high

value of i increases the magnitude (1 + ii)t., and lower the overall capital coefficient

i i + c c

i i

. But as time passes, a higher value of i would lead to higher growth rate of

On the other hand, if c = i, then the reciprocal of the overall capital coefficient, that

is,

i i

i i + c c

implication of the model is that for a higher rate of investment (i), the marginal rate of

saving must also be higher. Thus, a higher rate of investment on capital goods in the short run

would make available a smaller volume of output for consumption. But in the long run, it

would lead to a higher growth rate of consumption. See Jones (1975).

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