Harrod domar model of growth

Harrod-Domar Model of Growth

1. Harrod-Domar Model of Growth Prepared By: Manoj Sharma Msc.Ag ( Agri -Economics) Agriculture and Forestry University AFU

2. Introduction Extended form of Keynesian analysis to long run Dual effect of investment: Increase AD and Income through multiplier process, Raises productive capacity ( ignored by Keynes) Seeks to determine unique rate at which investment and income must grow- full employment for long run As investment increases - Income increases - AD increases - Output increases - E mployment increases AFU

3. Domar’s Growth Model Fundamental Growth Equation ∆Y = ∆K. (∆Y/∆K) Where, ∆Y = Increase in National Income during a period ∆K = I ∆Y/∆K = marginal output-capital ratio (= Y/K assume = σ ) So, ∆Y = I σ ………..( i ) AFU

4. Demand or income effect of investment Increase in income is given by the increase in investment and size of multiplier ∆Y = ∆I/s …….. (ii) Where, 1/s = size of investment multiplier Domar’s Growth Equation in terms of rates of Growth ∆Y/Y= (∆K/Y).(∆Y/∆K) G y = (I/Y).(∆Y/∆K) G y = (I/Y). σ To maintain full employment, S = I G y = (S/Y). σ G y = s. σ ( where, s = saving ratio) …….(iii) AFU

5. Equilibrium Growth Condition From equations ( i ) and (ii), we get rate of investment I σ = ∆I/s Or, ∆I/I = s σ ……(iv) F rom equations (iii) and (iv), Equilibrium growth is given by, G y = ∆Y/Y = ∆I/I = s σ Thus, rate should be equal to the propensity to save (s) multiplied by output-capital ratio ( σ ). AFU

6. Harrod’s Growth Model Truly Dynamic one Seeks to explain secular cause of unemployment and inflation and the factors determining equilibrium and actual rate of capital accumulation Three basic elements: population growth, output per head as determined by level of investment, and capital accumulation AFU

7. Two assumptions: i ) Saving in any period of time is constant proportional to rate of increase in income S = sY t ii) The investment is proportional the rate of increase in income ∆ K or I = ν( Y t – Y t-1 ) Since, saving must be equal to actual investment , we have ν( Y t – Y t-1 ) = sY t ν( Y t – Y t-1 )/ Y t = s AFU

8. ( Y t – Y t-1 )/ Y t = s/ν G y = s/ν Warranted rate of Growth : Fundamental growth equation Describes Equilibrium growth at steady rate A rate of growth if it occurs will keep the entrepreneurs satisfied that they have produced neither more or less than the right amount G w = s/ ν r Where, ν r = required ICOR to sustain the warranted rate of growth AFU

9. It is determined by the state of technology and the nature of goods constituting the increment in output Condition for the equilibrium growth rate if incremental capital-output ( ν) actually realized happens to be equal to required capital-output ratio ( ν r ) warranted by technological and other conditions, then G y = G w AFU

10. Fig: Harrod - Domar Model of equilibrium Growth AFU

11. Thank You AFU