Answer to Question #194592 in Macroeconomics for Wawa

Question

The golden rule level of capital accumulation is the steady state with the highest level of consumption.illustrate this statement showing well the economy would move if it were to move to a new steady state

Answer 1

Steady-state consumption is what is being left of output of steady-state after making of the provision for steady-state depreciation. On the positive side, more capital would imply more output. On the negative side, more capital would indicate that more of the output should in turn be used for replacing worn- out capital.

From this figure it is clear that there is only one level of capital stock being the Golden Rule level of k* which tends to maximise consumption.Higher levels of capital would tend to affect both output as well as de­preciation. If actual capital stock is in turn less than the Golden Rule level, an increase in capital stock would lead to raising of output faster than depreciation. Due to this the level of consumption rises.

In such a situation, f(k*) being the production function is in turn steeper than (δk*) being the steady-state deprecia­tion line. This indicates that the gap is vertical distance between the two curves which in turn equals consump­tion per worker grows as k* tends to in­crease. Conversely, if the actual capital stock tends to exceed the Golden Rule level, an increase in the capital stock would in turn lead to reduction in consumption.

The reason behind this is that an increase in output is in turn smaller than an increase in depreciation. In such a situation the production function is in turn flatter as compared to the δk* line. The gap between the two of the curves which would in turn measures the level of consumption which falls as k* tends to rise.

At the Golden Rule level of capital, the line of depreciation and the production function have the same slope, this indicates that consumption being at the highest level being possible.