A small less developed country finds itself the recipient of a large amount of foreign direct investment that adds 50% to its current steady-state level of capital stock. This country seeks your advice about the long-term implications of that kind of help.
a. Assume this country begins in a steady state condition at Y ss = √ Ks s, and show the short-run effects of a 50% increase in the steady state level of capital stock such that K1 = 3 / 2 Kss on the Solow diagram.
b. What will the long-term effects of this increase in the capital stock be for this country?
c. What potential problems should this country consider during the adjustment period described in part b?
d. What must this country do in order to gain any permanent long-term benefits from this increase in its capital stock?
e. Bonus: Can you think of any examples like these in real life?