The Solow model makes it quite easy to figure out how rich a country will be in its steady state. We already know that you’re in steady state when investment equals depreciation. In math, that’s
γY = δK
Since Y = √K in our simplest model that means that K = Y 2:
γY = δY 2
There are a lot of ways to solve this for Y— the easiest might just be to divide both sides by Y, and then put everything else on the other side. When you do this, you can learn how steady-state GDP depends on savings rate and the depreciation rate. Here are a few questions:
a. Many people say that if people save more, that’s bad for the economy: They say that spending money on consumer goods keeps the money moving through the economy. Does this model say that?
b. Many people say that when machines and equipment get destroyed by bad weather or war, that makes the economy better off by encouraging businesses and families to spend money on new capital goods. Does this model say that?