Academic journal article Economic Quarterly - Federal Reserve Bank of Richmond

(Un)Balanced Growth

Academic journal article Economic Quarterly - Federal Reserve Bank of Richmond

(Un)Balanced Growth

Article excerpt

Since the late 1800s, real output in the United States has been growing at a steady rate of about 3.5 percent per year (see Figure 1).1 With the exception of the 20 years between 1930 and 1950, the real aggregate capital stock of the United States has also been growing at that same steady rate. Thus, although output tripled and capital increased by a factor of 2.5 over this time period, the capital-output ratio remained roughly constant before 1930 and after 1950. Available data also indicate that the relative price of capital in terms of consumption goods has not changed much since the 1950s. In this article I review to what extent the stability of the aggregate capital accumulation pattern actually masks substantial changes in the composition of the aggregate capital stock-namely, changes in the relative importance of equipment and structures.

The observed stability of output and capital growth rates and the capital-output ratio are part of the "stylized facts" of growth (Kaldor 1957, 1961). The stylized facts also include the observations that the rate of return on capital and factor income shares have remained stable over long time periods in the United States and other industrialized countries.2 These observed regularities suggest that a common theoretical framework might be able to account for the output and capital accumulation path of the U.S. economy and other industrialized economies over the last 100 years. Indeed, neoclassical growth theory was built around the stylized facts of growth.

Neoclassical growth theory assumes that there are two inputs to production: non-reproducible labor and reproducible capital. For a given level of technology, production is constant returns to scale in all inputs, and there are diminishing marginal returns for individual inputs. Technical change is taken as exogenous and is assumed to increase the marginal products of capital and labor for given amounts of inputs. Both inputs are assumed to be paid their marginal product, and the higher marginal product of capital induces more capital accumulation. In an equilibrium, capital accumulation proceeds at a rate such that the return on capital remains constant. Since the labor endowment is fixed, higher productivity and more capital increases payments to labor over time.

In neoclassical growth theory, growth is driven by technological change, and capital accumulation responds to technical change, but the source of technical change is not explored. Greenwood, Hercowitz, and Krusell (1997) have argued that technical change in the sector that produces equipment capital is a major source of growth. Their argument for relatively faster technical change in this sector is based on the long-run decline of the relative price of equipment capital. Since the 1960s, the price of equipment capital relative to the price of consumption goods has been falling by about 40 percent, whereas the relative price of structures has been increasing by about 10 percent (see Figure 2).3 If the relative price of equipment capital has been declining, then the producers of equipment capital must have become relatively more efficient.

Greenwood et al. (1997) evaluate the long-run contribution of different sources of technical change, including the response of capital accumulation to technical change. This is a reasonable procedure since long-run growth depends not only on exogenous technical change, but also on the endogenous capital accumulation response to technical change. But in order to determine the capital accumulation response to hypothetical time paths of technical change, one needs a theory of growth. Greenwood et al. (1997) use a straightforward extension of the aggregate neoclassical growth model to their multi-sector view of the economy, and they use a standard characterization of long-run growth. In particular, they assume that the long-run equilibrium growth path is balanced; that is, all variables grow at constant but possibly different rates. …

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