Question

Suppose that the government makes a one-time investment in new public school buildings, which results in a one-time reduction in consumption. The new public school buildings increase the efficiency with which human capital is accumulated. Use the endogenous growth model to determine the effects of this on the paths of aggregate consumption over time. Is it clear that this investment in new schools is a good idea

Answer 1

Answer: The effects of the one- time investment in the short run will lead to a reduced aggregate consumption while in the long run the new growth path will surpass the original growth path eventually.

Explanation: Endogenous growth theory holds that economic growth is primarily the result of endogenous and not external forces. The theory holds that investment in human capital, innovation, and knowledge are significant contributors to economic growth.

The new public school building is a one-time investment which lowers the growth path of consumption with no change in the growth rate. The increase in efficiency with whichever human capital is accumulated increases the growth rate of the economy.

In the short-run, the effect on the economy is that it gets a one-time reduction in consumption while in the long run, the new growth path goes beyond the original growth path at the end.