Saving, Capital

Accumulation, and
Output

Chapter 11
Chapter 11 Outline

Saving, Capital Accumulation, and Output

11-1 Interactions between Output and Capital

11-2 The Implications of Alternative Saving
Rates
11-3 Getting a Sense of Magnitudes
11-4 Physical versus Human Capital

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Saving, Capital Accumulation, and
Output
• Since 1970, the U.S. saving ratio—the ratio of
saving to gross domestic product—has averaged
only 17%, compared to 22% in Germany and 30% in
Japan.
• Egyptian saving rate, in 2015, is approximately
9.6% of GDP
• Even if a lower saving rate does not permanently
affect the growth rate, it does affect the level of
output and the standard of living.

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11-1 Interactions between Output
and Capital
• Output in the long run depends on two relations:
– The amount of capital determines the amount of
output
– The amount of output being produced determines the
amount of saving, which in turn determines the
amount of capital being accumulated over time

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11-1 Interactions between Output
and Capital
Figure 11-1 Capital, Output, and Saving/Investment

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11-1 Interactions between Output
and Capital
• Recall Chapter 10:

or

• Assume that N is constant, and there is no technological

progress, so f does not change over time:

• Higher capital per worker leads to higher output per

worker.

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11-1 Interactions between Output
and Capital
• Assume:
– The economy is closed: I = S + (T − G)
– Public saving (T − G) is 0: I = S
– Private saving is proportional to income: S = sY
0< s: saving rate<1
• So the relation between output and investment:
It = sYt
• Investment is proportional to output.
• The higher (lower) output is, the higher (lower) is
saving and so the higher (lower) is investment.

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11-1 Interactions between Output
and Capital
• The evolution of the capital stock is:
𝛿:depreciation rate

• Replace investment by the above expression and

divide both sides by N:

or

• The change in the capital stock per worker is equal

to saving per worker minus depreciation per worker.
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11-2 The Implications of Alternative
Saving Rates
• Combining equations (11.1) and (11.2):

• If investment per worker exceeds (is less than)

depreciation per worker, the change in capital per
worker is positive (negative).

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11-2 The Implications of Alternative
Saving Rates
Figure 11-2 Capital and Output Dynamics

When capital and

output are low,
investment exceeds
depreciation and
capital increases.
When capital and
output are high,
investment is less
than depreciation
and capital
decreases.

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11-2 The Implications of Alternative
Saving Rates
• The state in which output per worker and capital
per worker are no longer changing is called the
steady state of the economy. (long run equilibr.)

• The steady-state value of capital per worker is such

that the amount of saving per worker is sufficient to
cover depreciation of the capital stock per worker.

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Focus: Capital Accumulation and Growth in
France in the Aftermath of World War II
• France suffered heavy losses in capital when World War II ended in
1945.
• The growth model predicts that France would experience high capital
accumulation and output growth for some time.
• From 1946 to 1950, French real GDP indeed grew at 9.6% per year.

Table 1 Proportion of the French Capital Stock Destroyed by the End of

World War II

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11-2 The Implications of Alternative
Saving Rates
• The saving rate has no effect on the long-run
growth rate of output per worker, which is equal
to zero. (In the LR, the economy converges to a constant
level of Y/N=Y*/N)
• The saving rate determines the level of output per
worker in the long run. (see Figure 11-3 below)
• An increase in the saving rate will lead to higher
growth of output per worker for some time, but
not forever. (see Figures 11-3, 11-4, 11-5 below)

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11-2 The Implications of Alternative
Saving Rates
Figure 11-3 The Effects of Different Saving Rates

A country with a
higher saving rate
achieves a higher
steady-state level
of output per
worker.

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11-2 The Implications of Alternative
Saving Rates
Figure 11-4 The Effects of an Increase in the Saving Rate on Output
per Worker in an Economy Without Technological Progress

An increase in the
saving rate leads to
a period of higher
growth until output
reaches its new
higher steady-state
level, and the
growth rate returns
to zero.

In Fig 11-3, a country’s saving rate rises from s0 to s1.

At K0/N, investment exceeds depreciation, so K/N (hence
Y/N) increases and the economy goes through a period of
positive growth. When it reaches K1/N (hence Y1/N),
investment is again equal to depreciation, and growth ends.

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11-2 The Implications of Alternative
Saving Rates
Figure 11-5 The Effects of an Increase in the Saving Rate on Output per
Worker in an Economy with Technological Progress

An increase in the
saving rate leads to a
period of higher
growth until output
reaches its new higher
path. On path BB, the
growth rate is again
the same as before
the increase in the
saving rate.

Note: An economy in which there is

technological progress has a positive
growth rate of output per worker, even in
the long run (+ve steady-state growth).

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11-2 The Implications of Alternative
Saving Rates
• What matters to people is not how much is
produced, but how much they consume.
• Governments can affect the saving rate by:
– changing public saving (budget surplus)
– using taxes to affect private saving (ex tax breaks for
savers)
• An increase in saving must come initially (in the
short run) at the expense of lower consumption.
What about LR?
• Golden-rule level of capital: The level of capital
associated with the saving rate that yields the
highest level of consumption in steady state.

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11-2 The Implications of Alternative
Saving Rates
Figure 11-6 The Effects of the Saving Rate on Steady-State
Consumption per Worker

An increase in the
saving rate leads to
an increase, then to
a decrease in
steady-state
consumption per
worker.

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11-2 The Implications of Alternative
Saving Rates
• For a saving rate between zero and the golden-rule
level, a higher saving rate leads to higher capital
per worker, higher output per worker and higher
consumption per worker.
• For a saving rate greater than the golden-rule level,
a higher saving rate still leads to higher capital per
worker and output per worker, but lower
consumption per worker. This is because the
increase in output is more than offset by the
increase in depreciation as a result of the excessive
capital stock. steady-state

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11-3 Getting a Sense of Magnitudes

• Assume the production function f:

• so that equation (11.3) becomes:

• which describes the evolution of capital per worker

over time.

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11-3 Getting a Sense of Magnitudes

• Equation (11.7) implies that capital per worker in

the steady state (K*/N) becomes:

• Combining equations (11.6) and (11.8) gives the

steady state output per worker:

• In the long run, output per worker doubles when

the saving rate doubles.

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11-3 Getting a Sense of Magnitudes
Figure 11-7(a) The Dynamic Effects of an Increase in the Saving
Rate from 10% to 20% on the Level and the Growth Rate of Output
per Worker
𝛿 =10%

It takes a long time for output to adjust to its new higher level after an
increase in the saving rate. Put another way, an increase in the saving rate
leads to a long period of higher growth.

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11-3 Getting a Sense of Magnitudes
Figure 11-7(b) The Dynamic Effects of an Increase in the Saving
Rate from 10% to 20% on the Level and the Growth Rate of Output
per Worker

Growth of output per worker is highest at the beginning and then decreases
over time. As the economy reaches its new steady state, growth of output
per worker returns to zero.

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11-3 Getting a Sense of Magnitudes

• In the steady state, consumption per worker is equal

to output per worker minus depreciation per worker:

• Given equations (11.8) and (11.9), the steady-state

consumption per worker is:

• Table 11-1 gives the steady-state values of capital

per worker, output per worker and consumption per
worker for different saving rates (given δ=10%)

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11-3 Getting a Sense of Magnitudes
Table 11-1 The Saving Rate and the Steady-State Levels of Capital,
Output, and Consumption per Worker

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11-4 Physical versus Human Capital

• Human capital (H): The set of skills of the workers

in the economy built through education and on-the-
job training.
• The production function with human capital:

• Countries that save more or spend more on

education can achieve higher steady-state levels of
output per worker.

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11-4 Physical versus Human Capital

• Models of endogenous growth: Steady-state

growth in output per worker depends on variables
such as the saving rate and the rate of spending on
education, even without technological progress.
• However, the current consensus is that given the
rate of technological progress, higher rates of
saving or spending on education (though can lead to
higher levels of output per worker in the long run) do not
lead to a permanently higher growth rate.

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