Harrod Domar Model | Problem in Harrod Domar Growth Model

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Hi friends, in today’s article we are going to know about Harrod Domar Model and also know the Problem in Harrod Domar Growth Model. So let’s discuss in details.

Harrod Domar Model | Problem in Harrod Domar Growth Model

Harrod Domar Model

We have seen in Harrod model of growth that to achieve full-employment equilibrium growth or steady growth there must be equality between actual rate of growth (G), warranted rate of growth (Gw) and natural rate of growth (Gn) or Gn= Gw = G.

But this is a knife-edge balance. For once, there may be any distinction among natural, warranted and real rates of growth conditions of secular stagnation or inflation might be generated in the economy. This instability in Harrods’ model is due to the rigidity of its basic assumptions.

They are a fixed saving ratio, a fixed production function and a fixed growth rate of labour force. The instability problem or imbalances in Harrod model occurs –

  1. When Gn > Gw, or C < Cr
  2. When Gn < Gw, or C > Cr

When Gn is greater than Gw. G is also greater than Gw. Under this situation, growth-rate of income is higher than the growth rate of output. It means the demand for output is greater than the supply of output and economy would experience inflation.

It can be explained in another way too when C < Cr. Under this situation, the actual amount of capital falls short of the required amount of capital. Due to deficiency of capital there would be a fall in output, and hence inflation.

Under the first situation, economy will face the problem of inflation, and growth under inflationary situation is not stable.

On the other hand, when Gn is less than Gw. G is also less than Gw. Under this situation the growth-rate of income is less than the growth-rate of output which means there would be more goods for sale, but the income would be insufficient to purchase those goods.

There would be deficiency of demand and the economy would face the problem of overproduction and deflation. This situation can also be explained when C is greater than Cr. Under this situation, actual amount of capital would be larger than the required amount of capital for investment.

The larger amount of capital available for investment would dampen the marginal efficiency of capital in the long-period. Secular decline in the marginal efficiency of capital would lead to depression and unemployment. Thus, economic growth under the situation of depression cannot be stable.

In Domer’s model if steady growth is to be maintained, the income growth rate (AY/Y) should be equal to the product of marginal propensity to save (α) and the productivity of capital (δ)

Disequilibrium (non-steady state) prevails

(i) When ΔΙ/I or ΔY/Y > αδ

(ii) When ΔΙ/I or ΔY/Y < αδ

Under the first situation, long-term inflation would appear in the economy because the higher growth rate of income will provide greater purchasing power to the people. The second situation, under which growth rate of income is less than the productive capacity.

Thus there would appear secular deflation. We have thus arrived at the same conclusion of instability of steady growth which we had derived from the Harrod model.


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