12/22/2016

BasicKaldor'sModel(WithDiagrams)

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BasicKaldors
Model(With
Diagrams)
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Readthisarticletolearnaboutthe
basicKaldorsmodelinneo
classicaltheoryofeconomic
growth.
Introduction:
IthasbeenseenthattheoriginalHarrod
Domarmodel(hereafter,mentionedas
HDModel)isrigid,light,onesectorand
specificwithrespecttothreeparameters.
ADVERTISEMENTS:

Aconstantproportionofincomeis
assumedtobesaved(St/Yt).Thefull
capacityconditionmeansaconstant
capitaloutputratio(C/O)andfurtherthe
conditionthatonfullemploymentthe
demandforlabour(associatedwithfull

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capacityoutput)mustgrowatthe
constantrate(n).
Thus,onaccountofconstantsaving
incomeratio,constantcapitaloutput
ratioandconstantdemandforlabouron
fullemployment,theHDmodel
becomestoorigidtobemuchuse.But
theHDmodelbecomesveryusefulif
theseconditionsarerelaxed.The
parameters(constantvariables)maybe
allowedtovary.Wemayvarythesupply
oflabourandtreatitasmoreflexibleon
fullemploymentthishasbeendoneby
Mrs.JoanRobinsonandhercolleagues
inCambridge.
HerGoldenAgeModelisdiscussed
further.Again,wecantakeavarying
bandofvaluesforcapitaloutputratio,
therebyincreasingthepossibilityofGw
beingequaltoGn.Thisisthepositionof
NeoclassicalmodelsdevelopedbyR.M.
Solow,T.S.Swan,J.E.Meade,
Samuelson,H.G.Johanson,andothers.
Lastly,wemayallowthesavingincome
ratiotovaryaccordingtothedistribution
ofincomebetweenwagesandprofits(Y=
W+P).Thisistheapproachadoptedby

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Kaldorand,therefore,wediscusshis
basicmodelfirstofall.
Hismodelisbasedoncertain
assumptions:
Assumptions:
1.Therearetwofactorsofproduction
capitalandlabour(KandL)andthus
onlytwotypesofincomeprofitsand
wages(PandW).Allprofitsaresaved
andallwagesareconsumed.
2.Thereareconstantreturnstoscaleand
productionfunctionremainsunchanged
overtime.Capitalandlabourare
complementary.
3.Thereisperfectcompetitionassuch
theratesofwagesandprofitsaresame
overdifferentplaces.
ADVERTISEMENTS:

4.Themarginalpropensitytoconsume
ofworkersisgreaterthanthatof
capitalists.
5.Theinvestmentincome(output)into
(I/Y)isanindependentvariable.

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6.Thereisastateoffullemploymentso
thattotaloutputorincome(Y)isgiven.
7.Thereisanunlimitedsupplyoflabour
ataconstantwageintermsofwage
goods.
ADVERTISEMENTS:

Besides,Kaldortookcertainfactsasthe
basesofhismodelandasastarting
pointforexample,accordingtohim,
thereisnorecordedtendencyforafalling
rateofgrowthofproductivitythereisa
continuedincreaseintheamountof
capitalperworkerthereisasteadyrate
ofprofitoncapitalatleastinthe
developedcountrythereisnochangein
theratioofprofitsandwagesarisein
realwagesisonlyinproportiontothe
riseinlabourproductivitythecapital
outputratiosaresteadyoverlongperiods
thisimpliesnearidentityinthe
percentageratesofgrowthofproduction
andofthecapitalstockthereare
appreciabledifferencesintherateof
growthoflabourproductivityandoftotal
outputindifferentsectorsoreconomies.
Features:

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ThestartingpointofKaldoristhebelief
thattheincomeofthesocietyis
distributedbetweendifferentclasses,
eachhavingitsownpropensitytosave(K
=W+P).Theequilibriumcanbe
broughtaboutonlybyajustand
appropriatedistributionofincome.In
otherwords,growthrateandincome
distributionareinherentlyconnected
elements.Kaldorsmodeldependson
thesetwoelementsandtheir
relationshipsandbringsforththe
importanceofdistributionofincomein
theprocessofgrowththisisoneofthe
basicmeritsofKaldorsmodel.
Inhismodel,ontheonehand,the
relationsofdistributionofincome
determinethegivenlevelofsaving(or
socialsaving)and,therefore,investment
andeconomicgrowthrate.Ontheother
hand,theachievementofthisordefinite
growthraterequiresagivenlevelof
investmentand,therefore,ofsavingand
hence,acorrespondingdistributionof
income.
Thisisillustratedbythefollowing
systemofequations:

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Y=W+PI=SS=Sw+Sp,
whereYisthenationalincomeWthe
incomeoflabour(wages)Ptheincome
ofentrepreneurs(profit)Iinvestment
SsavingSwsavingfromwagesSp
savingfromprofits.
ButSw=SwWandSp=SpP
whereSwistheshareofsavingfrom
wagesandSpistheshareofsavings
fromprofit,substitutingforS,weget:

whereP/Yistheshareofprofitinthe
totalincomeandI/Yistheinvestment
incomeratio,Now,wecaneasilyseeand
appreciateKaldorsthesis.Histhesisis
thattheshareofprofitinthetotal

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incomeisafunctionoftheratioof
investmenttoincome(I/Y).
Intheaboveequation,itcaneasilybe
seenthatanincreaseintheincome
investmentratio(I/Y)willresultinan
increaseintheshareofprofitsoutof
totalincome(P/Y),aslongasitis
assumedthatbothswandspareconstant
andfurtherthatspisgreaterthan(sp>
sw).Thus,giventhemps,ofwages
earners(sw)andthempsof
entrepreneurs(sp)}thesharetheprofits
(P)inthenationalincome(Y),thatisP/Y
dependsontheratioofinvestment(I)to
totalincomeoroutput(Y),thatisI/Y.In
otherwords,P/Yisafunctionof

Ofgreaterimportancetousisthe
underlyingeconomicrationalefor
Kaldorstheoremthattheshareofprofit
inthetotalincome(P/Y)isafunctionof
theinvestmentincomeratio(I/Y).Under
fullemploymentconditionsanincrease
ininvestmentmustinrealterms,bring
aboutanincreaseinboththeratioof

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investmenttoincome(I/Y)andalsoan
increaseinthesavingsincomeratio
(S/K).Thisisnecessaryifequilibriumat
ahigherlevelofrealinvestmentistobe
obtained.
Ifthesavingincomeratiodidnotrise,
theresultwouldbeacontinuousupward
movementofthegenerallevelofprices.
TheheartofKaldorstheoryliesinhis
demonstrationthatshiftinthe
distributionofincomeisessentialto
bringaboutthehighersavingincome
ratio,whichisthenecessarycondition
foracontinuedfullemployment
equilibriumwithahigherabsolutelevel
ofinvestmentinrealterms.Thisis
illustratedbythegivenFig.44.3.

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IntheFig.44.3,adirectrelationship
betweenP/YandI/Yisassumed.The
ratioofinvestmenttoincomedepends
uponexogenous(outside)factorsandis
assumedasindependentaltogether.
Since,propensitiestosaveforthetwo
incomeclassesdifferthempsoutof
profitincomearemorethanthempsout
ofwageincome.
Assumptionofsp>sw,accordingto
Kaldor,isanecessaryconditionforboth
stabilityintheentiresystemandan
increaseintheshareofprofitinincome
whentheinvestmentincomeratiorises.
GiventhefullemploymentincomeY0,
theinvestmentincomeratioandthe
savingincomeratio(I/Y)and(S/Y)are
I/Y(Y0)andS/Y(Y0)andthesystemis
inequilibriumwiththeprofitincome
ratiofixedbytheverticallineAW.
Ifthereisanincreaseinincome,both
S/YandI/Yfunctionshiftbysuch
magnitudesthattheyassumethe
positionS/Y(Y1)andI/Y(Y1).The
equilibriumprofitsharewillremain
constantasmeasuredbythelineNN.
HadtherebeenashiftintheI/YwithS/Y

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functionatS/Y(Y0),therewouldhave
beenaninflationarypricemovement.
ButanincreaseinP/Y,assumingthatSp
>Sw,pushesuptheS/Yfunctionto
ensureequilibriumatfullemployment.If
thissmoothmovementbetweenI/Ywith
S/Ypersiststhesystemwillsustainitself
atfullemploymentandtheequilibrium
shareofprofittoincomewillremain
constant.Theunderlyingideaisthatwith
fixedlevelofrealincome(assumptionof
fullemployment),theonlywayinwhich
itispossibletobringaboutanincreasein
S/Yfortheentireeconomyiseither
throughariseinthepropensitytosave
itself,whichhasbeenruledoutbyKaldor
throughhisassumptionthatSpandSw
areconstant,orthroughashiftinthe
distributionofrealincomefromlow
savinggroupstothehighsavinggroups.
Themechanismwhichbringsaboutthe
redistributionofincomeinfavourofthe
profitsharewheneverthereisarisein
theinvestmentincomeratiois
essentiallythatofthepricelevel.The
increaseininvestmentexpenditure
underfullemploymentconditions,leads

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initiallytoageneralriseinprices.But
wagescannotriseasfastandasmuchas
theriseinprices.
Thefailureofmoneywagestokeeppace
withtheriseinpriceswillreducereal
incomeofwageearnersanditwill
increasetheprofitmarginsof
entrepreneurs.Sincethempsofthelatter
groupis,ontheaveragehigherthanthat
ofwageearners,theinflationinduced
shiftsinthedistributionofrealincomein
favourofprofitswillincreasetheoverall
levelofrealsavingintheeconomy.
Thisprocesswillcontinueuntilthe
savingincomeratio(S/Y)isonceagain
inequilibriumwiththeinvestment
incomeratio(I/Y).Thus,itisquiteclear
thattheassumptionofsp>swisof
crucialimportanceintheKaldorsmodel.
Intheabsenceofthisassumption,the
realS/Ywillnotriseirrespectiveofany
changeinthedistributionofincome.
Consequently,thesystemmayremain
unstable.
KaldorandHarrod:

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Wefind,thatsp>swisthebasic
equilibriumandstabilitycondition.Ifsp
<sw,therewillbeafallinpricesand
cumulativedeclineindemand,priceand
income.Similarly,ifsp>sw,therewillbe
ariseinprices,cumulativerisein
demandandincome.Thedegreeof
stabilityofthesystemisdependenton
thedifferencebetweenthemarginal
propensitiestosave.Ifthedifference
betweenthetwopropensities(spandsw,)
issmall,thecoefficient1/spswwillbe
largewiththeresultthatsmallchanges
intheinvestmentincomeratio(I/Y)will
leadtorelativelylargechangesinincome
distribution(P/Y)andviceversa.
Kaldor,inhiswritingormodel,triesto
findthesecauses(ofthisstabilityor
instability)inthepurelytechno
economicregularitiesorirregularitiesof
growth.Tosimplifythereasoning,he
assumesthatthempsofwageearners
(sw)iszero.
Inthesecircumstances,the
equationgivenabovebecomes:

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AccordingtoHarrodsmodel,therateof
accumulation(I/Y)isdeterminedbythe
growthrateandthecapitaloutputratio,
thatis

Theeconomicmeaningofthisequationis
thattheshareofprofitinincomeis
determinedbytheshareofsavingsoutof
profitincome(sp),thegrowthrate(G)
andthecapitaloutputratio(Cr).Ifthe
firsttwoindicatorsremainconstant,the
stabilityoftheshareofprofitinincome
(P/Y)willthenbedeterminedbythe
stabilityofcapitalcoefficient(Cr).To
explainandtosubstantiatethisstability,
Kaldorintroducedhisfamoustechnical
progressfunction.Thus,underKaldors
model,theshareofprofit,therateof
profitwhichestablishesSandIidentity,
assistedbytechnicalprogressfunction,1
providesthemechanismofgrowth,
stabilityanddynamics.

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CriticalEvaluation:
Thebasicfeaturesornoveltiesof
Kaldorsmodelmaybesummedup
asfollows:
(a)Itsgreatmeritliesinthedevelopment
oftheconceptoftechnicalprogress
functionandthebeliefthatthetechnical
progressactsasthemainengineof
growth.Technicalprogressfunction
underKaldorsmodelreplacestheusual
productionfunction.Accordingtohim,
thebasicfunctionalrelationshipisnot
theproductionfunctionexpressing
outputpermanasanincreasingfunction
ofcapitalpermanbutatechnical
progressfunctionexpressingtherateof
increaseinoutputpermanasan
increasingfunctionoftherateofincrease
ofinvestment.
(b)AnothergreatmeritofKaldorsmodel
liesintheviewsthattheinducementto
investdoesnotdependonMECor
interestratecomparisonstherejection
oflongrununderemployment
equilibriumtheintroductionofa
distributionmechanismintoHarrods

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model.Kaldorsmodelthoughessentially
basedonKeynesianconceptsand
Harrodiandynamicapproachdiffers
fromtheminanumberofways.Kaldor
believesthateconomicgrowthandits
processarebasedonthe
interdependenceofthefundamental
variableslikesavings,investment,
productivity,etc.
InKaldorsopinionadynamicprocessof
growthshouldnotbepresentedand
cannotbeunderstoodwiththehelpof
certainconstants(likeconstantSt/Vtor
C/OratiounderHarrodsmodel)butin
termsofthebasicfunctional
relationships.Thebasicfundamental
relationshipsamongthefractionof
incomesaved,thefractionofincome
investedandtherategincreaseof
productivityperman,determinethe
outcomeofthedynamicprocess.
LimitationsoftheModel:
(a)SinceKaldorseekstorelatethe
functionaldistributionofincomedirectly
tovariablesthatareofcrucial
importanceinthedeterminationofthe

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levelofincomeandemployment,his
analysisisrightlydescribedasan
aggregateormacroeconomictheoryof
incomedistribution.Buthisanalysisis
severelyrestrictedbyitsunderlying
assumptions.
Thetheorydoesnottellushowthe
distributionofincomeinafunctional
sensewillbeaffectedbychangesinreal
incomebelowthefullemploymentlevel,
thoughitdoestellthatanyattemptto
increasecapacityandfullemploymentis
reached,willbringaboutarelative
increaseinthenonwageshareinthe
totalincome.Inthissense,Kaldors
modelhasadistinctclassicalflavour,
eventhoughhisframeworkisthatof
modernemploymenttheory.
(b)Itisonaccountofitsrestrictive
assumptionsthatKaldorsmodelisnot
easilygeneralisedformorethantwo
classes.Hisassumptionofinvariable
sharesofincomesaved(spandsw)is
muchtoorigid.Empiricalanalysisshows
thatthesesharestendtochangeover
timedependingonincomegrowthand
otherfactors.WhileKaldorhimself

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remarksontheexcessivelygeneralised
natureofhisconception,onemustsay
thatitsfundamentalmethodologicalflow
amountstomorethanthat.
Itisanattempttofitintotherigid
frameworkofpurelytechnological
changethewholecomplexityofsocio
economicchanges,whichcharacterise
thegrowthoffreecompetitivecapitalism
intomonopolyandstatemonopoly
capitalismchangeswhichhad/havean
effectonthedistributionofthenational
income(inamannerpostulatedby
Kaldoraccordingtohisassumptions).
(c)Moreover,Kaldorsabstractmodel
takesnoaccountatallofthevast
unproductiveexpenditurewhichburden
moderncapitalistsociety,especially
governmentmilitaryspending.The
introductionintohismodelofstate
incomewithacorrespondingpropensity
tosavecoulduponupasourceofgrowth
andrisingratesofaccumulationother
thanthewageearnersincome.
(d)Kaldorsmodel,initspresentstate
cannotbeacceptedeitherasamodelof

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growthorasamodelofmacro
distribution.Hismodeldependsupona
uniqueprofitrate,whichhastheneeded
valuetoproduceorensuresteadystate
growthbuthedoesnttellorshow,how
thisuniquerateofprofitisdetermined?
This,infact,isagreatshortcomingofhis
modelandthelineofthoughthastobe
developedfurthertomakeitmore
fruitfultheaimbeingtodevelopa
generalequilibriummodelofgrowth.
Themodel,therefore,needstobe
supplementedbyatheoryofincome
distribution.
(e)Hisdistributionmechanismthrough
whathasbeendescribedaboveasKaldor
Effecthasalsobeencriticised.A
continuingriseinpriceshasdifferent
resultslikeoverspending,wageinflation,
wagepricespiralandtheseconsequences
determineincomedistribution.His
modelattributesallprofitstocapitalists,
therebyimplyingthatworkerssavings
aretransferredasagifttocapitalists,this
isobviouslyabsurdforunderthese
conditions,noindividualwillsaveatall.
Thatiswhyitisremarkedwhether

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Kaldorsmodelofdistributiondoes
provideasatisfactoryalternativeordoes
itinvolveajumpfromthefryingpaninto
thefire?
ThatiswhyProf.J.E.Meaderemarked
thatcanitbereallymaintainedthat
whenKaldoreffecttakesplaceandprices
andsellingprospectareimproving
wageswillremainunchanged?Willnot
theentrepreneursbidupthewagerate
againsteachothertoemploylabour
undertheimpactofKaldoreffect?How
elsecanoneexplainthenotorious
phenomenonofwagedrift?Willnotthe
authoritiestakestepstocorrectoroffset
theinitialinflationofinvestment?Mr.
Kaldorstheoryofdistributionismore
appropriateforexplainingshortrun
inflationthanlongrungrowth.
(f)KaldorsModelfailstotakeinto
considerationtheimpactof
redistributionofincomeonhuman
capital.Histheorylaysemphasison
physicalcapital.McCormikremarks,the
failureofthetheorytoincorporate
humancapitalleavesthetheorytoo
simpletoexplainthecomplexitiesofthe

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realworld.WithanincreaseinI/Y,the
shareofprofit(P/Y)willincreaseandthe
shareoflabourwillfall,deteriorating
humancapitalwhichinturn,willbring
areductioninincomeoutput.
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