Econ602TheTwo-SectorGrowthModel-Economics.pdfVIP

Econ602: The Two-Sector Growth Model Spring 2005. Prof. Lutz Hendricks So far we assumed that there is only one good at each point in time. We now relax this assumption by assuming that capital and consumption goods are produced in different sectors. This setup is important for investigating, for example, the consequences of technical change that is “embodied” in capital goods (Hercovitz 1998; Greenwood, Hercovitz, and Krusell 1997), or for models of human capital. 1. Planning Problem There is a unit mass of households who live forever. Their preferences over consumption and leisure ∞ t are ∑ β u(c ,1− v ) . The household has one unit of time available in each period, which can be t 0 t t allocated to work (v) or leisure (1−v). Consumption goods are produced according Y F (K ,L ) and capital goods according to 1 1 1 Y G(K ,L ) . The resource constraints are 2 2 2 L + L = v, K + K K , Y c , Y K − (1− δ) K . 1 2 1 2 1 2t t+1 t The planner maximizes ∞ t subject to the resource constraints. We may think of the ∑ β u(c ,1− v ) t 0 t t planner as choosing investment, consumption, and the fractions of capital and labor allocated to each sector. Let’s call ϕ the fraction of capital employed in sector 1: K K 1 + K 2 ϕ K + (1− ϕ) K . The planner’s state variable is then simply K and there is no need to separately keep K and K around 1 2 because the two types of capital can be transformed into