Chapter 30

An advance in technology that boosts the return from capital increases the demand for capital. The capital demand curve shifts rightward, as illustrated in the figure by the shift from KD₀ to KD₁. As a result, the equilibrium stock of capital increases to $82,000 per person and the real interest rate rises to 7 percent a year.

The increase in the capital stock means that the nation can produce more output and hence economic growth occurs. But, this result and this (limited) economic growth do not end the story. The real interest rate, 7 percent a year, now exceeds the long-run target interest rate, 4 percent a year, so people increase their saving. The increase in saving increases the amount of investment and the stock of capital grows. The supply of capital increases and the KS curve starts to shift rightward. Economic growth increases.

To see the further impact of the increased saving on the nation's growth rate, click on the figure below.