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Obsolescence

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  • Gylfason, Thorvaldur
  • Zoega, Gylfi

Abstract

Does it always pay to install high-quality capital? Or could it possibly be more profitable to make investments that do not last too long? In this Paper we ponder the optimal rate of depreciation of physical capital, first in the Solow model and then in a model of endogenous growth with learning-by-doing. Optimal durability and depreciation, including obsolescence, are attained when the marginal benefit of increasing durability – and thus reducing the need for future replacement investment – is equal to the marginal cost, which is the additional cost of investing due to the higher quality of capital. The optimality conditions are set out as golden rules for the quality, or durability, of capital. They entail that the higher the rate of population growth or technological progress, the larger the marginal cost of investing in durability and the lower the optimal level of durability; hence, the higher the optimal rate of depreciation. We then use a customer-market model to derive the privately optimal level of durability, and find that there is nothing in the model that ensures the socially optimal level of durability and depreciation.

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Bibliographic Info

Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 2833.

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Date of creation: Jun 2001
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Handle: RePEc:cpr:ceprdp:2833

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Related research

Keywords: Capital; depreciation; economic growth; obsolescence;

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References

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  1. Xavier Sala-I-Martin & Gernot Doppelhofer & Ronald I. Miller, 2004. "Determinants of Long-Term Growth: A Bayesian Averaging of Classical Estimates (BACE) Approach," American Economic Review, American Economic Association, vol. 94(4), pages 813-835, September.
  2. Levine, Ross & Renelt, David, 1992. "A Sensitivity Analysis of Cross-Country Growth Regressions," American Economic Review, American Economic Association, vol. 82(4), pages 942-63, September.
  3. World Bank, 2000. "World Development Indicators 2000," World Bank Publications, The World Bank, number 13828, July.
  4. Thorvaldur Gylfason & Gylfi Zoega, 2001. "Natural Resources and Economic Growth: The Role of Investment," EPRU Working Paper Series 01-02, Economic Policy Research Unit (EPRU), University of Copenhagen. Department of Economics.
  5. Blanchard, Olivier J, 1985. "Debt, Deficits, and Finite Horizons," Journal of Political Economy, University of Chicago Press, vol. 93(2), pages 223-47, April.
  6. Romer, Paul M, 1986. "Increasing Returns and Long-run Growth," Journal of Political Economy, University of Chicago Press, vol. 94(5), pages 1002-37, October.
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Cited by:
  1. Raouf Boucekkine & Fernando del Río & Blanca Martínez, 2009. "Technological progress, obsolescence, and depreciation," Oxford Economic Papers, Oxford University Press, vol. 61(3), pages 440-466, July.
  2. George Bitros, 2010. "The theorem of proportionality in contemporary capital theory: An assessment of its conceptual foundations," The Review of Austrian Economics, Springer, vol. 23(4), pages 367-401, December.
  3. Bitros, George C., 2009. "The Theorem of Proportionality in Mainstream Capital Theory: An Assessment of its Conceptual Foundations," MPRA Paper 17436, University Library of Munich, Germany.
  4. Gylfason, Thorvaldur & Zoega, Gylfi, 2001. "Natural Resources and Economic Growth: The Role of Investment," CEPR Discussion Papers 2743, C.E.P.R. Discussion Papers.
  5. Raouf Boucekkine & Blanca Martínez & Fernando del Río, 2005. "Technological Progress And Depreciation," Working Papers. Serie AD 2005-22, Instituto Valenciano de Investigaciones Económicas, S.A. (Ivie).

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