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Obsolescence

  • Gylfason, Thorvaldur
  • Zoega, Gylfi

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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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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  1. Olivier J. Blanchard, 1984. "Debt, Deficits and Finite Horizons," NBER Working Papers 1389, National Bureau of Economic Research, Inc.
  2. Paul M Romer, 1999. "Increasing Returns and Long-Run Growth," Levine's Working Paper Archive 2232, David K. Levine.
  3. Gernot Doppelhofer & Ronald I. Miller & Xavier Sala-i-Martin, 2000. "Determinants of Long-Term Growth: A Bayesian Averaging of Classical Estimates (Bace) Approach," OECD Economics Department Working Papers 266, OECD Publishing.
  4. Thorvaldur Gylfason & Gylfi Zoega, 2002. "Natural Resources And Economic Growth: The Role Of Investment," Working Papers Central Bank of Chile 142, Central Bank of Chile.
  5. 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.
  6. World Bank, 2000. "World Development Indicators 2000," World Bank Publications, The World Bank, number 13828.
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