Economic Theory

Solow Economic Growth Model

Extension Human Capital

Human Capital
What

Is Human Capital?
A measure of theeconomic valueof an employee's skill set.
The concept of human capital recognizes that not all labour
is equal and that the quality of employees can be improved
byinvestingin them. The education, experience and
abilities of an employee have an economic value for
.employers
and
for
the
economy
as
a
whole

Human Capital
The definition of human capital varies in the
literature, but the majority put stress on the
economic returns in the form of higher
earnings and economic growth.
However, human capital investment
delivers many other non-economic benefits,
which are viewed by many as being as
important
if not more
important
than, the
the
OECD as,
proposed
a broad
definition
of
economic
benefits.
human
capital
as the knowledge, skills,
competencies and attributes embodied in
individuals that facilitate the creation of
personal, social and economic well-being
(OECD, 2001).

Human Capital

Liu and Fraumeni, 2015

Human Capital

Indicator
Share of national
income devoted to
education and
training.

Average spending
per student, by
educational level,
relative to income
per capita.

Spending on public
labour market
problems.

Spending by
enterprises on
training.

Family computer
ownership.

What it shows
Usefulness and limitations
Public and private expenditure on Estimates overall resources devoted
formal programmes, as a
to investment. Excludes informal
percentage of GDP.
learning. Imperfectly compares
national effort relative to need:
countries with higher youth
populations need to spend more.
Average annual expenditure on a Shows how much effort is devoted
student at primary, secondary
to each student, relative to each
and tertiary education, as a
countrys means. Takes no account
percentage of GDP per capita.
of variations in investment due to
participation rates outside
compulsory schooling.
Expenditure as a percentage of
Shows direct expenditure by
GDP, classified by type of
governments to improve workplace
participant.
skills. Excludes some employment
service spending relevant to human
capital that is not strictly on
training.
Expenditures as percentages of
Gives a rough indication of the scale
total labour costs.
of spending by firms. But much
private human resource investment
is hidden.
Percentage of households with Gives one indicator of a familybased
personal computers.
resource that aids human capital
investment.

Human Capital

Indicator
What it shows
Employee
Percentage who report having
participation
in undertaken training in specified
jobrelated training.
periods.

Participation by
different groups in
job-related and other
education and
training.
Average duration of
job-related training.

Time spent in
learning.

School enrolment
rates.

Breakdowns by economic status,

age, gender, educational
attainment.

Usefulness and limitations

Gives a rough idea of the proportion
involved in some kind of training, but
does not distinguish length or quality.
Data from different
sources are not always comparable.
Detailed comparisons for a limited
number of countries.

Annual hours of training

Qualifies indicator (f) by showing
undertaken- (i) per person with any quantity of investment rather than just
training (ii) average for all
the percentage of employees making
employees.
some investment.
Time spent in training of various Also useful would be contextual
sorts (eg field, type, and delivery information on who pays, reason for
mechanism).
participating, satisfaction with the
learning event, working arrangements,
childcare facilities and general
obstacles to learning. noted by
Eurostat (2001, 23).
Analogous to participation in
Some researchers assume that
training.
enrolment in school is proportional to
rate of human capital accumulation. As
discussed in

Human Capital
Why

Human Capital
labour hours supplied by different individuals
do not contain the same efficiency units.
Gregory Mankiw, David Romer and David Weil
(1992) tested Solow model with empirical data.
They show that it performed well, but they
suggested that it would fit the data even better
if they modify the model to include HUMAN
CAPITAL included.
With Human Capital the model can explain the
cross country income differences in a better
way.

Human Capital
Assume that the economy produces one good,
output (Y ). It is produced according to:
.. (1)

Where , [0, 1], + [0, 1], and t

denotes time.
Physical capital and human capital are assumed
to be
accumulating
factors;
i.e.,
the
representative agent saves output to have
more capital (either physical or human).
We have two types of Capital:
1- Physical Capital
2- Human Capital
We assume that Human Capital have the
characteristics of Physical Capital therefore:

Human Capital
Investment equal to the share of saving in
GDP (I=S)

The change () in physical capital and

human capital is equal to the difference
between Investment in physical capital and
human capital and the depreciation in both
of them

Population and Technology growth in

constant rates

Human Capital
By dividing Yt, Kt, Ht by Effective labour (AtLt)
we get the output (Yt), physical capital (kt),
and human capital (Ht) per effective labour.
This is also called the intensive form.
The intensive form of the Cobb- Douglas

(2)

Human Capital
In intensive form, the production function and
equations of motion for physical and human
capital become:

.*

.. (3)

Investing in physical capital have a positive

effect on physical capital but population growth
rate and depreciation have a negative impact.

Human Capital
In intensive form, the production function and
equations of motion for physical and human
capital become:
.**

.. (4)

Investing in physical capital have a positive

effect on Human capital but population and
depreciation have a negative impact.

Human Capital
The Steady Stat situation occurs when economic
growth=0, the amount of investment is equal to loss
.. (5)
.. (6)

Plugging (2) into (5)

we get

.. (2)

.. (7)

Human Capital
Plugging (2) into (6) we
get
Plugging (7) into (8) we
get

.. (8)

Human Capital

.. (9)

Human Capital
Plugging (9) into (7) we
get

.. (7)

.. (10)

Human Capital
Plugging (9) and (10) into (2) we
get
.. (2)

.. (11)

The standard Solow model results can be recovered

from the above system by imposing the restriction that
= 0. In the standard Solow model, the steady-state
level of output per effective worker is:

Human Capital
Output per effective
labour

Human capital per effective labour

Output per effective

labour

An increase in the stock

Human
capital
per
effective labour enable the
economy to produce more
output per effective labour
and some of this out put
will be invested in physical
capital . As a result of
investment
in
human
An
increase
in the
of
capital
leads
to stock
rise in
physical
output capital (per unit of
effective labour) enable the
economy to produce more
output (per unit of effective
labour) at every level of
human capital (per unit of
effective labour)

Output per effective

labour

Output per effective

labour
k

Physical capital per effective labour

Human Capital
physical capital per unit
of
effective
labour
increases over time and
investment
in
new
physical capital per unit
of
effective
labour
exceeds
the
replacement
physical capital per unit
requirement
of
effective
labour
decreases over time and
investment
in
new
physical capital per unit
of effective labour falls
short of the replacement
requirement

physical capital per unit of

effective
labour
is
constant over time and
investment
in
new
physical capital per unit of
effective labour equals
the
replacement
requirement

Human Capital
Human capital per unit
of
effective
labour
increases over time and
investment
in
new
physical capital per unit
of
effective
labour
exceeds
the
replacement
requirement
Human capital per unit
of
effective
labour
decreases over time and
investment
in
new
physical capital per unit
of effective labour falls
short of the replacement
requirement

Human capital per unit of

effective
labour
is
constant over time and
investment
in
new
physical capital per unit of
effective labour equals
the
replacement
requirement

Human Capital
At steady state where:
physical capital per unit
of effective labour is
constant over time
human capital per unit of
effective
labour
is
constant over time
Regardless of the economys initial levels of:
1. physical capital per unit of effective labour and
2. human capital per unit of effective labour
it will converge to a steady state level of output per unit
of effective labour which is determined by:
3. its physical capital saving rate, sK
4. its human capital saving rate, sH
5. its labour force growth rate, n
6. its rate of technological progress, g
7. the rate at which its physical and human capital
depreciates

Human Capital
If the economys labour force growth
rate increased, then the economy
would converge to a lower steady
state level of output per unit of
effective labour.
Because increasing labour force will
reduce the physical capital and
human capital.

Human Capital
What is the relationship
between physical / human
capital?

E
E

Suppose the economy is initially in

steady state as illustrated by the
intersection point E between the two
curves
suppose
then
that
the
investment rate in Human capital
increases permanently while the other
parameters remain the same. This
implies that the curve of human capital
per effective labour will shift upwards,
in this case, the whole economy will rise
and the old steady state E will increase
gradually until reaching the new E.
What happens is that the increased sh in
the very beginning implies more
accumulation of human capital (but not
the physical capital), but as soon as the
increased stock of human capital begins
to generate increase in output, more
physical
capital
will
also
be
accumulated.
We can explain the impact of increasing
investment in the physical capital on a
fixed amount of human capital by the
same logic.

Human Capital
Empirical Results: case of Jordan
The annual data used in this study is for the years between 1990 and 2014.
Data compiled from the statistics of World Bank, UNESCO as in their official
websites is used in this study. Besides, for some years, statistics from the
official websites in Jordan have been used as a data source.
The dependent variable (LGDPLt) is obtained from multiplying GDP per capita
and labour force/population. And after multiplication the log is taken. And
(LIGDP) stood for the average rate of real GDP investment after taking the log.
And (LND) is the log of depreciation and labour force growth rate. Where
(LPTR) stood for the log of Pupil/teacher ratios.

Human Capital
Empirical Results: case of Jordan
The resulting co integrating equation from the Johansen Co integrating Test could be
written as:
LGDPLT= 15.10408+ 0.089LIGDP +0.067LPTR -0.176LND (15)
s.e

0.036

0.021

0.079

Where the standard errors are reported between brackets. The co-integrating
equation produces the long - term relationship among the variables and shows that
all the explanatory variables, have positive effect on the dependent variable except
LND, and they are significant. The main point in this study is the effect of human
capital on economic growth in Jordan. As the above equation shows, the
contribution of human capital on the output is significant. This result is compatible
with the results of many studies mentioned in the section devoted to the economic
literature and previous studies.