Consider the Solow model economy that begin with a capital stock equals to 300 billion and suppose its steady state level of capital is 500 billion. To its pleasant surprise, the economy receives a generous gift of foreign aid in the form of 100 billion worth of capital.
(a) Use Solow model to show what happen to economy immediately and over the long term. using the model equation determine by what preparation consumption initially rises and what happens to consumption in long run.
(b) Suppose instead of starting below its steady state, the economy begins in the steady state, with capital stock equals to 500 billion. Repeat the analysis for part (A) for this analysis.