Macroeconomics For Dummies®, uk edition Published by: John Wiley & Sons, Ltd

Paul Samuelson (1915–2009)

Paul Samuelson was one of the great economists of the twentieth century. He stressed the importance of modelling economic phenomena mathematically and completely changed the way economists look at the world.

Samuelson introduced two key principles:

Constrained optimisation: Individuals choose the best option they can from all the options available. Although sounding rather obvious, this idea means that economists can model consumers as individuals who try to maximise their utility (their welfare) subject to their budget constraint (the things they can afford). Similarly, firms can be modelled as maximising their profits subject to their technology constraint (how well they can turn inputs into output).


Equilibrium: The idea that most of the time economic systems should be ‘at rest’; that is, with no tendency for things to change. This simple but powerful idea is used throughout economics: for example, in the AD–AS model (see Chapter 9) economists assume that the price level and output adjust to ensure that aggregate demand equals aggregate supply.


Robert Solow (born 1924)

Bob Solow has done fundamental work on economic growth. In 1956, he wrote a paper that made clear the relationship between a country’s living standards, its capital stock and its technology. This model became known as

the neoclassical growth model, and it’s still the most widely used model to explain why some countries are rich and others are poor.

Solow found that two things can explain average living standards in a country:

Capital stock per person: Basically, the more capital each person has to work with, the higher her marginal product of labour: that is, the more stuff she can produce when working. Factors of production are paid their marginal product (see Chapter 18), so more capital per person means higher wages!


Technology: How good the country is at converting labour and capital into output.


The Solow model has a number of important implications:


A country can grow by capital accumulation: That is, accruing more

capital over time through investment.

Growing using capital accumulation alone is difficult: At some point the economy reaches a ‘steady state’ where the total amount of investment (new capital goods) is just enough to cover the depreciation of existing capital.


Technological progress is necessary to explain long-run economic