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Investment and Growth
The simplicity of the Harrod–Domar model of growth, which is at the heart of most planning and growth models that exist today, has enabled a significant widening of the range of participants in debates surrounding the needs and prospects of growth in developing countries. Three of the more obvious oversimplifications of the Harrod–Domar model are identified and discussed, and reasonably simple correctives are provided which can be applied even by laypersons to alter their initial assessments and arrive at more realistic and technically justifiable conclusions.
An earlier version of this article appeared as a Planning Commission Working Paper with the title: “A Note on Growth Projections for Capital-Constrained Economies.”
There are many good reasons for which most of the planning models that exist today are based on the Harrod–Domar model.1 For most developing economies, which are usually capital-constrained, the supply-side issue of creating adequate productive capacity is of dominating concern. The Harrod–Domar model encapsulates this concern admirably and provides a powerful analytic tool to assess future prospects and the requirements for growth. Over the years, there have been many extensions and refinements of this model, but
none have captured the imagination in quite the same way as the original. The Harrod–Domar model today has gone beyond the toolkit of the professional economist and has entered the domain of popular discourse.
The essence of the Harrod–Domar model lies in a simple and yet powerful formulation, which links growth to the rate of capital accumulation or investment:2
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