Ghimire Binod

1. INTRODUCTION:

1.1 Static and Dynamic economics

The concept of static and Dynamic economics were first used by August Comet in social sciences. Prof. J.S. Mill used the concepts in economics. The first clear scientific distinction between the two terms was made by Ranger Frisch in 1928. The two concepts came to be distinguished in the mid 20^th century. The terms static and dynamic have been imported in to economics from theoretical mechanics without any analogy to it. The concept of statics of static and dynamics occupy an important place in methodology of economics. Economics law and economic phenomena are studied under two types of conditions. They are static or constant condition and dynamic or changing conditions. The static conditions of study are called the static economic analysis or static economics. The changing conditions of study are termed as dynamic economic analysis or dynamic economics. Distinction between static and dynamic was pointed out mainly by Ranger Frisch, Clark Tinbergen, Hicks, Harrod, Samuelson and Schumpeter.

2. STATIC ECONOMIC:

The word ‘statics’ is derived from the Greek word “statike” which means bringing to a standstill. In Physics, it means a state of rest where there is no movement. The word static has been taken from the physical science. In economics, it implies a state characterized by movement at a particular level without any change. It is a state, according to Cark, where five kinds of changes are conspicuous by their absence. The size of the population, the supply of capital, method of production, and forms of business organization and wants of the people remain constant, but the economy continues to work at steady pace. “It is to this active but unchanging process”. Writes Marshall, “that the expression static economic should be applied.” Static economy is thus a time-less economy where no changes occur and it is necessarily in equilibrium. Indices are adjusted instantaneity: current demand, output and prices of goods and services. As pointed out by Samuelson: “Economic static concerns itself with the simultaneous and instantaneous or timeless determination of economics variables by mutually interdependent relations.” There is neither past nor future in the static state. Hence, there is no element of uncertainty in it. Kuznets, therefore, believes that “static economics deals with relations and processes on the assumption of uniformity and persistence of either the absolute or relative economic quantities involved.”

In addition, such assumption as the existence of perfect competition, perfect knowledge, perfect foresight and perfect mobility are considered essential for the working of a static analysis. Joan Robinson’s Imperfect Competition and Chamberlin’s Monopolistic Competition are exercise in economic statics.Static economic points to a situation of complete rest. It does not point to a position of complete rest or no movement. But this movement is continuous, certain, regular and constant. Static economic does not deals with unexpected changes. It studies only the expected economics activities. There are no windfall changes or fluctuation in economic activities. According to Prof. Harrod, “An economy in which rates of output are constant is called static.

Economic activities are repeated in different time periods in a static economy. No changes in economic activities occur. The study of national income is called a static analysis because the rate of increase in national income is the same. In other words, it does not involve change over time. According to J.R. Hicks, “Economic static covers that part of economic theory where we do not trouble about dating.” Prof. Schumpeter defined static analysis as “a method of dealing with economic phenomena that tries to establish relation between elements of economic system, price and quantities of commodities all of which refer to the same point of time.” In this way, from Schumpeter’s definition we come to know that static analysis refers to economic phenomena of the same period. So time factor has no role to play in static analysis. This type of economic analysis refers to a stable equilibrium. According to the Prof. Stigler “The stationary state is an economy in which the tastes, resources and technology do not change through time”. Static economic analysis is also known as timeless economy. The pricing of commodities is an important example of static economy. Here we suppose that the price is determined by the forces of demand and supply which belong to the same time period. Price, demand and supply refers to the same time period. The determinants of demand and supply are supposed to be constant in static economics. Under perfect competition, price is determined by the forces of demand and supply. This analysis of pricing is related to the economic static.

The meaning of economic static can be more explained with the help of figure which relates to supply and demand for a commodity.

Fig: Economic static:equilibrium price.

In the figure above market demand curve and the market supply curve is drawn. The point where the quantity demanded and supplied is equal is the point of equilibrium. The price OP is determined by the interaction of the forces of demand and supply. Here demand supply and price refers to the same time period. And this timeless economic analysis is called the static economic analysis.

Prof. Clark has pointed out the features of a static economy. They are:

· No change in the population and its compositions.

· No change in the quantity of capital

· No change in the techniques of production

· No change in the working and organization of industrial units

· No change in the habits, tastes and fashions of the people i.e. the want of the people remain the same

2.1 Comparative static economics:

Static economic deals with the explaining the determination of equilibrium values with a given data. Any change in the determinants of equilibrium disturbs the equilibrium position. In other words, when there is change in the factors which establish equilibrium of demands and supply, a new equilibrium position comes in to being. Comparative static economics studies the comparison of the old and new equilibrium position. It does not study the path of change. In comparative static economics, we take only the first equilibrium position and the final one; we can compare them to find out the changes. Instead of examining steps by step the whole process of transition from one stage of equilibrium to another. We take only two “still” pictures and compare them. This method analysis is called the comparative static economic.

According to the Prof. Lipsey, “Comparative static involves the comparison of a new equilibrium position with original equilibrium position due to change in some economic variables.According to Boumal, “Comparative static analysis can be used to show economic equilibrium before and after a change in one or more variables without regard to the time required”.

We can explain the meaning of the comparative static analysis of economic through the figure drawn below: which shows the equilibrium change in the market.

Fig: Comparative static model.

The diagram above shows the determination of equilibrium price through the interaction of the forces of demand and supply a is the point where demand for and supply of the good are equal and the OP1 price is determined. Now due to some reason or other, demand for the commodity increases. That is why the D1 demand curve shifts to demand D2. The new demand curve intersects the supply curve SS on point b1. Here the equilibrium price is determined at the level b as OP2. In comparative static economic the old and the new equilibrium positions are compared. In the figure we can compare the prices and the quantities at a and b point of equilibrium i.e. a has been reached. In other words, comparative static economics does not show the path of change from one equilibrium position to the other.

2.2 Scope and Importance of economic static:

Static economic occupy an important role in economics. According to the Prof. Harrod,” statics will remain an important part of the whole economics”. Economic statics possess both theoretical and practical importance. We can explain the importance and scope of static economic as under:

a. It is a simple and easy method of economic analysis:

it is easier to understand and economical in thought.

b. As a teacher:

According to Zuethen, economic static possess an introductory pedagogic value. By assuming certain variables to be given and constant, it makes economic problem easy to comprehend. Economic static provides an imaginary model of the economic phenomena in a state of rest which helps the student in understanding the behavior of price in an economy. In the static state, demand and supply are always in equilibrium.

c. For investigation

The traditional economist assumed static conditions for purpose of investigation. They studied the activities of individual firms, industries and consumers for the understanding of the social phenomena. And they made it applicable to the real world by giving a little dynamic flavor.

d. Robbins’ definition is also the subject matter of static economics:

Robins defined economics as sciences which studies the human behavior as a relationship between end and scarce means which have alternative uses. This definition is a part of static economics.

e. It is the basis for dynamic analysis: Prof. Hicks has pointed out the static economic occupies an important role because it gives a lot of information for the proper understanding of the dynamic economics. We can understand the path of equilibrium only after studying the conditions of equilibrium.

f. It is the basis for the principle of Free Trade: the principle of free trade which was favored by classical economists like Adam Smith is an integral part of static economic.

g. To study comparative statics

Another advantage of static analysis is that it helps in comparing one position of equilibrium with that of another. This is comparative statics which is based on economic statics.

h. To solve complex problems

Further, economic statics one studies how an individual distributes his limited money income among various commodities in order to obtain maximum satisfaction; how a producer gets maximum profits by combining given productive resources in an optimal manner; how the price of commodities and services are determined, and how is national income distributed. The significance of static analysis lies in solving these complex problems.

i. In economic principles

Besides, a vast field of economic theory enumerated below is based on the study of economic statics. The centre core of the doctrine and principles relating to Robbins definition of economics essentially belongs to economic statics. The case of free trade, the doctrine of international trade, Joan Robinson’s economics of imperfect competition, Chamberlin’s monopolistic competition and Hicks value and capital are all exercises in static analysis that have enriched economic theory.

j. Uncertainty

Since change and roundabout method of production involve uncertainty and once-over change generates more uncertainty than a continuing change, Harrod, “conceives knight’s theory of profit lie within the field of statics”. This is an attempt at solving one of the most bewildering problems of economics with the help of static analysis.

k. Expectations

Expectations generally fall within the purview of economics dynamics. But the effects of a once-over change in expectations are handled by the technique of static economics. Concurring with this view of Roy Harrod, Hicks in his trade cycle regards Keynes’ “General Theory” as essentially static due to the presence of expectations in it.

l. Keynesian Theory

With the exception of the concept of positive saving, all the variables in the Keynesian analysis are static in character. They are involuntary unemployment, liquidity preference, marginal efficiency of capital and the marginal propensity to consume. His use of the principle of multiplier is also static. In explaining all these variables, Keynes shows once-over changes, the use of static analysis.

m. Trade cycles

Harrod believes that a trade cycle is experienced even by static states, when it represents regular and periodic fluctuations. The climatic, psychological and monetary theories of trade cycles before the Second World War were static in nature. Of late, Tinbergen, Kelecki, Frisch, Samuelson and Hicks have developed dynamic theories of the trade cycles by introducing time lags and the principle of acceleration.

Trade cycles refer to regular fluctuations in the level of national income. It is a well-observed economic phenomenon, though it often occurs on a generally upward growth path and has a variable time span, typically of three years. In trade cycles, there are upward swings and then downward swings in business. The periods of business prosperity alternate with periods of adversity. Every boom is followed by a slump, and vice versa. Thus, the trade cycle simply means the whole course of trade or business activity which passes through all phases of prosperity and adversity.

Let us now see how Kaldor explains the stability and instability of the level of economic activity and the course of trade cycle. Kaldor takes first the cases of linear (straight line) saving and investment functions.

http://maeconomics.webs.com/national/trade_cycles_files/trade_4.gif

In the above diagram, linear investment and saving function is shown. The investment curve II is steeper than saving curves SS. The two functions intersect each other at the equilibrium point C, at which the income is determined to be Y₀. But this equilibrium between ex-ante saving and ex-ante investment is unstable, because, if once this equilibrium is disturbed, the economy will move either towards hyper-inflation or towards collapse.

Now consider the following diagram for a stable condition:

http://maeconomics.webs.com/national/trade_cycles_files/trade_5.gif

In the above diagram, the investment curve II is less steeply inclined than the saving curve SS. In this case any disturbance, which sends the economy on either side of the equilibrium level, will not reinforce itself and the economy will tend to come back to its equilibrium level Y₀. But such stability is also not realistic because economic system in the real world shows great instability.

2.3 Limitations of Static economic analysis:

But economic analysis has its weakness. It is away from reality. It assumes certain economic variables like population, tastes, techniques, etc. as a given and constant. It excludes the influence of external forces and is thus related to a closed economy. All this makes static economies and the laws based on it unrealistic.

Further economic statics disregards the influence of time. It is a timeless economy, whereas changes are continuously taking place in this world. Thus, economic static is just a figment of imagination, an intellectual toy with which economic play. Such an analysis can, therefore, provide only a limited treatment for the study of economic problems.

3. ECONOMIC DYNAMICS

The concept of economic dynamic has been derived from physics. It refers a state where there is a change or movement. Tides of the sea, a bird flying in the sky are examples of dynamics. But the word “Dynamic” has a different meaning in economics. We have already noted that there is movement in statics also but this movement is certain, regular and expected. While dynamics refers to the movement which is uncertain, unexpected and irregular. Therefore, an aero plane flying in the sky is in a dynamic state only if its direction, height and speed are uncertain. We know from day to day experience that fluctuations occur in the economy quite often. And it is not possible to make correct predictions about such fluctuations. The concept of economic dynamic nearer to reality. In dynamic economics, we study the economic variables like consumption function; income in a dynamic state.

According to Prof. Harrod, ”Economic dynamic is the study of an economy in which rates of output are changing”. According to the Prof. Hicks,” Economic dynamic refers to the part of economic theory in which all quantities must be dated”.From Prof. Hicks definition we came to know that time element occupies great importance in dynamic economics. Here economic variables are related to different points of time. According to Baumol, “Economic dynamic is the study of economic phenomenon in preceding and succeeding events.” Economic dynamics gives a continuous picture of the economy over a period of time.

Comparative economic statics does show the path of change of the old to new equilibrium. But in dynamic economics we also study the path of change from the movement towards equilibrium. This path of change in price in a market can be explained with the help of the simple diagram given below which relates to price determination over a period of time.

The price-quantity adjustment takes time, as the market forces work. Prof. Clark has pointed out the following features of a dynamic economy.

(i) In a dynamic economy, population grows;

(ii) Quantity of capital grows;

(iii) Modes of production improve;

(iv) Industrial institutions undergo changes. Inefficient organizations are replaced by efficient organizations

(v) Habits of the people, fashions and customs change, as wants of the people increase.

We can conclude by saying that dynamic economics relates to a dynamic economy where uncertainty and expectations play their own part.

Ragnar, Frisch, however, regards economic dynamics not only a study of continuing changes but also of the process of change. According to him, it is a system in which “variables at different points of time are’ involved in an essential way.” Thus, the study ‘of economic dynamic involves the discovery of functional relationships of economic variables at different points of time. The knowledge of such relationships is essential for forecasting. Prediction, thus, becomes the essence of the Frischian definition, according to Baumol. He, therefore, defines economic dynamics as “the study of economic phenomena in relation to preceding and succeeding ‘events.”

Economic dynamics is, thus, concerned – with time-lags, rates of change, and past and expected values of the variables. In a dynamic economy, data change and the economic system take time to adjust it accordingly. For instance, when prices change, it takes time for supply to adjust itself. In addition, certain variables depend upon the rate of change of other variables. How much the demand for a good falls depends upon the rate of rise in its price? Moreover, changes in different variables depend upon their past and expected values. We may conclude the meaning of economic dynamics with Prof Kuznets: “Economic theory which seeks to explain the phenomenon of economic change, the implication of such changes, and to examine the ‘factors at work in bringing a given change and trace the process of that change and’ the consequences of succeeding movements step by step is called economic dynamics.

3.1 Significance of Economic Dynamics
Economic dynamics possesses great significance in theory and practice.

a. It is Realistic

The significance of economic dynamics lies in that it is a reality and not a fiction. It ep1ains the causes and effects of changing economic phenomena and enables us to see a moving picture of the working of an economy —how the economy develops in one period out of the preceding period.

b. Study of Stability of Equilibrium.

Further, it is a study not of equilibrium position but of changing equilibrium. Dynamic analysis studies the behavior of the economic system in disequilibrium and traces the path of the forces that bring a new equilibrium position. Thus the important problem of the stability of equilibrium relates to dynamic analysis.

c. In the Study of the Problems of Classical Economics.

Some of the problem in classical economics also lends themselves to dynamic analysis. The Ricardian Theory of Distribution and the Malthusian Theory of Population are exercises in dynamic theory. Even the Marshallian distinction between short-run and long-run pricing pertains to dynamic analysis.

d. Problems of Economic Growth.

Problems involving time-lags, rates of growth and sequence analysis require the use of dynamic relationships. The importance of dynamic analysis lies in studying the process of economic development whether in the short or the long run. Thus the task of economic dynamics is, in the Words of Professor Lindhal “to explain the connection between Conditions and their corresponding developments”.

e. In Business Cycles.

The study of economic dynamics is imperative for presenting a realistic analysis of secular growth, speculation and cyclical fluctuations, because they all involve the element of time. In particular, it has proved more useful in the field of business cycles. New theoretical dynamic Concepts like the time-lag and the accelerator have been evolved to explain the behavior of business cycles. Dynamic analysis has made it possible to distinguish between exogenous, endogenous and mixed cyclical theories. It has also dispensed with the necessity of having separate theories of “the turning Points” of the trade cycles. In this way, dynamic analysis has enriched our understanding of the cyclical process.

f. In Keynes Theory.

Keynes’ General Theory regarded as a ‘special case of a more general dynamic system’ which is concerned with the determination of total national income through time. The inducements to save and invest are the two determinants of national income which in turn depend on it. Their behavior in relation to national income involves the element of time, and is thus dynamic.

g. In Developing New Techniques of Economic Analysis.

In recent years, the technique of “macro-dynamic” has been developed by certain economists like Frisch, Kalecki, Tinbergen, Robertson, Harrod, Machlup, Lindhal, Samuelson Hicks and others. Macro dynamics is related to rates of change of aggregate variables. Econometric models of national income, trade cycle, and economic growth are being extensively built on macro dynamic analysis. This has tended to make economics scientific.

h. Trade cycles.

Theories of trade cycles have been advocated only through the introduction of dynamic economics. Theories of trade cycles are based on dynamic economics as they refer to the fluctuations of the different time periods.

i. Study of time element.

Time element occupies as important roles in dynamic economics. Economic problems concerning continuous change of economic variables and path of change can be study in dynamic economics.

j. Basis of many economic theories.

Dynamic economics has an important place in economics because many economic theories are based on it. For example, saving and investment theory, theory of interest, effect of time element in price determination, etc .are based on dynamic economics.

k. More flexible approach.

Dynamic analysis is more flexible. Models regarding the possibilities of economic change can be developed in dynamic analysis. That is why it has been found a useful mode of study. Dynamic economics is also useful in solving the problems of economic planning, economic growth and trade cycles.

3.2 Limitation of Dynamic Economics

Despite the fact that economic dynamics is a useful and realistic method for analyzing complex economic problems, it has its weaknesses. Dynamic economic analysis has its shortcomings too. It is difficult to understand. Its main limitations are the following:

a. Complex approach.

Dynamic economic analysis is a complex approach for rhe study of economic variables because it is based on time element. To find solutions of various problems, we have to make use of mathematics and economics which is beyond the understanding of common man.

b. Not fully developed.

Many economic like Samuelson and Harrod, have developed dynamic approach of economic analysis. They have developed their theories through dynamics analysis. But mode of economic analysis has not been fully developed. The reason is that factors affecting economic variables change very soon. Dynamic approach is not developing at the speed at which economic factors change.

c. Intricate Method.

It is a highly delicate and intricate method which needs cautious usage. It has led to lot of controversy among economists in interpreting economic variables used by economic theoreticians. For instance, Knight regards his theory of profit as belonging to the realm of dynamics, whereas Harrod conceives it to lie in the field of statics. Similar differences are to be found in the interpretation of Keynes’ General Theory.

d. Lack of Favorable Conditions.

Northrop has demonstrated the “impossibility of theoretical science of economic dynamics” by pointing out the lack of certain conditions for such a theory in economics. The economic data are simply formal entities whose specific properties cannot be considered for building a theoretical science of economic dynamics. Since human wants do not obey any conservation law. Their future structure cannot be deduced from Present Wants; therefore the search for a theory of economic dynamic may have its basis in a “dogmatic assumption with respect to which our empirical knowledge already gives a lie”. Contrary to Northrop’s view, infinite number of dynamic models has been constructed for the Solution of economic problems during the last few years. But they are devoid of empirical content.

4. DIFFERENCES BETWEEN STATIC AND DYNAMICS ECONOMICS

a. Time element.

In static economic analysis time element has nothing to do. In static economic, all economic variables refer to the same point of time. Static economy is also called a timeless economy. Static economy, according to Hicks, is one where we do not trouble about dating. On the contrary, in dynamic economics, time element occupies an important role. Here all quantities must be dated. Economic variables refer to the different point of time.

b. Process of change

Another difference between static economics and dynamic economics is that static analysis does not show the path of change. It only tells about the conditions of equilibrium. On the contrary, dynamic economic analysis also shows the path of change. Static economics is called a ‘still picture’ whereas the dynamic economics is called a ‘movie’.

c. Equilibrium

Static economics studies only a particular point of equilibrium. But dynamic economics also studies the process by which equilibrium is achieved. As a result, there may be equilibrium or may be disequilibrium. Therefore, static analysis is a study of equilibrium only whereas dynamic analysis studies both equilibrium and disequilibrium.

d. Study of reality

Static analysis is far from reality while dynamic analysis is nearer to reality. Static analysis is based on the unrealistic assumptions of perfect competition, perfect knowledge, etc. Here all the important economic variables like fashions, population, models of production, etc. are assumed to be constant. On the contrary, dynamic analysis takes these economic variables as changeable.

Now we can sum up by saying that static and dynamic approaches of economic analysis are not competitive but complementary of each other. Statics is simpler and easier while dynamics is nearer to reality. It is useful to study some economic problems through the static analysis while others may be studied through the dynamic approach. The beginner student can be easily taught static economic analysis. As the students go advanced courses, they can study dynamic economic analysis.

5. SOME MODELS REGARDING STATIC AND DYNAMIC ECONOMICS:

a. The cobweb model or cobweb theory

The cobweb model or cobweb theory is an economic model that explains why prices might be subject to periodic fluctuations in certain types of markets. It describes cyclical supply and demand in a market where the amount produced must be chosen before prices are observed. Producers' expectations about prices are assumed to be based on observations of previous prices. Nicholas Kaldor analyzed the model in 1934, coining the term 'cobweb theorem'.

The outcomes of the cobweb model are stated above in terms of slopes, but they are more commonly described in terms of elasticities. In terms of slopes, the convergent case requires that the slope of the supply curve be greater than the absolute value of the slope of the demand curve:

$\frac{dP^S}{dQ^S} > \left|\frac{dP^D}{dQ^D}\right|.$

In standard terminology from microeconomics, define the elasticity of supply as $\frac{dQ^S/Q^S}{dP^S/P^S}$ , and

The elasticity of demand as $\frac{dQ^D/Q^D}{dP^D/P^D}$ . If we evaluate these two elasticities at the equilibrium point, that is

P S = P D = P > 0

and

Q S = Q D = Q > 0

, then we see that the convergent case requires

$\frac{dQ^S/Q}{dP^S/P}<\left|\frac{dQ^D/Q}{dP^D/P}\right|,$

Whereas the divergent case requires

$\frac{dQ^S/Q}{dP^S/P}>\left|\frac{dQ^D/Q}{dP^D/P}\right|.$

In words, the convergent case occurs when the demand curve is more elastic than the supply curve, at the equilibrium point. The divergent case occurs when the supply curve is more elastic than the demand curve, at the equilibrium point

http://upload.wikimedia.org/wikipedia/commons/thumb/e/e6/Cobweb_theory_%28convergent%29.svg/220px-Cobweb_theory_%28convergent%29.svg.png

The convergent case: each new outcome is successively closer to the intersection of supply and demand.

The cobweb model is based on a time lag between supply and demand decisions. Agricultural markets are a context where the cobweb model might apply, since there is a lag between planting and harvesting.

http://upload.wikimedia.org/wikipedia/commons/thumb/b/ba/Cobweb_theory_%28divergent%29.svg/220px-Cobweb_theory_%28divergent%29.svg.png

The divergent case: each new outcome is successively further from the intersection of supply and demand.

b. Keynes's income-expenditure model.

The income-expenditure model considers the relationship between these expenditures and current real national income. Aggregate expenditures on investment, I, government, G, and net exports, NX, are typically regarded as autonomous or independent of current income. The exception is aggregate expenditures on consumption. Keynes argues that aggregate consumption expenditures are determined primarily by current real national income. He suggests that aggregate consumption expenditures can be summarized by the equation

Where C denotes autonomous consumption expenditure and Y is the level of current real income, which is equivalent to the value of current real GDP. The marginal propensity to consume ( mpc), which multiplies Y, is the fraction of a change in real income that is currently consumed. In most economies, the mpc is quite high, ranging anywhere from .60 to .95. Note that as the level of Y increases, so too does the level of aggregate consumption.

Total aggregate expenditure, AE, can be written as the equation

where A denotes total autonomous expenditure, or the sum C + I + G + NX. Different levels of autonomous expenditure, A, and real national income, Y, correspond to different levels of aggregate expenditure, AE.

http://media.wiley.com/Lux/64/9664.nfg004.jpg

Figure: The Keynesian income-expenditure approach and aggregate demand and supply

c. Malthusian population growth model

Population growth is frequently considered by means of differential equations, where the growth can be of persons, animal species, or bacteria. Although the increase in population is discontinuous, if the population is very large, then the additions to its size will be very small and so it can be considered as changing continuously. Hence, we assume population size, p, changes continuously overtime and that p(t) is differentiable. The simplest population growth model is to assume that population grows/declines at a constant rate. Thus

dp₁/ dpt=K

This means that the change in the population is proportional to the size of the population

dp/ dt=Kp

Where k is positive for a growth in the population and negative for a decline. The initial condition is that if at time t0 the population is p0 then

p(t0) = p0

Furthermore, for any population of size greater than zero, e.g., p0, then dp/dt is positive and so population will be increasing over time. In other words, the arrows along the phase line indicate a continuously growing population. If, on the other hand, k is negative then equilibrium population size is still zero, but now for any population greater than zero means dp/dt is negative and so population will decrease over time until it is extinguished.

d. A dynamic model of adjustment

Consider a scalar control model where the objective function already incorporates the control variable

Where yt is the output (state) variable, Et is expectation as of time t, r > 1 is the exogenous rate of discount and yt⁰ is the desired target level. The first component of the loss function above is the disequilibrium cost due to deviations from desired target and the second component characterizes the agent’s aversion to output fluctuations.

The first order condition for this optimization problem yields the Euler equation

Where Dyt = yt - yt-1 and Et(×) is the conditional expectation with respect to information available up to t, i.e., Wt.

e. A model of optimal economic growth

We now consider a neoclassical model of optimal growth in a finite horizon case

Where ct is consumption (i.e., the control variable) in capita terms, kt is capital stock per capita and growth of labor (Lt+1 - Lt)/Lt = n is constant. The production function f(kt) is nonlinear and

Concave satisfying the neoclassical assumption of constant returns to scale. The two boundaries

Conditions are k(0) = k0, K(T) = kT.

On assuming a logarithm form for the concave utility function

U(ct) = ln(ct - c0)

Where c0 is a given level of initial consumption, the Euler equation for the optimal trajectory can be easily derived as

(ct - c₀)-1 [1 + fk(kt)] - (1 + n) r(ct-1 - c0)-1 = 0

where fk(kt) = ¶f(kt)/¶kt is the marginal productivity of capital.

6. APPLICATION OF STATIC AND DYNAMIC ECONOMIC IN ECONOMY:

a. Price mechanism:

One of the most important applications of static and dynamic economic is in price mechanism process. The equilibrium price of the market or any commodities is based on the principal and concept of these economic.

b. Government interventions

Government interventions are based on the concept of static and dynamic economics. In order to provide compensation either for producer or consumer or to apply taxation mechanism government adjust the price based on dynamic economic. For a example:

Fig: Subsidy from government Fig: Ceiling price

c. In agriculture

Agricultural prices are subjected to considerable fluctuations. Fluctuating prices cause fluctuating farm income and in some years farm incomes may be very low. In other years consumer will suffer by having to pay very high prices. Make the prediction of future prices very difficult. This may discourage farmers from making long-term investment plans. In these cases dynamic economic plays the most important role. Seasonal and cyclical price variations in agriculture commodities can be understood and explained only with the application of dynamic economics models.

d. Trade cycles

Trade cycles refer to regular fluctuations in the level of national income. It is a well-observed economic phenomenon, though it often occurs on a generally upward growth path and has a variable time span, typically of three years. In trade cycles, there are upward swings and then downward swings in business. Thus the basic assumptions of trade are based on the concept of dynamic economics. Theories of trade cycles have been advocated only through the introduction of dynamic economics.

e. Free trade

Free trade refers to the situation in which goods and services flow from a nation to rest of the world without any governmental intervention like taxes, subsidy, quota etc. An investor is permitted to invest for generating capital assets to any member country without any discrimination. The principle of free trade which was favored by classical economists like Adam Smith is an integral part of static economic.

7. SUMMARY AND CONCLUSION:

Thus static and dynamic economics are the basis of overall economics. These are used in various theories i.e. different theories formulated and given by different economist are based on the principle of static and dynamic economics. Concept of trade cycles, free trade, price mechanisms and regulations are based on dynamic economics. Different models of static and dynamic economics like cob-web model, dynamic adjustment model, model of optimum economic growth, Keynes's income-expenditure model, Malthusian population growth model and overall market demand supply model are all based on the concept of static and dynamic economics.

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