Money and Economic Growth Increasing Returns- to Scale

This paper investigates the effects of inflation on the equilibrium growth in the cash-in-advance model when a social technology can display increasing returns-to-scale in capital and labor. In the analysis, we first consider the economy where there exists a constant steady state equilibrium. To the extent that a social technology displays decreasing returns-to-scale in capital, inflation has a negative effect on the steady-state capital stock, labor input, and output. However, when a social technology displays increasing returns-to scale in capital, inflation increases the steady-state capital stock and output, although it decreases the steady-state labor input. In the second part of this paper, we examine the economy where per capita output grows endogenously. When a social technology displays decreasing returns-to-scale in labor, inflation has a negative effect on a unique balanced growth. However, when a social technology displays some significant increasing returns-to-scale in labor, the ecoonmy can have two balanced growth paths with a high and low growth rates. In particular, if the economy is on the balanced growth paths with a low growth rate, inflation increases the growth rate of capital stock and the level of labor input.