Demand-Led Growth and Accommodating Supply

Abstract

We model demand-led growth with endogenous adjustment of labor supply and productivity to accommodate the demand-led path, reconciling Harrod’s warranted rate of demand growth with supply. The model delivers a range of growth paths and unemployment rates rather than a single “natural rate.” Theoretically, the steady-state growth path may be dynamically stable or unstable, but a detailed empirical calibration favors stability. We show analytically that if demand dynamics are stable, supply will converge to demand. While a minimum unemployment rate ultimately imposes a supply constraint on growth, empirical results show that a wide range of steady-state growth rates are feasible across different demand regimes. The results explain how economies can become trapped with low growth due to weak demand or fiscal austerity and suggest policy responses to stagnant demand