Long-run growth in this model is driven by the ceaseless accumulation of knowledge capital resulting in an ever greater range of M-varieties. Given preferences, this ceaseless expansion of variety raises real consumption continually. While technology and output in the traditional sector is stagnant, the expansion of M-varieties forces up the price of T relative to that of the composite good CM. The value of the two sectoral outputs thus grows in tandem.

**Stage-One’s Growth and Investment Rates**

By definition, the initial interior solution entails symmetry, i.e.,0E=0K=l/2 and, as long as ф <фса1, this outcome is stable. The steady-state rate of К accumulation during this phase is found using the expression for L, from in, to get:

This common rate of К-accumulation is unaffected by the level of trade costs, ф.

Steady-s...