The Sources of Economic Growth

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Today a tweet came across my iPad screen from Matt Yglesias.  I follow Matt under my economics persona @GonzoEcon.  And I don’t hesitate to recommend him to others interested in current economic events.  But his brief post on Slate about the sources of economic growth bears a little discussion.

With the provocative title, “Nobody Knows Where Economic Growth Comes From” the post is obviously designed to draw attention.  Matt writes, “This element is sometimes called “total factor productivity” and sometimes called “technology,” but it represents a statistical discrepancy, not an inquiry into independently identifiable properties of technological growth.” [minor spelling error corrected from original.]

There’s only one problem with this claim: it’s about 50 years out of date.  Matt is clearly referring to the seminal work by Robert Solow[1] and Ed Denison[2] on the sources of economic growth.  His reference to what Solow and Denison called “the residual” is correct as far as it goes.  But there has been quite a bit of work done since then on growth.

The most recent research was by Paul Romer.[3] He developed “endogenous growth theory” which shows that an important growth-inducing element is human capital.  Since human capital can be transmitted and acquired at relatively low cost in many cases, endogenous growth theory seems to provide a path to development for many countries.

But economic policies alone are not enough.  Robert Hall and Charles Jones studied the effect of social infrastructure on growth.[4]  These ideas are not new, dating at least from Max Weber.[5]  What is new, however, are methodologies for quantifying some of these variables and including them in statistical analysis.

Economists have long emphasized the importance of factors such as the enforcement of property rights (including intellectual property), a uniform and consistent rule of law, lack of corruption, and a host of other variables.  Indeed, the World Bank publishes its Ease of Doing Business statistical table every year.[6]  Hall and Jones focus on a narrow, relatively quantifiable, set of statistics including:

  1. Distance from the equator (a proxy for migration from Western Europe where modern market economic thought was first developed);
  2. Measures of the extent to which Western European languages are spoken as the first language in each country;
  3. Predicted trade share of an economy using the variable constructed by Frankel and David Romer;[7]
  4. Ethnolinguistic fractionalization index (Taylor and Hudson[8]
  5. Religious affiliation (fractions of each country’s population that are Catholic, Muslim, Protestant, and Hindu);

The scatter diagram below shows at least a bit of positive correlation between real GDP per capita and an index of social infrastructure.

Hall and Jones scatter diagram

Hall and Jones scatter diagram

Statistics geeks will appreciate these results:

Hall and Jones Statistics (example)

Hall and Jones Statistics (example)

Economists continue to do research.  The best research tries to relate economic theory to real-world data.  Drs. Hall and Jones are outstanding practitioners of this science.  While their analysis of economic growth still leaves room for additional research, that is the point.  And that’s what keeps me interested in economics.

[1] See, for example, “A Contribution to the Theory of Economic Growth.” Quarterly Journal of Economics, 1956, and “Technical Progress, Capital Formation, and Economic Growth,” American Economic Review, 1962.

[2] Two examples: “Sources of Postwar Growth in Nine Western Countries,” American Economic Review, 1967, and “The Contribution of Capital to Economic Growth,” American Economic Review, 1980.

[3] Luis A. Rivera-Batiz and Paul M. Romer, “Economic Integration and Endogenous Growth.” Quarterly Journal of Economics, May, 1991. Dr. Romer is currently a visiting professor at New York University’s Stern School of Business.

[4] Hall, Robert E. and Charles I. Jones, “Why Do Some Countries Produce So Much More Output Per Worker Than Others?” Quarterly Journal of Economics, February, 1999.

[5] Weber, Max, The Protestant Ethic and the Spirit of Capitalism, 1904-1905.

[6] accessed August 6, 2012.

[7] Frankel, Jeffrey A., and David Romer, ”Trade and Growth: An Empirical Investigation,” NBER Working Paper No. 5476, 1996.

[8] Taylor, Charles L., and Michael C. Hudson, World Handbook of Political and Social Indicators (New Haven: Yale University Press, 1972).

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About Tony Lima

Retired after teaching economics at California State Univ., East Bay (Hayward, CA). Ph.D., economics, Stanford. Also taught MBA finance at the California University of Management and Technology. Occasionally take on a consulting project if it's interesting. Other interests include wine and technology.

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