Prospects for Future Economic Growth

Tyler Cowen refers to some of my work in his NYT piece on dimming prospects for high growth in emerging market economies. Coincidentally, the brand new Global Citizen Foundation has just published my more substantial paper on this topic, titled “The Past, Present, and Future of Economic Growth.”

There is a lot in this paper, but the bit that I think is really new is the distinction between two different growth drivers, which I call the “fundamentals” and “structural transformation” channels.  Not great descriptors, but bear with me for a while to see what I am getting at.

By fundamentals, I am referring to the development of fundamental capabilities in the form of human capital and institutions. Long-term growth ultimately depends on the accumulation of these capabilities—everything from education and health to improved regulatory frameworks and better governance.

By structural transformation, I have in mind the birth and expansion of new (higher-productivity) industries and the transfer of labor from traditional or lower-productivity activities to modern ones. With the exception of natural-resource bonanzas, extraordinarily high growth rates are almost always the result of rapid structural transformation, industrialization in particular.

Fundamental capabilities are multidimensional, have high set-up costs, and exhibit complementarities. Therefore, investment in them tend to yield paltry growth payoffs until a sufficiently broad range of capabilities has already been accumulated—that is, until relatively late in the development process. Growth based on the accumulation of fundamental capabilities is a slow, drawn-out affair.

Growth miracles, on the other hand, are enabled by the fact that industrialization can take place in the presence of a low level of fundamental capabilities: poor economies can experience structural transformation even when skills are low and institutions weak. This process helps explains the rapid take-off of East Asian countries in the postwar period, from Taiwan in the late 1950s to China in the late 1970s.  My pessimism about the future prospects for high growth derives from the suspicion that rapid industrialization will be much less feasible in decades ahead, for reasons having to do with technology, changing nature of global markets, and demand patterns.

The policies needed to accumulate fundamental capabilities and those required to foster structural change naturally overlap, but they are distinct. The first types of policies entail a much broader range of investments in skills, education, administrative capacity, and governance; the second can take the form of narrower, targeted remedies. Without some semblance of macroeconomic stability and property rights protection, new industries cannot emerge. But a country does not need to attain Sweden’s level of institutional quality in order to be able to compete with Swedish producers on world markets in many manufactures.

Furthermore, as I discuss in the paper, fostering new industries often requires second-best, unconventional policies that are in tension with fundamentals. When successful, heterodox policies work precisely because they compensate for weakness in those fundamentals.

Here is a 2×2 matrix that summarizes growth patterns according to the strength of these two dynamics.

I leave it as an exercise for readers to figure out which parts of the world (and when) fit in what box. Or else you can read the paper.

This piece is cross-posted from Dani Rodrik’s Weblog with permission.