Fundamentals of economic growth

Economists may not agree on much – the joke that if you ask five economists a question you’ll get six answers is an exaggeration, but has some basis in truth – but there’s real agreement on the basic elements of economic growth. The problem lies in getting economists and policy-makers to agree on how to put them into practice.

Many countries have attempted to implement growth plans in the decades since WWII, with varying degrees of success. Most have managed to implement some of the needed reforms and many have had moderate success.  Some have had initial successes, but then proceeded to squander their newfound wealth.  A handful, particularly in Asia, have succeeded rather spectacularly.  The precise causes of these “economic miracles,” and what might be needed to keep them going, is a hot topic for debate amongst academics, but a few general factors have become clearly evident in the growth of these and other economies.

Different people have different ways of summarizing these preconditions for growth, of course, although some of this is simply a matter of emphasis.  The International Monetary Fund, for example, puts more emphasis on credit markets, trade, finance, infrastructure, and government spending, while the WHO and lately the World Bank put more emphasis on health, education, and other human resources.  Some experts break down the requirements into more detail – treating health, education, and productivity separately, for example – while others compress the list into 5 or 6 more general requirements.  I have attempted to condense the essentials into a list of moderate size:

  1. Peace, stability, and social order over extended periods
  2. Private property, clear land title, and independent corporations
  3. Free markets, with open and vigorous trade with other nations
  4. A stable currency and banking system, with widespread access to credit
  5. A healthy, well-educated, productive workforce
  6. A safe, healthy environment (clean air & water and wholesome food)
  7. Extensive, well-maintained infrastructure
  8. Effective and efficient government
  9. The rule of law, based on honest and competent courts and police
  10. Comparatively high levels of public trust and cooperation

This is, in many ways, the American formula for economic success, although we drew most of it from European roots.  As the twentieth century developed, and particularly in the aftermath of WWII, many other countries studied examples of successful growth, especially the US, and attempted to implement this model to one degree or another, although various nations have emphasized some items from this list more than others.

Different models of economic development competed vigorously during the immediate post-war period.  By the 1970s, it was clear that the socialist model, based on centrally managed economies, controlled markets, government ownership of industry, and massive infrastructure investment, had failed to produce competitive rates of growth, though it did in some cases lay the groundwork for later development.

While there are many superficial differences between the different nations that have experienced large amounts of growth over the last half-century, the factors that allow them to succeed – that propel them to succeed, almost – are very similar.  Free trade, fair and efficient regulation of markets, good infrastructure, and high levels of human capital are absolutely vital to a growing economy.  The more subtle influence of social capital – trust, honesty, cooperation, clean government, and judicial integrity – is also a prominent factor in some nations’ growth (or lack of it), but it can be much more difficult to engineer on purpose than bridges or universities.

One of the surprises of the last seventy years is that the important part of getting growth going is, truly, fixing the problems that are preventing it.  When the fundamentals are in place, economies don’t have to be pushed to grow or forced to grow.  In the modern world, with businesses actively seeking new markets and new international opportunities, growth isn’t something you have to somehow create.  You just have to remove whatever is preventing it from happening.

This is why some economies seem to explode when relatively modest reforms sweep away the last few obstacles to growth:  the preconditions were all there, but something – runaway inflation, a hostile regulatory environment, a tradition of political instability and corruption, a lack of transportation or banking facilities – was preventing them from coalescing into the growth state that we’ve seen in many nations over the past few decades.  If the longer-term problems, like infrastructure and education, have already been solved, solving the last major problem – e.g., by allowing free markets – can be like suddenly letting off the brakes on a revved-up dragster.


Next page:  Stages of economic growth

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