Importance of Growth
Our standard of living today depends on one thing only, by definition: economic growth Rich countries are rich because they grew rapidly over long periods. On the other hand, poor countries are poor because they did not grow rapidly enough. So, why do some countries grow more rapidly than others? Why did Thailand, for example, leave Zambia so far behind in one generation?
Thailand and Zambia started out on a similar position but grew apart. Why? Thailand pursued growth – friendly policies, stressing liberal trade, stability, private enterprise and education. Argentina and Sweden also went hand in hand between 1900 and 1930 and then grew apart. This was because whereas Sweden pursued free trade, liberal democracy, income equality, and avoided high inflation, Argentina did not.
What makes countries grow
Output is produced by labor, capital, and other inputs. Output per capita can grow by accumulation of capital through saving and investment. It can also grow through improvements in labor and investment in human capital, education and health care. Education and health care matter because they increase labor productivity. Technological progress enables firms to squeeze more output from given inputs as does increased efficiency!
Efficiency, Liberalization, Stabilization and privatization
In sum, output per capita depends on the quantity and quality of inputs. Quantity of inputs can be increased through accumulation, especially capital accumulation. Quality of inputs can be increased through increased efficiency that results from education and health; liberalization; stabilization; privatization; and proper institutions. Education lifts labor productivity, thereby increasing overall economic efficiency and growth of output, from unskilled to skilled labor. Good public health, reflected in longevity, is also conducive to increased labor productivity and economic growth. Whereas liberalization increases efficiency in resource allocation, liberalization of trade increases efficiency in division of labour.
Exports are not a good indicator of openness because size matters. One has to look at import duties as well. Higher duties hurt growth. Economic theory is clear, from Adam Smith (1776), that external as well as internal trade is good for growth. Good external governance is good for growth but autarky spells disaster, always and everywhere. Stabilization increases efficiency by reducing product distortions, uncertainty, inflation tax, and overvaluation. High inflation is a sure sign of lax fiscal and monetary policies, thus sound policies support rapid growth. Sound financial institutions, including independent central banks, also support rapid growth. Privatization replaces political motives by profit motive in business. Private enterprises are usually more efficient than state owned enterprises.
Where do we stand?
Growth differentials across countries can be traced to several different interconnected factors such as private initiatives (for example, investment) and public policies in education, health care, liberalization and privatization. This is not all. We have to consider institutions and geography, for they also determine growth. Looking at institutions: do they harbor corruption? Do they reflect inequality and liberal democracy? On geography- are countries dependent on primary production such as agriculture and mining? Are they dependent on natural resources? Manufacturing is an important source of technological innovation, progress and economic growth. Agriculture and mining are low – skill labor intensive and offer few spillover benefits to other industries. Natural resources are a mixed blessing if not well managed.
Corruption is perceived in two perspectives. One view states that it greases wheels of production and exchange thus helping growth whereas another holds that corruption breeds inefficiency and hurts growth. Data collected in 88 countries between 1960 and 2000 revealed that increased corruption leads to less growth economically. Good business governance is therefore good for growth. The argument can be extended to other aspects, such as secure property rights and effective bankruptcy laws. Whereas some people hold that inequality sharpens incentives and thus helps growth, others see it as a danger to social cohesion thus hurting growth. Data collected in 117 countries between 1960 and 2000 demonstrated that the more the inequality, the lesser countries experienced growth.
Some schools of thought state that political oppression restrains special interest groups consequently helping growth but others believe political oppression breeds inefficiency and hurts growth. A survey done in 117 countries, between 1960 and 2000 revealed that the more political oppression thrives in a country, the less likelihood its economy will grow. There are also two views on democracy. One holds that democracy plays into the hands of special interest groups thereby hurting growth. The other perceives democracy as a facilitatator of change of government hence helping growth. A survey done in 143 countries showed that there is great growth in democratic institutions.
Economic growth is available to all who make the effort to achieve it. High – quality growth requires accumulation of capital as well economic efficiency through good governance: judicious policy undertakings and sound institutions in education, health care, free trade, stable prices, private enterprise, honesty, equality, liberty, democracy and not too much dependence on agriculture and natural resources.
By Thorvaldur Gylfason
University of Iceland
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