How do economies grow

The strategy may eventually yield the same results that it did in South Korea and Taiwan. In spite of a poor rating for economic freedom, China has had one of the fastest growing economies of the past 20 years. According to the Index, governments should simply make sure that the money supply expands with the growth of output—any inflationary spending undermines the efforts of private enterprise.

As a result, its exports became even more attractive and its imports all the more beyond the reach of its citizens. The Index argues that Great Britain gained economic supremacy in the nineteenth century when it established its free-trade regime.

But its rise took place mainly in the previous century, when, in competition with France and the Netherlands, it relied on a protectionist policy of trade promotion and on forced mobilization of resources. Great Britain dismantled its trade regime after it became the undisputed economic, financial, and industrial leader of the world, not before. Under its new, freer policies, it began its relative economic decline and was slow to take advantage of the newer industries based on chemical and electrical engineering.

For all its freedoms, it has performed below average for industrial countries for more than a century—and especially since World War II—as its incomes have fallen below those in most of the rest of Western Europe. It is true that Great Britain began its initial rise to supremacy by freeing up its internal market, a step it took while other sizable countries were divided into regions with their own trade barriers.

The United States followed the same pattern during its ascendance: it combined a free domestic market with sizable tariff barriers until after World War II. Indeed, all the leading industrial powers developed as protectionist regimes in the nineteenth century, whereas countries such as India and Portugal, following free trade regimes, found themselves stripped of industry.

As these examples show, different economic freedoms have different weight in promoting growth, and depending on the context, some may well hinder it. For managers seeking opportunities in foreign markets, it would be advisable to rely on a more sophisticated analysis of growth potential than the framework presented in the Index. The theory accepts the need for countries to accumulate capital. For new theorists as well as old, that requirement means people need to save and invest.

Does more freedom promote more saving? It turns out that countries with high savings rates have all relied on one or more forms of forced saving. China allows no private ownership of land, home mortgages do not exist, and there is little consumer credit, so citizens with modest incomes must save in order to accumulate the bricks and timbers to build a home—they have no alternative.

Much the same has been true for Japan, South Korea, Singapore, and Taiwan, all of which have been among the top savers relative to their incomes. Countries such as Singapore, Malaysia, and, more recently, Chile have supplemented such broad controls with out-and-out forced saving schemes through payroll deduction.

Australia, the United Kingdom, and the United States, with their free-credit markets, have among the lowest rates of capital accumulation in the world.

Freedom may certainly promote saving if citizens believe they will prosper from investing in enterprises, but credit controls can promote growth in appropriate circumstances. Australia has just begun to remedy its low savings rate with a phased-in program of forced saving. That is not to say that we should rely on any government to move a country along to prosperity—the boondoggles of foreign aid surely make that clear. One reason China is growing so fast now is that it started from a very low base of economic production.

Eight centuries ago, China probably had the wealthiest and most advanced economy in the world. Power-hungry emperors and bureaucrats, however, suppressed freedoms and failed to protect property rights, pushing the economy into a long period of stagnation. If individual companies can use their internal powers of coercion to invest in products with potential for large future returns, why should we be so quick to dismiss similar efforts at the national level?

In addition to the blind spots in its economic-growth analysis, the Index of Economic Freedom takes a narrow view of prosperity—one that seems inconsistent with democratic government beyond the short term.

But is it really that simple? As incomes have risen over the course of the twentieth century, citizens in nearly all the industrial countries have shifted their public priorities from economic growth to economic security. The bulk of the increases in government spending in rich countries has gone for programs such as insurance for health, unemployment, work-related accidents, and retirement.

These same programs lie behind the rise in taxes relative to national output. While the rich countries dismantled the protective systems at their borders, they erected new offsetting protective systems within.

Many of the various schemes for enhancing economic security began modestly and have been expanded beyond the intent of the original sponsors. Some of these schemes have been flawed since their inception because they included incentives for abuse.

GDP does not only include the housing services by owner-occupied housing, but also the provision of most goods and services that are provided by the government or nonprofit institutions. Many discussions about economic growth are extraordinarily confused. People often talk past one another. I believe the reason for this is that the discussion of what economic growth is , gets muddled up with how it is measured.

While it is straightforward enough to define what growth is, measuring growth is very, very difficult. In the worst cases measures of growth are mixed up with a definition of growth. Growth is often measured as an increase in income or inflation-adjusted GDP per capita.

But these measures are not the definition of it — just like life expectancy is a measure of population health, but is certainly not the definition of population health. To see how difficult it is to measure growth, take a moment to think about how you would measure it. How would you determine whether the quantity and quality of all economic goods and services produced by a society increased or decreased over time?

Finding a measure means that you have to find a way to express a huge amount of relevant information in a single metric. As the sketch shows, you have to first measure the quantity and quality of all the many, many goods and services that get produced and then find a way to aggregate all of these measurements into one summarizing metric. No matter what measure you propose for such a difficult task, there will always be problems and shortcomings of any proposal you might make.

In the following section I will show four possible ways of measuring growth and present some data for each of them to see how they can inform us about the history of material living conditions.

One possible way to measure growth is to make a list of some specific products that people want and to see what share of the population has access to them. We do this very often at Our World in Data. The chart here shows the share of the world population that has access to four basic resources. All of these statistics measure some particular aspect of economic growth.

You will find that judged by this metric some countries achieved rapid growth — like Indonesia — while others only saw very little growth, like Chad.

The advantage of measuring growth in this way is that it is concrete. The downside is that it only captures a small part of economic growth. There are many other goods and services that people want in addition to water, electricity, sanitation and cooking technology. You could of course expand this approach of measuring growth to many more goods and services, but this is usually not done for both practical and ethical considerations.

One practical reason is that a list of all the products that people value would be extremely long. In practice any attempt to measure growth as access to particular products therefore means that you look only at a relatively small number of very particular goods and services that statisticians or economists are interested in.

This is problematic for ethical reasons. It should not be up to the statisticians or economists to determine which few products should be considered valuable. You might have realized this problem already when you read my list at the beginning of this text.

You might have disagreed with the things that I put on that list and thought that some other goods and services are missing. On our site you find many more such metrics of growth that capture whether people have access to particular goods and services:. We have to look at the ratio between income and prices. The chart here does this for one particular product — books — and brings us back to the history of growth in the publishing sector that we started with.

It shows how long the average worker had to work to buy one book. Note that this data is plotted on a logarithmic axis. Before the invention of the printing press in the 15th century the price was often as high as several months of work. The fact that books were unaffordable for almost everyone should not be surprising.

The chart also shows how this changed when the printing press increased the productivity of publishing. As the labor required to produce a book declined from many months of work to less than a day, the price fell from months of wages to mere hours. This shows us how an innovation in technology raises productivity and how an increase in production makes it more affordable. How it increases the options that people have. In the previous section we measured growth as the ratio between income and the price for one particular good.

But of course we could do the same for all the many goods and services that people want. A means to many ends in fact. It is because a person has more choices as their income grows that economists care so much about these monetary measures of prosperity. They are shown in this chart.

Both measures show that global inequality is very large. An income of int. If you are living in a rich country and you want to have a sense for what it means to live in a poor country — where incomes are times lower — you can imagine that the prices for everything around you suddenly increase fold.

If you ask yourself how these price increases would change your daily consumption and your day-to-day life, you can get a sense for what it means to live in a poor country.

Income as a measure of economic prosperity is much more abstract than the metrics we looked at previously. The comparison of incomes of people around the world in this scatterplot measures options not choices. It shows us that the economic options for billions of people are very low. Economic growth, as we said before, describes an increase in the production of the quantity and quality of the economic goods and services that a society produces.

This means that the average income corresponds to the level of average production so that the average income in a society increases when the production of goods and services increases. The chart shows the income of people around the world over time, as reported in household surveys. Many of the poorest people in the world rely on subsistence farming and do not have a monetary income. To take this into account and make a fair comparison of their living standards, the statisticians that produce these figures estimate the monetary value of their home production and add it to their income.

Again, the prices of goods and services are taken into account: these measure real incomes. As explained before, incomes are adjusted for price differences between countries and they are also adjusted for inflation. Global economic growth can be seen in this chart as an increasing share of the population living on higher incomes.

In the following 17 years this share fell by 22 percentage points. In and — during the economic recession that followed the pandemic — the size of the world economy declined and the share of people in poverty increased.

As soon as global data for this period is available we will update this chart, but for now only preliminary estimates are available. The data shows that global poverty has declined, no matter what poverty line you choose. It also shows that the majority of the world still lives on very low incomes. Most people in the world do not have access to them. An advantage of household survey data over GDP per capita is that it captures the inequality of incomes within a country.

GDP per capita is a broader measure of real income and in contrast to survey income, it also takes government expenditures into account. A lot of thinking has gone into the construction of this very prominent metric so that it is comparable not only over time, but also across countries. Another advantage of this measure is that historians have reconstructed estimates of GDP per capita that go back many centuries.

This historical research is an extremely laborious task and researchers have dedicated many years of work to these reconstructions. The chart shows how average incomes in different world regions changed over the last two centuries. Looking at the latest data you see again the very large inequality between different parts of the world today. You now also see the history of how we got here: small increases in production in some world regions and very large increases in those regions where people have the highest incomes today.

When people feel prosperous, they reward political leaders by re-electing them. The government stimulates growth with expansive fiscal policy. It either spends more, cuts taxes, or both. Since politicians want to get re-elected, they use expansive fiscal policy to stimulate the economy. But expansive fiscal policy is addictive. If the government keeps spending more and taxing less, it leads to deficit spending. It works for a while but eventually leads to higher debt levels.

Foreign investors stop investing funds in a country with a high debt ratio. They worry they won't get repaid or that the money will be worth less. Governments should then be careful with expansive fiscal policy and should only use it when the economy is in contraction or recession. When the economy is growing, its leaders should cut back spending and raise taxes. This conservative fiscal policy ensures that economic growth will remain sustainable. A nation's central bank can also spur growth with monetary policy.

It can increase the money supply by lower interest rates. Banks make loans for auto, school, and homes less expensive. They also reduce credit card interest rates.

All of these boost consumer spending and economic growth. Congressional Research Service. American Institute for Economic Research. Nominal GDP. The World Bank. World Economic Forum.

Riane Eisler. Accessed June 30, University of Minnesota Libraries. Federal Reserve Bank of St. Economics and Statistics Administration. Economy: Industries in Focus ," Page 7. It Depends. Actively scan device characteristics for identification. Use precise geolocation data. Select personalised content. Create a personalised content profile. Measure ad performance. Select basic ads.

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