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What makes an economy grow?

The contributions of production factors

What makes an economy grow? At its most basic level, the production of goods and services requires people, machinery, tools, buildings, and know-how. To provide a simple context, we’ll use the growth accounting framework to track the contributions of those factors to the growth of GDP. The graph above does this for the United States, although the picture would be similar for almost any country.

  • The full area shown in the graph is the growth rate of GDP.
  • The blue area is the contribution of increased capital to the growth of output. Capital here means machinery, tools, computers, and structures in which production of goods and services takes place. It is the growth rate of capital multiplied by 0.38, because about 38% of production occurs because of capital.
  • The red area is the contribution of labor in the production process. Here, we add the growth rates of the number of people working and the average hours they work—in other words, the growth rate of the total hours worked in the economy—and multiply that by 0.62, the complement to the 0.38 from capital.
  • The green area is the “magic sauce” that’s not strictly labor or capital: It’s the know-how, the technical innovation, organization, externalities (pollution, for example), and complementarities (public goods, for example, that reinforce each other).

We can see some fluctuations, most notably with labor, but overall all three factors contribute roughly equally to the growth of GDP. It’s no secret that growing an economy requires more investment, people, and innovation and some solid means of organization.

How this graph was created: All the data in the graph are from the Penn World tables. Search for “capital” and click on the U.S. series. From the “Edit Graph” tab, choose “Percent change from previous year” as the units and apply formula a*.38. Then from the “Add Line” option, search for “persons engaged United States.” Select the numbers series. In the “Customize Data” section, search again and take the hours series, then apply formula (a+b)*.62. For the last line, search for “real GDP at constant national prices United States” (this should ensure you find the PWT series) and add the series to the graph. Then, in the “Customize Data” section, add successively the capital, number, and hours series from above. Apply equation a-b*.38-(c+d)*.62. Open the “Format” tab, select graph type “Area” with stacking. Reorder the series to make sure GDP is on top. Change the sample to start in 1952 to avoid the odd data point for capital.

Suggested by Christian Zimmermann.


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