Endogenous growth theory

From Academic Kids

In economics, endogenous growth theory or new growth theory was developed in the 1980s as a response to criticism of the neo-classical growth model.

In neoclassical growth models, the long-run rate of growth is exogenously determined. In other words, it is determined outside of the model, generally by an assumed rate of technological progress and an assumed rate of labor force growth. This does not explain the origin of growth, which makes the neo-classical model appear very unrealistic. Endogenous growth theorists see this as an over-simplification.

Endogenous growth theory tries to overcome this shortcoming by endogenizing the rate of technological progress. Several competing models have been developed by various authors. Endogenous growth theories usually rely on virtuous cycles. Crucial importance is usually given to the "production" of new technologies and human capital. Firms and individuals have an incentive to invent in order to exploit an advantage over their competitors, thereby improving their own productivity. Some of the knowledge associated with the innovation "spills over" to other economic actors, which increases those actors' ability to innovate. The virtuous cycle arises through this mechanism.

In contrast to the older neoclassical growth theory, endogenous growth theory argues that policy measures can have an impact on the long-run growth rate of an economy, even if they do not change the aggregate savings rate. Subsidies on research and development or education increase the growth rate in some endogenous growth theory models by increasing the incentive to innovate.

Scottish Labour Party politician Gordon Brown once referred to post neo-classical endogenous growth theory in a speech. This was widely commented on humourously as his special adviser Ed Balls showing off.

Critics

One of the main failings of this (group of) theories is the collective failure to explain non-convergence. That is, to explain why some countries are still much richer than others. It is widely feltTemplate:Ref that new growth theory has proven no more successful than exogenous growth theory in explaining the income divergence between the developing and developed worlds (despite usually being more complex).

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Notes

Template:Note See for instance, Professor Stephen Parente's 2001 review, The Failure of Endogenous Growth (Online (https://netfiles.uiuc.edu/parente/The%20Failure%20of%20Endogenous%20Growth.pdf) at the University of Illinois). (Published in Knowledge Technology & Policy (http://www.moted.org/kt&p/recent.htm?) Volume XIII, Number 4.)Template:Econ-stub

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