September 05, 2015

The concept of economic growth


The concept of growth is one of the most contentious subjects in academics. Left scholars have a different definition of growth, sociologist define it differently, so do environmentalists. Without resorting to cluttering of divergent concepts, I am making an attempt to define economic growth in simple terms. This definition is important for a series of articles I seek to write on geopolitics and national economy.

Economic growth is, simply said, the growth in production. The index used by economists to value economic growth of a nation is the Gross Domestic Product (GDP). Share traders and investment bankers use other indices to determine economic growth. But then again, investment bankers are more concerned about future growth than present growth; hence their tools and equipments are more attuned towards speculation of economic growth in future. Here we will stick to GDP as an index of economic growth. GDP has four components, namely, consumption, investment, government spending, and net exports.
GDP 

See: understanding GDP is not all that difficult. It is a mere formula. Lets say our statisticians find GDP for FY 2013-14 to be a big X. Then they find the GDP for FY 2014-15 to be 1.06X. Then the growth in GDP is 6%. What most readers from a non-economic background do not understand is, what is growth? How does economic growth happen? What is the dynamics behind growth? What is the dynamics behind the figures Economic Times and Financial Express throw around?

Concept behind the jargons

Yes, of course there is a concept behind the figures and jargon. There is always a concept behind these figures and the concept is usually pretty simple. Minus the jargon and figures, economics is quite simple. I present the concept in the following logical sequence:

1. Economic growth is growth in production
2. Production depends on labour and assets such as machines and land
3. Growth in production results from increase in labour force and productivity
4. Increase in labour force depends on demographics (numbers) and education (skills)
5. Productivity depends on capital and technology
6. Hence, the factors on which growth in production depends, or rather the factors of production, are demographics, education, capital, and technology.

Economic growth is as simple as above. Yet, many lawmakers, policy formulators, and bureaucrats go crazy trying to imagine how economic growth happens.

Many ideas and opinions that are aired in newspapers on economy derive from this elementary concept. Few of these are:

  1.  Population growth was perceived as a national liability in the 1970s when India had taken a definitive socialist turn; but now it is being seen as an asset, a demographic dividend. India exports skilled as well as unskilled labour to South-East Asia, Africa, and Middle East, among other regions. Rise in exports increases GDP. Similarly, MNCs are outsourcing their business processes to sweatshops in Bengaluru and Hyderabad. These sweatshops are exporting services. 
  2. Then why was population a liability all this time? Because India was following a socialist economic model whereby the country had insulated itself from foreign trade in goods and services. Demographics is the percentage of population in working age group. India happens to have a healthy ratio of persons in working age group and those not in working age group (senior citizens and kids). Hence, India has ready supply of labour.
  3. China - always in a hurry to grow economically - seems to have not understood this basic concept and has been religiously following a one-child policy since 1978. Its demographics is screwed, and from what it appears, its economy is also screwed. The communist party has, however, hidden the screw-up behind superfast trains, high rises and ghost cities.
  4. Demographics will be counter-productive if labour force does not have enough education and skills. Without education and skills, the labour force could not be gainfully employed. Take the case of Saudi Arabia, for instance. The autocratic rulers did not introduce modern education and training for a long time, owing to which there was acute unemployment even though there was a demand from petrochemical companies for skilled engineers. These jobs then went to expats. Hence, human resource development is crucial to economic growth.
  5. Why is there so much focus on foreign investment? We seem to be pampering investors a lot. We abandon MAT on FIIs, we forgo tax litigation on MNC giants, and brainstorm on creating a suitable 'investor climate'. Why? This is because foreign investment brings in capital. Capital is needed for growth. Whether foreign investment actually brings in capital is a different debate.

PS: Would you call my book, The Legend of Yuck-Man, a contribution to national GDP? Why, of course! I have laboured over it. My publisher has invested its capital and laboured to distribute it.

10 comments:

Abhijeet said...

Great write-up on a simplistic view on growth and its components. I would just like to add that there are mainly two kinds of foreign investment - FDI and portfolio flows. The latter is investment in stocks and other movable assets whereas FDI is more in fixed assets. The fear is when portfolio money is a large part of foreign investment as this 'hot money' flees the market at the first sight of distress.

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