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Journal of Economic Perspectives
8
1
Winter 1994
Pages 55-72
Endogenous Growth Theory: Intellectual Appeal and Empirical Shortcomings
Howard Pack
Following along the path pioneered by Romer (1986) and Lucas (1988), endogenous growth theory has led to a welcome resurgence of interest
in the determinants of long-term growth. But have the recent theoretical
insights succeeded in providing a better guide to explaining actual growth experience than the neoclassical model? This is doubtful. Most empirical research generated by endogenous growth theory has tested earlier growth models, rather than testing endogenous theory itself. Moreover, most of the empirical work has utilized observations across countries and imposed extremely...
tremely strong assumptions about international production functions. Unless there is some demonstration forthcoming that the theory is useful in explaining the growth pattern over time of national economies, it will remain a rich expansion of existing growth theory rather than a powerful organizing framework for thinking about actual growth phenomena.
It can be rather difficult, using aggregate economic data, to distinguish between the traditional neoclassical model of growth theory, and the more recent endogenous growth theory. The standard production function employed in neoclassical growth models is Y = Ae tK Lt-- , where Y is gross domestic product, K is the stock of human and physical capital, L is unskilled labor, A is a constant reRecting the technological starting position of society, and e" represents the exogenous rate at which that technology evolves (Solow, 1956). In this formula, a indicates the percentage increase in gross domestic product resulting from a 1 percent increase in capital. Empirically, a is usually obtained from the share of capital in the national income accounts of individual countries: This assumes' that capital is paid its private marginal product and Howard Pack is Professor of Cily and Regional Planning, Economics, and Public Policy and Management, University ojPemuylvania, Philadelfihia, Pennsylvania.
that it confers no external economies. As long as a is less than 1, this formulation displays diminishing returns to capital and labor.
In such a model, increases in saving, reflected in investment, will spark additional growth for a time. However, as the ratio of capital to labor increases, the marginal product of capital will decline and the economy will then evolve back to a steady...