Economic Growth and the Returns to Investment

The paper derives a relationship between the rate of economic growth and variables representing the rate and allocative efficiency of investment. Allocative efficiency is measured by the social rate of return to investment. The paper departs from the methods followed in a number of growth accounting studies over the past 30 years, in which investment's contribution to economic growth was estimated to be small. It attempts to show instead that when efficiently applied to the task of raising output, investment accounts for most of a country's growth and, conversely, when inefficiently applied, accounts for most of a country's economic decline or failure to grow. Much emphasis is placed on the product of the rate of investment and the social rate of return to investment. However, these are not the only variables emphasized, since the rates and choices of investments have appreciable effects on the ways labor is deployed and redeployed in an economy, and thus on the growth of labor productivity and real wages, on the returns to labor so to speak. Lastly, the paper is concerned not only with the rate of and returns to investment in and of itself, but of the policies which bear on these variables.