Module V·Article II·~3 min read
Endogenous Growth and the Role of Innovation
Economic Growth
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Endogenous growth theories: technologies as the engine of the economy
Endogenous growth theories, developed since the 1980s, answer a key question left open by the Solow model: where does technological progress come from? In endogenous growth models, technology is the result of purposeful investment in R&D and human capital, which has important implications for economic policy and investment strategies.
Critique of exogenous growth
The Solow model treats technological progress as “manna from heaven”—an exogenous factor not explained by the model. This is unsatisfactory for several reasons. Technology is the result of human activity, investment in R&D, education, and the infrastructure of knowledge. Understanding the sources of technological progress is necessary for developing policies that stimulate growth. Furthermore, the Solow model predicts that policy (the savings rate, taxes) affects only the income level and not the long-term rate of growth. This limits the possibilities for economic policy aimed at accelerating growth.
Romer’s model: R&D and ideas
Paul Romer, in his 1990 model, proposed to endogenize technological progress through the R&D sector. Ideas (technologies, knowledge) possess special properties: they are nonrivalrous (use of an idea by one agent does not hinder others) and partially excludable (patents provide temporary monopoly). The nonrivalry of ideas creates increasing returns to scale: an idea, once created, can be used infinitely without additional costs. This fundamentally distinguishes ideas from physical goods. Investments in R&D are directed at creating new ideas. Firms invest in research in hopes of gaining temporary monopoly profits from patents and intellectual property. The more resources are directed into R&D, the faster new technologies are created and the higher the rate of economic growth.
AK models: capital in a broad sense
The simplest endogenous growth models—AK models—eliminate diminishing returns to capital by broadening its definition. Capital includes not only physical capital, but also human capital, knowledge, organizational capital. The production function $Y = AK$ has constant returns to broadly understood capital. In AK models, the savings rate affects not only the level but also the growth rate. Higher investment in broadly defined capital leads to a sustainably higher growth rate. This provides justification for policies that stimulate investment, education, and R&D.
Human capital
Human capital—knowledge, skills, and health of workers—plays a central role in endogenous growth theories. Investments in education and healthcare increase labor productivity and the economy’s ability to absorb and create new technologies. Accumulation of human capital creates positive externalities: educated workers increase the productivity of colleagues, disseminate knowledge, and create innovations. This justifies government support for education.
Application for investors
Endogenous growth theories emphasize the importance of innovation and human capital for long-term growth. Countries and companies with high investment in R&D, education, and intellectual property have structural advantages. Sectors related to the creation and commercialization of knowledge—technology, pharmaceuticals, biotech—are at the heart of the endogenous growth process and may demonstrate leading income growth. Venture investing and private equity in innovative companies are directly linked to the process of endogenous growth. Investors finance R&D and receive a share in the created intellectual property.
Country analysis should consider not only the current level of development, but also investment in factors of endogenous growth: quality of education (PISA ratings), R&D expenditures (share of GDP), quality of intellectual property protection institutions.
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