New Growth Theory, Technology and Learning: A Practitioner's Guide

New Growth Theory emphasizes that economic growth results from the increasing returns associated with new knowledge.  Knowledge has different properties than other economic goods (being non-rival, and partly excludable).  The ability to grow the economy by increasing knowledge rather than labor or capital creates opportunities for nearly boundless growth.  Markets fail to produce enough knowledge because innovators cannot capture all of the gains associated with creating new knowledge.  And because knowledge can be infinitely reused at zero marginal cost, firms who use knowledge in production can earn quasi-monopoly profits.  All forms of knowledge, from big science to better ways to sew a shirt exhibit these properties and contribute to growth.  Economies with widespread increasing returns are unlikely to develop along a unique equilibrium path.  Development may be a process of creative destruction, with a succession of monopolistically competitive technologies and firms.  Markets alone may not converge on a single most efficient solution, and technological and regional development will tend to exhibit path dependence. 

History, institutions and geography all shape the development of knowledge-based economies.  History matters because increasing returns generate positive feedbacks that tend to cause economies to “lock in” to particular technologies and locations.  Development is in part chaotic because small events at critical times can have persistent, long term impacts on patterns of economic activity.  Institutions matter because they shape the environment for the production and employment of new knowledge.  Societies that generate and tolerate new ideas, and that continuously adapt to changing economic and technological circumstances are a precondition to sustained economic growth.  Geography matters because knowledge doesn’t move frictionlessly among economic actors.  Important parts of knowledge are tacit, and embedded in the routines of individuals and organizations in different places.

New Growth Theory, and the increasing returns associated with knowledge have many implications for economic development policy.  New Growth Theory underscores the importance of investing in new knowledge creation to sustain growth.  Policy makers will need to pay careful attention to all of the factors that provide incentives for knowledge creation (research and development, the education system, entrepreneurship and the tolerance for diversity, macroeconomic expectations, openness to trade).  Because it undermines the notion of a single, optimal general equilibrium, New Growth Theory implies that economics will be less capable of predicting future outcomes.