Why Do Growth Rates Matter?

Why should anyone care about growth rates?

Growth rates matter because an economy Opens in new window that grows too slowly fails to raise living standards.

In some countries in Africa and Asia very little economic growth has occurred in the past 50 years, so many people remain in severe poverty.

In the poorest countries, millions of children die each year from diseases that could be avoided by having access to clean water or cured by using medicines that cost only a few dollars.

Although their problems are less dramatic, countries that experience slow growth have also missed an opportunity to improve the lives of their citizens.

For example, the failure of Argentina to grow as rapidly as the other countries that had similar levels of GDP per capita in 1950 has left many of its people in poverty.

Life expectancy Opens in new window in Argentina is several years lower than in Australia and other high-income countries, and almost three times as many babies in Argentina die before the age of one.

The Rich Get Richer and …

We can divide the world’s economies into groups:
  • The high-income countries, sometimes also referred to as the industrialized countries, and
  • Poorer countries or developing countries.

The high-income countries include the countries of Western Europe, Australia, Canada, Japan, New Zealand and the United States. The developing countries include most of the countries of Asia, Africa and Latin America.

In the 1980s and 1990s a small group of countries, mostly East Asian countries such as the Republic of Korea (South Korea), Malaysia, Taiwan and Singapore, experienced high rates of growth and were sometimes referred to as the newly industrializing countries.

Of these, Hong Kong, Singapore, South Korea and Taiwan are now classified as high-income countries. Among those currently classified as newly industrializing countries are Mexico, Brazil, China, India, Malaysia, Thailand and the Philippines.

Figure I shows the levels of GDP per capita around the world in 2010.
World Map of GDP per Capita Figure I, World Map of GDP per Capita | Source: Internet

GDP is measured in US dollars, corrected for differences between countries in the cost of living.

In 2010 GDP per capita ranged from a high of over US$82 600 in Luxembourg to a low of US$300 in the African countries of Burundi and the Democratic Republic of the Congo.

To understand why the gap between rich and poor countries exists we need to look at what causes economies to grow Opens in new window.

Is Income All that Matters?

The more income you have, the more goods and services you can buy.

When people are surviving on very low incomes of $2 per day or less, their ability to buy even minimal amounts of food, clothing and housing is limited.

So, most economists argue that unless the incomes of the very poor increase significantly, they will be unable to attain a higher standard of living.

In some countries—primarily those colored yellow in Figure I—the growth in average income has been very slow, or even negative, over a period of decades.

Many economists and policy-makers have concluded that the standard of living in these countries has been largely unchanged for many years.

Recently, however, some economists have argued that if we look beyond income to other measures of the standard of living, we can see that even the poorest countries have made significant progress in recent decades.

For example, Charles Kenny, an economist with the World Bank, argues that ‘those countries with the lowest quality of life are making the fastest progress in improving it—across a range of measures including health, education, and civil and political liberties.’

For example, between 1960 and 2010, deaths among children declined, often by more than 50 percent, in nearly all countries, including most of those with the lowest incomes.

Even in sub-Saharan Africa, where growth in incomes has been very slow, the percentage of children dying before age five has decreased by more than 30 percent over the past 50 years.

Similarly, the percentage of people able to read and write has more than doubled in sub-Saharan Africa since 1970. Many more people now live in democracies where basic civil rights are respected than at any other time in world history.

Although some countries, such as Somalia, the Democratic Republic of the Congo and Afghanistan, have suffered from civil wars, political instability has also decreased in many countries in recent years, which has reduced the likelihood of dying from violence.

What explains these improvements in health, education, democracy and political stability?

Economist William Easterly has found that although at any given time, countries that have a higher income also have a higher standard of living, over time increases in income within a particular country typically have very little effect on the country’s standard of living in terms of health, education, individual rights, political stability and similar factors.

Kenny’s argument and Easterly’s finding are connected: some increases in living standards do not require significant increases in income.

The key factors in raising living standards in low-income countries have been increases in technology and knowledge—such as the development of inexpensive vaccines that reduce epidemics or the use of mosquito-resistant netting that reduces the prevalence of malaria—that are inexpensive enough to be widely available.

Changes in attitudes, such as placing a greater value on education, particularly for girls, or increasing support for political freedoms, have also played a role in improving conditions in low-income countries.

There are limits, of course, to how much living standards can increase if incomes stagnate.

Ultimately, much higher rates of economic growth Opens in new window will be necessary for low-income countries to close the gap in living standards significantly with high-income countries.