Why is Economic Growth Important?
Why is Economic Growth Important?
Popular and scholarly writing commonly takes economic growth as an unquestioned and essential good. The absence of growth is at the core of the definition of recession, regarded as an undesirable economic state.
The importance of growth to capitalism is an area of historical and ongoing research into growth theory, leading to the question of whether growth is an essential part of capitalism (a growth imperative).
This essay summarizes some of the arguments for and against the the importance of growth to capitalism, as well as the broader environmental implications of growth.
Improved Standards of Living
Growth means more material goods, which means a high or higher standard of living for a growing population, which is assumed to be good:
...mankind is solving its economic problem. I would predict that the standard of life in progressive countries one hundred years hence will be between four and eight times as high as it is to-day. There would be nothing surprising in this even in the light of our present knowledge. It would not be foolish to contemplate the possibility of afar greater progress still. (Keynes, 1930)
The competitive structure of capitalism forces individual capitalists to grow, or someone else will do it in their place:
...the development of capitalist production makes it constantly necessary to keep increasing the amount of the capital laid out in a given industrial undertaking, and competition makes the immanent laws of capitalist production to be felt by each individual capitalist, as external coercive laws. It compels him to keep constantly extending his capital, in order to preserve it, but extend it he cannot, except by means of progressive accumulation. (Marx, 1867)
Profit Feeds Back Into Growth
Profit is a fundamental element of capitalist production. Profit is constantly returned to investment to seek more profit, so growth is needed to find a place for that investment:
The quantity of global goods and services traded through the market... has grown at an average rate of around 2.25 per cent since 1750 or so (Maddison, 2007)... This fits with the conventional wisdom that a growth rate of three per cent is the minimum acceptable level at which a "healthy" capitalism can operate... Anything less that three percent is problematic, while zero or negative growth defines a crisis which, if prolonged, as in the 1930s, defines a depression. So the problem for capital is to find a path to a minimum compound three percent growth forever (Harvey, 2010).
Capitalism Has Always Grown
Growth has been an essential part of capitalism since its advent:
...real life has never known a self-sufficient capitalist society under the exclusive domination of the capitalist mode of production (Luxemburg, 1968, 348).
Money in a capitalist system is loaned or invested with the expectation that it will earn interest or a return. That interest/return comes from growth (Post Keynesian perspective):
(The) fundamental problem with the debt method of creating money is that, because interest has to be paid on almost all of it, the economy must grow continuously if it is not to collapse (Douthwaite 2006; Jackson and Victor, 2015).
Effective Demand is the actual demand for products in an economy that consumers can afford to pay (as opposed to notional demand, which includes latent demand that consumers cannot afford to satisfy). Because production normally exceeds effective demand, growth tomorrow is needed to consume yesterday's production:
The total wage bill is insufficient (to pay for the products of increased production) and has in any case been falling in relation to GDP over the last thirty years. Capitalist consumption, no matter how conspicuous, cannot do it either. The answer is that the money spent on the expansion of investment tomorrow forms the effective demand to mop up the expanded product created yesterday. Tomorrow’s growth creates the effective demand for yesterday’s expanded product. The effective demand problem today is thereby converted into a problem of finding profitable new investment opportunities tomorrow. This explains why compound growth is so essential to the perpetuation of capitalism. (Harvey, 2010).
The Productivity Trap
Economic growth is needed to find new jobs for people who lose their old jobs due to increased productivity (technology, improved management, offshoring, etc.). If people can't earn, they can't buy, and the economic system collapses:
...the desire of entrepreneurs to maximise profits will lead to the pursuit of labour productivity gains in production. Unless the economy grows over time, aggregate labour demand will fall, leading to a `productivity trap' in which higher and higher levels of unemployment can only be offset by continued economic growth. (Jackson and Victor 2011, 2015)
Investment Cannot Be Funded By Savings
Industrial production is dependent on capital investment (to build factories, buy equipment, finance research, etc). Capital investment made from savings would reduce consumption and eliminate profit, so banks have to effectively create money which is paid back in growth. This argument is made by Keynes (1933) and Schumpeter (1934).
Whenever saving increases, it reduces consumption by the same amount. Therefore, if investment is financed by additional saving, the increase in demand by investment spending is offset by a corresponding decrease in consumption spending. Under these circumstances, the economy cannot expand in nominal terms (Binswanger, 2009)
Banks have to place some of their profits in low-risk assets as a buffer against failures in high-risk investments. Growth compensates for failed investments:
If banks distribute all their profits (the difference between interest received and interest paid out) to households, then the `positive threshold level' for growth can fall to zero. This condition is ruled out in Binswanger's analysis, however, by the demands of `capital adequacy' the need to ensure a certain buffer against risky assets on the balance sheet of commercial banks. This requirement, underlined by many in the wake of the financial crisis (BIS 2011), leads banks to seek to place a certain proportion of their profits in less risky assets, withdrawing money from circulation and reducing the flow of funds available for households or firms to service their debts (Binswager, 2009; Jackson and Victor, 2015).
Could Capitalism Survive in the Absence of Growth?
Because of the historical association between resource consumption (and associated environmental degredation) and economic growth, environmental concerns have motivated exploration of a possible steady-state economy (Daly 1995) with both high standards of living but no growth in detrimental resource consumption.
There is a conventional economic distiction between extensive and intensive growth (The Economist, 2013).:
- Extensive growth comes from adding more resources, capital, and/or labor (more with more)
- Intensive growth comes from more efficient use of existing resources, capital and/or labor (more with the same). Intensive growth is usually associated with improvements in technology.
Robin Hahnel (2012) notes a similar distinction between material and financial growth:
- Material growth, or throughput, involves a quantitative increase in the flow of physical materials through the economic system, which is what environmentalists are primarily concerned with
- Financial growth, usually measured in dollars as gross domestic product, which represents the qualitative value of goods and services produced by an economy. While infinite material growth on a finite planet is impossible, financial growth in terms of dollars (and possibly in terms of innovative intensive growth) has no clear physical limits
Noah Smith (2013) suggests that the end of growth wouldn't be the end of capitalism:
- Even as growth has slowed since the 1970s, capitalism has become more, not less, embedded in a globalized economy
- Rapid growth is historically associated with instability from an upset social order
- Debt is a way to smooth consumption over time. Zero-grwoth periods in the Ming Dyasty and Ottoman Empire didn't stop borrowing and lending
- Capital gains from stocks could be replaced with dividends
Modeling has produced a more mixed set of conclusions:
- Jackson and Victor (2015) used a systems dynamics model to conclude that "neither credit creation nor the charging of interest on debt create a `growth imperative' in and of themselves," and "that it is possible to move from a growth path towards a stationary state without either crashing the economy or dismantling the system."
- Binswanger (2009) notes that in the classical Solow (1956) model of growth, the exogenous growth rates of population and technological progress determine the growth rate in the steady state, and if these growth rates become zero, the growth rate of the economy becomes zero as well, indicating that a zero-growth capitalist economy is possible.
- Myron J. Gordon and Jeffrey S. Rosenthal (2003) used a simulation to conclude that, "A capitalist firm operating in a competitive market is subject to a growth imperative, because uncertainty about the profit rate under a no-growth policy makes the firm's prospects highly unattractive in finite time and bankruptcy practically certain in the long run
- Binswanger (2009) concurs with Gordon and Rosenthal that positive growth rates are necessary in the long run in order to enable firms to make profits in the aggregate. If the growth rate falls below a certain positive threshold level, the zero profit growth rate, firms, in the aggregate, will incur losses. Under these circumstances, they will go out of business, which moves the whole economy into a downward spiral. Therefore...capitalist economies can either grow (at a sufficiently high rate) or shrink, if the growth rate falls below a positive threshold level. A zero growth economy is not feasible in the long run
2013 article from The Economist, Has the ideas machine broken down?.
Tim Jackson and Peter A. Victor's 2015 working paper for the Economic and Social Research Council, Credit creation and the `growth imperative': A quasi-stationary economy with debt-based money
Reeves Johnson's 2015 article in the Journal of Post Keynesian Economics , Capitalism’s growth imperative: an examination of Binswanger and Gilányi
Robin Hahnel's 2012 article in Review of Radical Political Economics, The Growth Imperative: Beyond Assuming Conclusions.
J. K. Gibson-Graham's 1996 book, The End of Capitalism (as We Knew It): A Feminist Critique of Political Economy
Myron J. Gordon and Jeffrey S. Rosenthal's 2003 article in the Cambridge Journal of Economics, Capitalism's growth imperative.
Mathias Binswanger's 2009 article in Journal of Post Keynesian Economics, Is there a growth imperative in capitalist economies? a circular flow perspective
David Harvey's 2010 article The Enigma of Capital and the Crisis this Time
2014 article from The Economist, Thomas Piketty’s “Capital”, summarised in four paragraphs.
Noah Smith's 2013 article in The Atlantic, The End of Growth Wouldn't Be the End of Capitalism
Timothy Shenk's 2014 article in The Nation, Apostles of Growth.
Rob Hopkins 2011 blog post, Can we manage without growth? An interview with Peter Victor
Adam Booth's 2013 article for the International Marxist Tendency, Technology, innovation, growth, and capitalism.