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Vol. 8, No. 4 • June 2013­­

DALLASFED

Economic
Letter
Technological Progress Is Key
to Improving World Living Standards
by Enrique Martínez-García

Technological
progress appears to
have shifted around
2001, when the
median emerging
economy’s growth
rate accelerated and
surpassed that of
advanced economies.

A

country able to increase the
output of final goods and services faster than its population
grows can improve its citizens’
standard of living. However, the speed with
which such change occurs can vary greatly.
Technological progress is the key to a
country’s long-term increase in its material well-being, the work of Nobel laureate
Robert Solow and economist Trevor Swan
showed in the 1950s. The contribution of
factors of production, such as capital or
labor, is only temporary.1 The Nobel Prizewinning work reshaped our understanding of why countries such as the United
States exhibit sustained labor productivity growth, while others such as Niger
and Zimbabwe become impoverished.
Technological progress also might hold a
key to understanding persistent differences
in the rates of improvement in the standard of living among countries.
Technological progress appears to have
shifted around 2001, when the median
emerging economy’s growth rate accelerated and surpassed that of advanced
economies, data from 120 countries for
1990–2011 indicate. This change was
accompanied by a declining rate of capitaldriven growth in advanced countries as
investment expanded in some emerging
nations. These patterns are not uniform
across emerging countries, since significant technological gaps persist. The net

result: In spite of large gains by many
emerging countries, there was no broadbased catch-up in the standard of living
around the world.

Improving Living Standards
The standard model based on Solow
and Swan’s work shows labor productivity
growing either through factor accumulation—as an economy adds more units of
capital per worker, a process known as
capital deepening—or through technological progress. Technological progress refers
to gains in the efficiency with which the
inputs needed to make goods and services
are used.
The law of diminishing returns to capital, which can be traced back to classical
economists such as David Ricardo (1772–
1823), holds that adding successive units of
capital while keeping the number of workers unchanged results in ever-narrowing
increases in output per worker.
For example, suppose a textile factory
holds its employment steady while adding
a second sewing machine that increases
overall production by 80 percent. A third
machine might further boost total output
by an additional 60 percent. In short, adding more and more machines (capital)
to the factory, using the same number of
workers (labor), increases output less and
less. Output per worker (labor productivity)
increases but at a diminishing rate because

Economic Letter
the workers find it increasingly difficult to
operate all the machines simultaneously
and at full capacity.
Investment becomes less attractive
when the law of diminishing returns to
capital takes hold and capital per worker
rises. The Solow–Swan model tells us
that only technological progress, and
not capital deepening, can sustain the
growth of output per worker over the
long run, offsetting diminishing returns
on capital.

Measuring Productivity
The Conference Board Total Economy
Database allows exploration of productivity
growth internationally and what influences
it. The database contains annual measures
of labor productivity and total factor productivity for most countries from1990 until
2011—the last full year covered in the 2013
database release. The 120 countries analyzed represent 99 percent of global output
(gross domestic product, GDP).2
Real GDP measures the market value of
a country’s aggregate output of goods and
services, correcting for inflation. Real GDP
data are also expressed using purchasingpower-parity exchange rates, which adjust
for differences in relative price levels across
countries, so that valid cross-country com-

Chart

1

parisons can be made. Purchasing-powerparity-adjusted real GDP (what we’ll call
real GDP), however, does not fully account
for unpaid work in the home and other
informal or nonmarket activities, the incidence of which varies across countries.
Labor productivity, or real GDP per
worker, is conventionally used to measure
the material well-being of the average citizen in different countries, because output
growth alone may be insufficient to raise
the living standards of an expanding population. Labor productivity also correlates
well with other welfare indicators, such as
life expectancy and years of schooling.
Technological progress gauges the
efficiency with which the various inputs
are combined and used to produce output. Technological progress is measured
as the total productivity of inputs, or total
factor productivity (TFP). It is obtained by
dividing output (real GDP) by a combination of the labor and capital inputs used to
produce it. The labor and capital inputs are
weighted according to their relative importance in production.3
Using the definitions of labor productivity and TFP, we can derive an expression
showing the relationship between labor
productivity growth and TFP growth. For a
typical advanced economy,

%∆Labor Productivity = %∆TFP +
⅓×%∆ Capital-Labor Ratio,

where the %∆ expression denotes percentage changes/growth rates. The fraction (⅓)
multiplying the percentage change in the
capital-labor ratio is the long-run share of
capital income in national income. (The
particular value of ⅓ used in this illustration is typical of an advanced country such
as the U.S.)
This equation says that labor productivity growth is a combination of TFP
growth (technological progress) and the
weighted contribution of growth in the
capital-labor ratio (capital deepening). For
example, if labor productivity grows by 2
percent and the capital-labor ratio grows
by 3 percent, the growth in TFP equals
2% – ⅓ × 3% = 1%. In the long run, Solow–
Swan show that the contribution of capital
deepening will decline, so long-term
labor productivity growth and rising living
standards can only come from sustained
growth in TFP.

Productivity Catch-Up
If technologies are common and
economic and social institutions (demographics, saving rates, laws, education and
economic policies) are similar, then Solow–
Swan anticipates that living standards in

The Geography of Labor Productivity Gains, 1990–2011

Advanced outperforming the world median
Advanced underperforming the world median
Emerging outperforming the world median
Emerging underperforming the world median
Not in sample
SOURCES: 2013 release of the Conference Board Total Economy Database; author’s calculations.

2

Economic Letter • Federal Reserve Bank of Dallas • June 2013

Economic Letter
emerging countries should eventually
catch up with those of advanced economies. As this occurs, labor productivity
in emerging countries such as China and
India should grow faster than in advanced
countries. This occurs through capital
deepening—high levels of investment
boosting the capital-labor ratio toward
what is found in advanced economies.
Labor productivity differences among
countries may arise because of varying
economic and social institutions. However,
as long as countries share the same technology, the Solow–Swan model says these
differentials won’t persist in the long run
because they result from temporary differences in capital deepening.4
Crucially, Solow–Swan assumes countries have access to and adopt identical
technology to allow achievement of a common TFP growth rate. Historically, this has
not been the case. Technological progress
appears to vary with the level of economic
development—that, in turn, carries implications for long-run labor productivity
growth.
To examine the catch-up phase, average labor productivity growth for each
country from 1990 to 2011 was examined
(Chart 1). Countries that outperformed
the world median are separated from
those that did not. Countries are also distinguished by their level of development,
based on the Conference Board’s classification of advanced (blue) and emerging
(orange) countries.
Labor productivity grew unevenly without broad-based growth convergence. In
some emerging countries (dark orange),
it grew faster than in the typical country,
while in some advanced economies (light
blue) it grew slower. Because evidence of
broad-based catch-up is lacking, the role
of technological progress (TFP growth) in
these labor productivity variations merits
further attention.

and the differences in the measured rate of
technological progress (TFP growth) and
the level of development.5
Median labor productivity growth in
advanced countries averaged around 1.9
percent annually in 1990–2000, declining
to 1.3 percent in 2001–07 and to 0.1 percent
in 2008–11 (Chart 2A). In turn, average
TFP growth hovered around 0.7 percent
annually in 1990–2000 (Chart 2B). It fell
slightly to 0.5 percent in 2001–07, before
going negative (contracting) by an average
–0.6 percent in 2008–11.6 Since TFP growth
held fairly steady between 1990 and 2007,

Chart

2

the decline in median labor productivity
growth over this period is mainly due to a
lower contribution of capital deepening.
The median emerging country attained
0.7 percent average labor productivity
growth in 1990–2000, accelerating to 3.3
percent in 2001–07, surpassing the performance of the median advanced country
(Chart 2A). However, it fell back to 1.9
percent in 2008–11. TFP growth also sped
up from an average of 0.7 percent prior to
2001 to 1.8 percent in 2001–07, before a
small contraction, –0.2 percent, in 2008–11
(Chart 2B). TFP growth before the global

Growth Slows in Advanced Economies,
Picks Up in Emerging Ones Since 2001

A. Labor Productivity Growth
Percent

8
6
4
2
0
–2

Advanced countries median
Advanced countries interquartile range

–4

Emerging countries median
Emerging countries interquartile range

–6

Global recessions

–8
’90 ’91 ’92 ’93 ’94 ’95 ’96 ’97 ’98 ’99 ’00 ’01 ’02 ’03 ’04 ’05 ’06 ’07 ’08 ’09 ’10 ’11

B. Total Factor Productivity Growth
Percent

8
6
4
2
0

TFP Growth Disparities
Two events were particularly noteworthy in the 1990–2011 period—the collapse
of labor productivity in 1990–94 during
the transition from centrally planned
to market-based economies in Eastern
Europe and in the former Soviet Union
and, second, the global financial crisis that
began in 2007. Nonetheless, labor productivity growth partly reflects the evolution of

–2
–4
–6

Advanced countries median
Advanced countries interquartile range
Emerging countries median
Emerging countries interquartile range
Global recessions

–8
’90 ’91 ’92 ’93 ’94 ’95 ’96 ’97 ’98 ’99 ’00 ’01 ’02 ’03 ’04 ’05 ’06 ’07 ’08 ’09 ’10 ’11
NOTE: The plots are based on 30 advanced (blue) and 90 emerging (orange) countries.
SOURCES: 2013 release of the Conference Board Total Economy Database; author’s calculations.

Economic Letter • Federal Reserve Bank of Dallas • June 2013

3

Economic Letter

financial crisis strongly supported the
acceleration in labor productivity for the
median emerging economy, which also
benefited from rising capital deepening.
However, even this strong performance did
not shield emerging economies from the
impact of the 2008 recession.
The overall pattern of dispersion—how
broadly the results are scattered around
the median—has changed little, especially
since the mid-1990s. The distance between
the top and bottom 25 percent of the distribution of emerging countries shows they
are three times more scattered around the
median for labor productivity growth than
advanced countries, and twice as scattered
for TFP growth. The dispersion of labor
productivity growth was 0.9 times that of
TFP growth for advanced countries. For
emerging countries, labor productivity
growth dispersion was significantly higher
at 1.3 times that of TFP growth.
If the robust TFP growth of the typical
emerging country during 2001–07 resumes,
it will speed up the rate of catch-up with
the typical advanced economy. In turn,
if the observed dispersion in TFP growth
rates is the result of persistent technological barriers that prove difficult to
overcome, then living standards in poor
countries with low TFP growth rates will
not converge to those in advanced economies. In these countries, even if the growth
of TFP exceeds the population growth rate
and long-run living standards rise, their
material well-being will still fall behind
relative to that of other developing and
advanced countries with faster TFP growth.

Long-Lasting Effects
Technological progress is the only

DALLASFED

source of sustained labor productivity growth, while capital deepening’s
effects should be temporary, according
to Solow–Swan. If technologies are freely
transferable across borders and if countries operate along a common technological frontier, their rates of TFP growth
should also be comparable and differences in labor productivity growth ought
to result primarily from short-term differences in per-worker capital accumulation
(capital deepening).
The Conference Board’s Total
Economy Database shows a significant
shift in productivity around 2001, evidenced by the slowdown in TFP growth
in the median advanced country and
the acceleration in the median emerging
country. More generally, persistent differences in observed TFP growth across
countries and by level of economic development have contributed to sustained
differences in labor productivity growth.
Although TFP growth differences
cannot explain all of labor productivity
growth differences between 1990 and
2011, the Solow–Swan model suggests
that the prospects for continued increases
in emerging countries’ living standards,
and for convergence over the long term,
crucially depend on what happens to
these TFP growth differentials.
Martínez-García is a senior research
economist at the Federal Reserve Bank of
Dallas.

Notes
The author wishes to thank research assistant Valerie Grossman for her assistance.
1
Robert Solow and Trevor Swan, working independently, are

Economic Letter

is published by the Federal Reserve Bank of Dallas. The
views expressed are those of the authors and should not
be attributed to the Federal Reserve Bank of Dallas or the
Federal Reserve System.
Articles may be reprinted on the condition that the
source is credited and a copy is provided to the Research
Department of the Federal Reserve Bank of Dallas.
Economic Letter is available free of charge by writing
the Public Affairs Department, Federal Reserve Bank of
Dallas, P.O. Box 655906, Dallas, TX 75265-5906; by fax
at 214-922-5268; or by telephone at 214-922-5254. This
publication is available on the Dallas Fed website,
www.dallasfed.org.

credited with being the pioneers of “neoclassical” growth
theory. See “A Contribution to the Theory of Economic
Growth,” by Robert Solow, Quarterly Journal of Economics,
vol. 70, no. 1, 1956, pp. 65–94; “Economic Growth and
Capital Accumulation,” by Trevor Swan, Economic Record,
vol. 32, no. 2, 1956, pp. 334–61.
2
The complete Conference Board Total Economy Database
is accessible online at www.conference-board.org/data/
economydatabase/. The database incorporates the international total factor productivity measures of “Growth Accounting Within the International Comparison Program,” by Dale
W. Jorgenson and Khuong Vu, World Bank International
Comparisons Project Bulletin, vol. 6, no. 1, 2009, pp. 3–19.
3
By definition, labor productivity = Y/L and, using
a Cobb–Douglas aggregate production function, TFP =
Y/(K1/3L2/3), where Y, K and L denote aggregate output,
capital and labor, respectively. Then,%∆(Y/L)≈%∆TFP +
⅓%∆(K/L), where, K/L is the capital-labor ratio. In this example, the aggregate capital and labor inputs have a weight
of ⅓ and ⅔, respectively, typical values for an advanced
economy. In the Total Economy Database, those values vary
by country in line with the capital income share in national
income. Different types of capital are also distinguished.
4
Living standards (labor productivity) in countries with
similar technologies and similar initial capital-labor ratios
(similar level of development), but with dissimilar economic
institutions, may temporarily grow at different rates because
they do not converge to the same long-run level. However,
the Solow–Swan model still predicts that the rate of labor
productivity growth should be the same in the long run.
5
The median is used to measure the typical growth rate
for advanced and emerging countries, since the median is
more robust than the mean (simple average) to outliers.
The interquartile range is used to measure dispersion of the
growth rates around their central tendency (median). The
closer the clustering of growth rates around the median, the
smaller is the interquartile range (the difference between the
first and third quartiles).
6
The negative TFP growth in 2008–11 is the result of
the Great Recession and accompanying disruption in
financial markets, which disrupted the efficient allocation of
resources.

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Technological Progress Is Key to Improving World Living Standards:
Erratum*

Enrique Martínez-García
Federal Reserve Bank of Dallas
Current Draft: June 21, 2013

*

I acknowledge the excellent research assistance provided by Valerie Grossman. All remaining errors are mine
alone.

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Measuring Productivity

a. Page 2, second paragraph: The second paragraph of the section should have been ended
with the following sentence to properly explain the case for looking at GDP per worker
(instead of GDP per capita),
“Hence, per capita comparisons of material well-being are based on market output per
worker employed rather than over the entire population, as some of the non-employed
population nonetheless contributes to those informal and nonmarket activities that real
GDP does not count.”
The differences between real GDP per worker and real GDP per capita can be significant.
As an example, note the current gap between Germany and the United States reported in
the table below:

United States (year 2012)
Germany (year 2012)
Percentage Difference

GDP per Person Employed,
in 2012 EKS$

GDP per Capita, in 2012 EKS$

108080.10
79441.02
36.05%

49427.58
40511.43
22.01%

Source: 2013 TED database, and author’s calculations.

The difference between the two columns is that the first column divides GDP by the
employed population, while the second column divides GDP by total population. Notice
that real GDP per capita (Y/POP) can be decomposed into real GDP per worker (Y/E)
times the employment ratio (E/POP),
Y/POP = [E/POP] x [Y/E] (identity)
where Y represents real GDP, POP = LF + NLF is total population, LF = E + U is the
labor force, NLF are those not in the labor force or searching actively for a job, E is the
number of employed workers, and U is the number of unemployed workers searching
actively for a job. We can further decompose the employment ratio into two components,
E/POP = [LF/POP] x [E/LF] = [LF/POP] x [1-(U/LF)]

(identity)

where LF/POP is the labor force participation rate, and U/LF is the unemployment rate.
Hence, the fact that Germany trails the United States by a larger margin in GDP per
worker than in GDP per capita is entirely attributable to a higher employment ratio (and,
more specifically, a higher labor force participation rate). A case can be made that GDP
per worker is a better measure for international comparisons based on the argument that
individuals not officially counted in the labor force may nonetheless be involved in
informal and non-market activities that are not measured by real GDP either. In this
sense, real GDP per worker is a sensible measure of the material well-being attained

2|

through market activities by a society adjusted by the labor (out of its total population)
that it actually employs in those market activities.
Productivity Catch-Up

b. Page 2, Chart 1: There are certain inaccuracies in the map that do not alter its basic
message, but could be surprising for the reader. For instance, the Great Lakes between
Canada and the United States are missing; and we do not have separate data for South
Sudan (the data that I use from the Conference Board TED dataset is for Sudan prior to
the independence of South Sudan in July 2011). The map below corrects some of those
small inaccuracies,

c. Page 3, second full paragraph: The Solow-Swan model itself does not impose a common
growth rate of TFP across countries. However, if TFP growth were the same in two
countries, then the model would have strong implications on what can explain their
growth differences. The first sentence of that paragraph, therefore, should not be tied to
the Solow-Swan model and should read as follows instead: “TFP growth rates would be
common across countries if they had access to and adopted the same technologies.”
Notes

d. Footnote 6: The implication of causality in the text should be discarded. A more accurate
synthesis of my thoughts on this would be: “The negative TFP growth observed since
2008 should not be interpreted as technological regress. It could reflect, for instance,
distortions in financial markets disrupting the efficient allocation of the factors of
production.”

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