As we seek to understand what creates growth, it is important to distinguish between two different kinds of growth: growth in the size of the economy and growth in its productivity (output per hour worked). Accumulating more capital increases the economy, but only strong productivity growth allows people to enjoy a higher material standard of living with the same amount of time spent working.
Economic growth can be spurred by a number of factors. For example, newer and better tools allow workers to produce more output in the same amount of time. This increases the productivity of labor and is a type of economic growth that is sustainable over the long term.
However, there are limits to how much growth can come from accumulating more capital and increasing the work force. When the rate of productivity growth stops increasing, an economy reaches what is called “steady state.” The level of capital per worker and economic output will remain constant, as annual investment in capital equals depreciation.
Several different things can increase productivity, including technological advance and increased market size, which improve resource allocation and economies of scale. In addition, McKinsey research shows that policies that promote greater equity can also lead to more robust growth. For example, allowing women to participate in the workforce and reducing barriers that discourage diversity are critical for creating more economically productive societies.