The Link between Knowledge and Economic Growth
In a thoughtful and thorough article at the Australian publication Quadrant, economist Wolfgang Kasper writes on the Austrian contribution to the role knowledge plays in global economic growth.
Specifically, Kasper provides some helpful observations on the decentralized and specialized nature of knowledge. Unfortunately, though, Kasper veers off course in assigning an excessively exalted role for knowledge in creating economic growth.
It is not knowledge that is the X factor in paving the way for economic growth. Rather, capital accumulation, low time preference, and entrepreneurship are the crucial factors.
Let’s look at the details.
Kasper begins with an informative description of what knowledge is and the Austrian school’s role in understanding this:
I was fortunate in that I came into personal contact with the great economist-philosopher Friedrich Hayek (1899–1992), as well as his friends Fritz Machlup (1902–83), Gottfried Haberler (1900–95) and Karl Popper (1902–94). These Viennese scholars clarified for me what the abstract and many-sided concept of “knowledge” is and what a crucial role it plays in cultural and economic development….
“Knowledge”, I learnt, consists of tested, useful ideas—useful for realising the diverse, changing and complex aspirations of millions of different people. Bits of new information are gradually integrated by rational thought and practical testing into systems of related ideas which constitute knowledge. The information must be based on observed facts. Knowledge may need to be adjusted when circumstances change. An important point is that most knowledge is held in the brains of numerous individuals. Some is made accessible to others when recorded in textbooks, research reports, technical manuals, statistics, legislative and practical publications, or YouTube tutorials. Much valuable knowledge is also incorporated in capital goods.
Two additional key factors in understanding knowledge are the decentralized nature of knowledge and the importance of exchange. Kasper continues:
One of the key points that the Austrians made is that dispersed, specialised knowledge can normally be exploited best by the voluntary co-operation of individuals. This depends on trust and trust-enhancing rules (institutions), such as the rule of law and free markets in which individual property rights can be exchanged. I learnt from my inspiring “Austrian” teachers that knowledge is a production factor, just like physical capital, natural resources and labour.
Moreover, knowledge—in the form of so-called human capital—can be deployed with factors of production, such as capital and land, to improve production:
In combination with other production factors, knowledge (or "human capital") can overcome situations of scarcity. Indeed, the long history of the human race can be seen as a sequence of more and more knowledge creating better physical capital, tapping into more natural resources, empowering labour and overcoming or at least alleviating the deleterious side effects of economic growth.
Kasper starts to run into trouble, however, when concluding:
Thus, knowledge has been the main driving force behind the unprecedented growth of the global economy since 1945. Land has been opened and crops have been made more productive by new knowledge (think of the Green Revolution); new inventions have tapped new natural resources and improved the effectiveness of energy resources and capital goods; labour has become more skilful …
But was knowledge really the key factor in these cases?
Many Austrians would argue it is not.
In Man, Economy, and State, Rothbard writes:
It has often been assumed that production is limited by the “state of the arts”—by technological knowledge—and therefore that any improvement in technology will immediately show itself in production. Technology does, of course, set a limit on production; no production process could be used at all without the technological knowledge of how to put it into operation. But while knowledge is a limit, capital is a narrower limit. It is logically obvious that while capital cannot engage in production beyond the limits of existing available knowledge, knowledge can and does exist without the capital necessary to put it to use. Technology and its improvement, therefore, play no direct role in the investment and production process; technology, while important, must always work through an investment of capital. As was stated above, even the most dramatic capital-saving invention, such as oil-drilling, can be put to use only by saving and investing capital.
Specifically, we might note that many societies have valued “knowledge” in various forms. But, as Rothbard explains:
What is lacking in (underdeveloped countries) is not knowledge of Western technological methods (“know how”); that is learned easily enough. The service of imparting knowledge, in person or in book form, can be paid for readily. What is lacking is the supply of saved capital needed to put the advanced methods into effect.”
That is, saving and investment are the key factors, not knowledge. As Rothbard notes, time preference is more essential here:
A businessman's new investment in a longer and more physically productive process will therefore be made from a sheaf of processes previously known but unusable because of the time-preference limitation. A lowering of time preferences and of the pure interest rate will signify an expansion of saved capital at the disposal of investors and therefore an expansion of the longer processes, the time limitation on investment having been weakened.
It's also important here to note that “time” is a crucial factor—and one that Kasper doesn’t mention. It takes time to build up savings and capital, and it takes time to develop the technological tools that are the fruits of innovation and knowledge.
An additional important variable in this equation is entrepreneurship. Kasper does hint at this in a few places, noting:
The stock of knowledge, which a community owns, grows when people are driven by curiosity or self-interest to risk exploring new ideas and concepts, individually or in co-operation with others. A social climate that favours individualism, enterprise, risk-taking, trust, independence and rivalry (competition) has always been conducive to the growth of knowledge.
But it is not the stock of knowledge in this case which produces the growth. It is the mechanism by which economic growth actually occurs. Randall Holcombe explains:
Research and development, and the production of human capital, can be systematic ways of producing additional opportunities, and of finding those that already exist. That specific knowledge of time and place that Hayek emphasized can play a role in revealing entrepreneurial opportunities. However, if one focuses exclusively on investment in human capital and technological advance, the mechanism by which innovation occurs is left out of the picture entirely. Such investments can produce a more fertile environment within which to search for entrepreneurial opportunities, but it is the entrepreneurial act of seizing those opportunities that produces the engine for economic growth, and that lays the foundation for more entrepreneurial discoveries.
Put another way, it’s not simply “knowledge” that is the critical input here, but a combination of capital—made possible by savings and low time preference—and entrepreneurship which deploys resources in a productive way. Merely pursuing “knowledge” gains us little. Rather, it is a specific type of market-based knowledge that matters.
This also provides additional insights into the fact that economic growth has historically not been dependent on the existence of a technologically sophisticated workforce. Although Kasper warns that "poorly educated" immigrants lessen the quality of the workforce, Lipton Matthews has recently noted that empirical studies suggest there is not a clear connection between a schooled workforce and economic growth.
And then there is the issue of the "knowledge" gap often touted during the old Cold War, and increasingly during the new "cold war" between the US and China. Kasper correctly notes that the "West still has a scientific and technological lead over China," but appears to stick with the premise that with enough devotion to a knowledge-based economy, China will take over the West in economic growth and dynamism. This conclusion is only possible if we ignore the realities of time, low time preference, and saving in economic growth.
As noted by China researcher Michael Beckley, China is nowhere near overtaking the United States in this regard—which suggests the West overall has an edge as well. Even if China is currently saving more than Americans, or has a society-wide time preference lower than that of Americans, the American economy sits on an enormous store of wealth built up over many decades. Beckley shows time is a key factor here, and even at higher growth rates, it will take the Chinese many decades to build up capital that even rivals that of the US. Moreover, the state-dominated Chinese economy has nothing rivaling the entrepreneurial activity experienced in the US. Unfortunately for the Chinese regime, knowledge is never a substitute for time, savings, or entrepreneurship.
None of this means a knowledgeable population is of no importance. Moreover, a society that is knowledgeable about the importance of saving, investment, and private property is more likely to ultimately produce more capital. But without actual saving and low time preference, knowledge of their advantages is of little use.