The choice of a growth model is not a purely theoretical decision; it dictates which policy levers are believed to be effective and which are deemed irrelevant. Understanding these foundational paradigms is essential for appreciating the key debates in growth economics, particularly the tension between the roles of capital accumulation and endogenous technological progress. This section analyzes the Neoclassical, AK, and Schumpeterian models to build a clear understanding of their mechanics, predictions, and core policy implications.

2.1 The Neoclassical Model: Capital Accumulation and Exogenous Progress

The Neoclassical growth model, first developed by Solow and Swan, is the benchmark for growth analysis and emphasizes the role of capital accumulation. Its core mechanic is that adding more capital to the economy (e.g., machinery, infrastructure) increases output, but it does so at a diminishing rate. This principle of diminishing marginal productivity means that each additional unit of capital generates a progressively smaller increase in output.

This leads to the model’s central and stark long-run prediction: per capita GDP growth cannot be sustained by capital accumulation alone. In the long run, growth in living standards depends entirely on an exogenous rate of technological progress—that is, a rate determined by forces outside the economic model, such as scientific discovery.

The critical policy implication of the Neoclassical model is that economic policy, such as increasing the national saving rate to boost investment, cannot affect a country’s long-run growth rate. It can only raise the long-run level of per capita income.

The model also predicts conditional convergence: countries with similar fundamentals (e.g., saving rates, population growth) will converge to the same steady-state income level. Poorer countries in this group should grow faster than richer ones as they “catch up” by accumulating capital more rapidly. While providing a powerful benchmark, the Neoclassical model’s primary limitation for policy analysis is that it treats technological progress as an exogenous “black box,” deliberately not explaining the origin of the very engine it identifies as the sole driver of sustained long-run growth.

2.2 The AK Model: Endogenizing Growth through Broad Capital

The AK model represents the first wave of endogenous growth theory, developed to provide a mechanism for sustained, policy-driven growth. Its core premise is to redefine “capital” in a much broader sense, lumping together physical capital, human capital (skills and knowledge), and intellectual capital. By aggregating these different forms of capital, the model assumes away the diminishing returns that are central to the Neoclassical framework.

The production function simplifies to Y = AK, where A is a constant representing productivity. This linearity means that the long-run growth rate g is given by:

g = sA – δ

Here, s is the saving rate and δ is the depreciation rate. The primary policy implication is direct and powerful: a country can permanently increase its long-run growth rate by increasing its saving rate (s).

The AK model contrasts sharply with the Neoclassical view by providing a clear channel for policy to influence long-term growth. However, its predictions struggle with empirical realities. By eliminating diminishing returns, it fails to explain the widely observed phenomenon of conditional convergence; instead, it predicts that countries will simply grow at their own rates indefinitely, with no tendency to catch up. The model’s key limitation is that it does not distinguish between capital accumulation and technological progress, obscuring the specific mechanisms of innovation that are critical for policy design.

2.3 The Schumpeterian Model: Growth through Creative Destruction

The Schumpeterian paradigm offers a more nuanced view of endogenous growth, focusing on quality-improving innovations that render old products and processes obsolete. This process, termed “creative destruction,” is the central engine of long-run growth. In this framework, growth is not a smooth process of accumulation but a turbulent one characterized by the entry and exit of firms.

In this model, long-run growth is driven by the economy-wide rate of innovation. This innovation is the result of private R&D expenditures undertaken by entrepreneurs motivated by the prospect of securing temporary monopoly rents from their new products or technologies.

Key policy-relevant features of the Schumpeterian model include:

• Size of Innovations: Growth is faster when innovations represent larger technological leaps. This gives rise to Gerschenkron’s “advantage of backwardness,” whereby countries far from the technological frontier can grow rapidly by adopting frontier technologies that represent a major improvement over their existing capital stock.
• Property Rights: Strong intellectual property rights protection is crucial as it safeguards the monopoly rents that incentivize R&D.
• Competition: The relationship between competition and innovation is complex. While some competition spurs firms to innovate to “escape” their rivals, too much competition can erode monopoly rents and discourage R&D.

By focusing on the microeconomics of innovation and the dynamics of competition, entry, and exit, the Schumpeterian model provides a flexible and powerful framework for analyzing the specific policy levers that can foster an innovative economy.

2.4 Synthesis: A Comparative Analysis of Growth Models