The starting point for any study of economic growth is the Neoclassical model, developed by Robert Solow and Trevor Swan. It provides the essential building blocks for all subsequent theories.

2.1. The Engine of Growth: Capital Accumulation

The model’s primary focus is on capital accumulation. The core idea is simple and intuitive: giving workers more and better tools (physical capital like machinery, computers, and infrastructure) makes them more productive. Higher productivity leads to higher output, which is the definition of economic growth.

2.2. The Core Limitation: The Principle of Diminishing Returns

The Neoclassical model’s most critical feature is the principle of diminishing marginal productivity. This principle states that while adding capital increases output, each additional unit of capital provides a smaller boost than the one before it.

• Analogy: Imagine an office with ten workers but only one computer. Adding a second computer would dramatically increase productivity. Adding a third would still help, but a bit less. By the time you add the tenth computer, so every worker has one, adding an eleventh would have a very small effect on total output.

This principle creates a powerful limitation: an economy cannot grow forever just by accumulating more capital. Eventually, diminishing returns become so strong that they choke off growth entirely.

2.3. The Solution: Technology as an External Force

If capital accumulation alone cannot sustain growth, what explains the persistent rise in living standards we see in the real world? The Neoclassical model’s answer is technological progress.

Crucially, however, this technological progress is considered exogenous—meaning it comes from outside the model and is not explained by economic forces within it. It is treated as an unexplained factor, like a gift from scientific progress that arrives at a steady, constant rate. Economic policy in this model cannot affect this rate.

2.4. Key Takeaway: The Prediction of “Conditional Convergence”

The model’s most famous and influential prediction is known as “conditional convergence.”

• Definition: Poorer countries will grow faster than richer ones and tend to catch up in income levels, but only if they share the same fundamental characteristics. These fundamentals include:
  • The same technology
  • The same saving rate
  • The same population growth rate
• Implication: The model predicts that a country will converge to its own long-run income path (its “steady state”). It does not predict that all poor countries will automatically catch up to the income level of the richest countries, because their fundamentals may be different.

The main dissatisfaction with the Neoclassical model is its treatment of technology as an unexplained external force. This limitation spurred the development of new theories that attempt to explain technological progress from within the economic system itself.