Conditions for economic growth

The conditions for economic growth are a series of economic, social, demographic and political factors that are necessary for a country, union of countries or region to grow economically in a sustainable manner.

Although there are many other measures, in the words of Adam Smith “the wealth of a nation” is usually measured through the gross domestic product (GDP). For this phenomenon of economic growth to occur, a series of conditions must be met. These could be considered as the necessary foundations for this economic growth to settle.

Conditions for economic growth

Among the main conditions for economic growth that must occur in an economy are the following:

Investment and savings

Both variables have a positive correlation with the GDP of a country. For a country to grow, it must efficiently allocate its investments. Therefore, both public and private investments must generate a level of productivity per adequate and sustainable worker.

In addition, if a country’s savings levels are insufficient, it will have to attract foreign investment in order to grow.

Markets and financial intermediaries

These have a vital role in growth, allowing economic agents with surplus resources to lend to economic agents with deficits. The financial markets determine which resource providers offer the most attractive risk-adjusted returns.

In the same way, they create and transform financial assets to provide liquidity to the market and to transfer risk from one agent to another. Finally, the ability to accumulate small amounts of excess savings of many agents means that financial intermediaries can finance larger projects that otherwise never go forward.

Political stability, laws and property rights

Political stability together with an appropriate legislative framework and the right to property, both physical and intellectual, are fundamental to encourage and attract the confidence of investors. Investors, both public and private.

The economic uncertainty caused by political instability, wars or cases of corruption, supposes a panorama of uncertainty that breaks with the confidence of both national and foreign investors. This supposes a clear reduction of the potential for economic growth.

Investment in human capital

Investment in skills and highly skilled workers has proven to be an undeniable complement to investment in capital goods. Countries with high rates of investment in education and health tend to have higher rates of economic growth.

Taxes and regulation

Keeping other variables constant, countries with lower tax rates and regulatory barriers have proven to be countries with higher growth rates. A favourable regulatory framework for the constitution of new companies and startups fosters entrepreneurial activity and contributes positively to the productivity of the economy as a whole.

Free trade and free movement of capital

Free trade fosters economic growth by increasing competition between companies. This competition promotes the productive efficiency of the entire economy via cost reduction.

On the other hand, the free circulation of capital reduces the problem mentioned above about the insufficient savings of a country. If capital can move freely, a country with low levels of savings can attract foreign investment. The objective is to be able to continue undertaking investment projects that allow them to continue growing.

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