What Is Exogenous Growth?
Key takeaways
– Exogenous growth is the idea (central to neoclassical growth theory) that long‑run economic growth is driven by factors outside the economic system—most importantly, technological progress—that are treated as given or “exogenous.”
– In exogenous-growth models (notably the Solow model), increases in capital and savings affect the level of output but not the sustained long‑run growth rate, which depends on the exogenous rate of technological advance.
– The exogenous view contrasts with endogenous growth theory, which models technological change as an outcome of economic decisions (R&D, human capital, firm investment).
– For policy and analysis, acknowledging exogenous forces means focusing on absorbing and adopting external technological advances while using complementary domestic policies (education, institutions, openness) to raise long‑run levels of output and the economy’s ability to benefit from external tech.
Introduction
Exogenous growth is a conceptual framework in which some of the main drivers of economic growth—especially technological progress—are treated as external to the model. The seminal example is the Solow–Swan growth model: capital accumulation and savings produce transitional growth, but in steady state the economy’s per‑worker growth rate equals the growth rate of technology (exogenously specified). The idea remains a central reference point in growth economics and policy debates because it clarifies what policies can change (levels of output) versus what determines sustained growth rates in simple neoclassical setups.
Understanding the concept (core elements)
– Exogenous variable: A factor whose path is determined outside the model and is not explained by the model’s internal mechanisms. In exogenous growth theory, technology (total factor productivity, TFP) typically plays this role.
– Diminishing returns: In the Solow framework, capital faces diminishing returns—beyond a point, more capital per worker yields smaller output gains—so capital accumulation alone cannot produce indefinite per‑worker growth.
– Steady state and transitional dynamics: An economy converges toward a steady-state capital‑per‑worker and output‑per‑worker, determined by savings, depreciation, population growth, and the exogenous technological growth rate. Changes in the savings rate change the steady-state level of output but not the long‑run per‑worker growth rate.
– Policy implication (in the model): Policies that raise savings or investment raise output per worker in the long run (level effect), but only changes in the exogenous technological process alter the long-run growth rate.
How the Solow model captures exogenous growth (intuitively)
– Output is produced with capital and labor and multiplied by a time‑varying technology term A(t).
– A(t) is assumed to grow at a constant, exogenous rate g (A(t) = A0 e^{gt} in continuous time).
– Because of diminishing returns to capital, increases in capital per worker eventually produce no persistent increases in per‑worker growth; only A(t)’s growth sustains long‑run per‑worker growth.
Exogenous growth vs. endogenous growth (short comparison)
– Exogenous growth (neoclassical): Technological progress is outside the model; long‑run per‑worker growth depends on exogenous tech. Reference example: Solow (1956).
– Endogenous growth: Technology, innovation, and knowledge accumulation arise from economic choices (R&D, human capital, spillovers) and can be sustained by deliberate investment; long‑run growth can be influenced by policy variables. Key authors: Paul Romer (1990), Robert Lucas (1988).
– Practical implication: Exogenous models highlight limits to what traditional policies (e.g., higher savings) can achieve for long‑run growth rates; endogenous models provide mechanisms for policy to affect growth rates via incentives for innovation and knowledge accumulation.
Empirical evidence and interpretation
– Empirical work shows that technological progress (TFP) is a major contributor to growth in advanced economies, but its sources are varied: international diffusion, institutional quality, R&D, human capital, and policy.
– Cross‑country differences: Levels of output are strongly influenced by physical and human capital and by institutional quality; differences in growth rates are often linked to differences in productivity improvement (which may be endogenous or exogenous depending on the model).
– In practice, technology evolves through a mix of exogenous global innovations and endogenous domestic investments that promote innovation and adoption.
Limitations and criticisms of strict exogenous-growth views
– Treating technology as exogenous leaves unexplained an important part of observed growth: where does innovation come from?
– It underestimates the role of policies, institutions, incentives, and knowledge spillovers that can affect innovation rates.
– It can be too passive for policy design: by saying long‑run growth is “outside” policy, it risks underemphasizing how policy influences the incentives for innovation and technology adoption.
Practical steps — for policymakers
1. Treat exogenous technological change as partly outside control but focus on absorption:
– Prioritize education and lifelong learning so the workforce can adopt and utilize new technologies.
– Invest in digital infrastructure and connectivity to lower the cost of technology adoption.
2. Encourage openness and technology transfer:
– Promote trade, FDI, and partnerships that bring in foreign technologies and best practices.
– Streamline regulations that block importation or application of proven technologies.
3. Support complementary domestic conditions:
– Strengthen institutions, rule of law, and property rights to encourage investment.
– Maintain macroeconomic stability and encourage domestic savings to raise capital‑per‑worker levels (improve output levels).
4. Stimulate domestic innovation where feasible:
– Fund targeted R&D, provide tax incentives for private R&D, and support universities and technology parks—these help make technology less “exogenous” over time.
5. Monitor global technological trends:
– Create agencies or units that track global tech breakthroughs and advise on adoption strategies and industrial policy.
6. Promote diffusion and scaling:
– Offer grants or low‑interest loans for firms to adopt productivity-enhancing technologies, especially SMEs that may otherwise lag.
Practical steps — for analysts and modelers
1. Use exogenous-growth models (Solow) for transparent level vs. growth decomposition:
– Calibrate A(t)’s exogenous growth rate from TFP series; simulate transitional dynamics and steady states.
2. Estimate the role of technology empirically:
– Decompose growth into capital accumulation, labor/education, and TFP contributions.
3. Run sensitivity analysis:
– Test how different assumed rates of exogenous technological progress change long‑run projections.
4. Combine with endogenous mechanisms:
– If policy evaluation requires assessing how R&D or subsidies affect innovation, embed endogenous features (Romer‑style) or hybrid models.
5. Communicate clearly:
– When using an exogenous specification, state explicitly which forces are being treated as given and the limitations of that choice.
Practical steps — for firms and investors
1. Scan and adopt relevant global technologies quickly:
– Benchmark competitors internationally and invest in proven productivity tools.
2. Invest in workforce skills:
– Training and reskilling promote effective use of new tech and sustain competitive advantage.
3. Collaborate for technology transfer:
– Partner with foreign firms, universities, or research centers to access innovations.
4. Use complementary investments:
– Pair technology adoption with process redesign and organizational changes to realize productivity gains.
Examples (illustrative)
– Postwar Japan and Germany: rapid catch‑up was partly due to importing and adapting foreign technologies (absorption + investment).
– Silicon Valley firms: endogenous innovation environment (networks, venture capital, talent) shows how domestic institutions can turn technology from an exogenous wind into an endogenous engine.
– Developing economies: may grow faster by adopting existing global technologies (exogenous diffusion), but sustaining growth later often requires building domestic innovation capacity.
How to think about policy in practice
– Treat exogenous technological progress as a reality to prepare for and absorb, not as a reason for policy inaction.
– Use policies that both improve the ability to benefit from external technological forces (education, infrastructure, openness) and create incentives for domestic innovation (R&D support, competition, human capital accumulation).
– Evaluate policies using both exogenous benchmarks (how much can adoption raise levels of output?) and endogenous models (how will incentives affect the innovation rate?).
Conclusion
Exogenous growth theory provides a useful, parsimonious framework for understanding the role of technology in long‑run growth and for highlighting the distinction between policies that affect the level of output and those that can alter growth rates. In practice, economies face a mix of exogenous technological shocks and domestically generated innovation. Effective policy combines efforts to absorb and adopt external technologies with measures that make innovation endogenous—education, institutions, R&D incentives, and openness—thereby improving both levels and sustainable growth.
References and further reading
– Investopedia. “Exogenous Growth.” https://www.investopedia.com/terms/e/exogenous-growth.asp (source used in this summary).
– Solow, R. M. (1956). “A Contribution to the Theory of Economic Growth.” The Quarterly Journal of Economics, 70(1): 65–94. DOI: 10.2307/1884513.
– Romer, P. M. (1990). “Endogenous Technological Change.” Journal of Political Economy, 98(5, Part 2): S71–S102.
– Lucas, R. (1988). “On the Mechanics of Economic Development.” Journal of Monetary Economics, 22(1): 3–42.
– Mankiw, N. G., Romer, D., & Weil, D. N. (1992). “A Contribution to the Empirics of Economic Growth.” The Quarterly Journal of Economics, 107(2): 407–437.
If you’d like, I can:
– Provide a concise Solow-model calculation example with numbers (steady‑state and transitional dynamics),
– Build a checklist for policymakers tailored to a specific country income level,
– Or sketch a hybrid model that treats technology partially exogenous and partially endogenous. Which would be most useful?