Where does economic growth come from? Investment won't guarantee prosperity

For almost all of history, the ordinary person's standard of living was just enough to keep them from starving. A little better under good emperors, a little worse under bad ones. Anyone who had the rare luck of living to thirty would typically watch two of their own children die young. Economic growth as we know it today did not get going until around 1800. Since then, living standards in the developed world have risen thirtyfold. Yes, that holds for the Czech Republic too.

So what was the breakthrough 200 years ago? It was not the birth of capitalism; that was already up and running in ancient Greece. It was not stable and predictable "institutions"; the Mongol Empire had those. It was not cheap money and savings to spare; medieval China had plenty of both. And it was certainly not state investment in education and infrastructure, which older civilizations were often even keener on. All of this is necessary, but it is not enough, much as fire needs oxygen but oxygen alone will not start a blaze.

Economic growth means the collapse of poverty and, in the end, a healthier natural world as well. The most advanced countries have more forest today than they did in the Middle Ages. What actually made growth possible, first in the Netherlands and England and then across the rest of the West (with Bohemia and Moravia among the first), was a tectonic shift in attitudes toward innovation and innovators. The natural tendency of human beings, and of every civilization in history, is to fear change. Change threatens the position of the elites, and sometimes the livelihoods of some ordinary people too.

By contrast, the system that is only two centuries old, which the economic historian Deirdre McCloskey calls the "Bourgeois Deal," would have shocked our ancestors: Let me, the innovator and entrepreneur, overhaul the way we live. Let me get rich, so that in the end you can get rich too. That is how we got electricity, the telephone, cars, airplanes, the rotavirus vaccine, the smartphone, Viagra, Google, Mapy.cz, Tesla, Uber, ChatGPT.

Even the best innovations do not help everyone right away; they are not win-win. They are win-win-win-win-win-lose. Coachmen paid the price for cars, taxi drivers for Uber, translators for ChatGPT. A prosperous society has to get used to stories of failure. It is right to help people who temporarily lose out from innovation. But the threat of failure matters: if you know for certain that you cannot fail, that someone will always pull you back up to the average, what incentive do you have to make responsible decisions, say, when choosing a career?

Investment, incentives, and growth

Today's growth economics is easy. Countries grow fast as long as they can absorb existing innovations from abroad. See Japan from the war to 1990, or the Czech Republic from EU accession to Covid. Then the boom ends. Further growth depends on how incentives are set. Does it pay to work hard, take risks, start businesses, innovate? Then you get Singapore's productivity. Does it pay to be passive, do only what you are told, cover your own backside? Then you stall 20% below the US level, as Japan, Italy, and the Czech Republic have.

So the new mantra of Czech politicians does not work: pour money into education and infrastructure, add a pinch of "reforms," stir, and all will be well. To be clear, investing in both makes sense here. Our shortfalls relative to the West mean the first few hundred billion koruna earn an easy return. But are our elementary and middle schools really that much worse than America's? Will high-speed rail really pay off for us? Economic research, after all, finds only a weak link between government investment and living standards.

The emphasis on investment is useful in that it breaks down Czech caution and penny-pinching management. In life you sometimes have to take a risk, borrow, invest. Just make sure we do not go into debt for projects whose benefits cannot outweigh their costs, even when they are sexy ideas like high-speed rail, and even if some other countries have them. Megaprojects call for careful cost-benefit analysis. Either way, public investment will not decide the living standards of our children and grandchildren.

What will drive quality of life is our fellow citizens' willingness to work and to run businesses. In the end, growth will also be decided by the shoe repair shop at the railway station, the praline shop on the square, the startup by the church. Running a business is risky, and the responsibility is unimaginable to many of us. Useful innovations are not only great inventions but also small improvements in every area of life. If the government wants prosperity, it will look for inspiration not only in investment but also in the liberal approach that countries like Singapore take to business regulation and incentives to work.