CRITICAL REVIEW OF NEOCLASSICAL GROWTH THEORY AND

CAPABILITY APPROACH

Introduction

One of the main objectives of an economy for maintaining long-term economic growth is to
source ways and means of ensuring individuals in the country can maintain a healthy standard
of living (Popa, 2014). The idea of theory of growth in macroeconomics is based on the premise
that labour and capital are at equilibrium and adequately used to result in efficient output
(Solow, 1999). Neoclassical theory ascertains that a country’s economic growth is driven by
capital, labour and technology. For this theory, capital and labour are not enough without
introducing technology. The capability approach seeks more evaluation of individual well-
being as a basic concern which seeks to revitalise societal constructs, and policies and
recommends that individual well-being should be based on their choices and capabilities
(Alkire, 2005).

This essay’s primary focus will be on the framework of the neoclassical theory of economic
growth, and the capability approach. In addition, how well the neoclassical theory has
influenced economic growth, and its downside with regards to the application of this theory
through an example of a brief case study. On the other hand, the capability approach will be
examined as a substitute means of which would have worked better in relation to the
neoclassical theory with a few examples.

The Neoclassical Theory of Growth

The issue of economic growth has brought about several interests from researchers as to why
some countries grow better than others. This research has brought about several theories to
explain or quantify the economic growth rate. One of these theories is the Neoclassical theory
propounded by Robert Solow and Trevor Swan in 1956. Following Solow (1956) with the idea
of Harrod-Domar’s presumptions, he agrees but then argues that for neoclassical theory, given
that all things are equal, Labour and Capital are the only output of demand and supply. Swan
(1956) introduced a technical analysis of this model in late 1956, illustrating the importance of
long-run economic growth through technical progress (Swan, 1956).

However, Solow’s (1956) arguments about the long-run model were approved by Domar with
him agreeing that economic growth cannot happen as the result of investment due to a drop in
capital returns. If technological advancement is going to be introduced, then it needs to be
sustained because the mere presence of technology does not guarantee long-run consistency in
the quantity output of labour which will result in economic growth. Solow argues that capital
accumulation can decrease as a result of an increase in savings. He believes that economic
growth has a steady point but capital stock drops and the economy grows if savings goes higher.
An increase in savings will bring about an upward result in the economy's savings function,
which will bring about some form of stability that will encourage consistent yearly production
in the economy. From his theory, he points out that an increased population will bring about a
reduced output which will mean the need for more technological advancement. In backing this
theory, the means through which the United States advanced through its sophisticated
technology by expanding but ensuring that workers can work with the growing number of
machines (Barro & Sala-i-Martin 2004). This is a classic paper on this topic!

The Neoclassical theory argues that an economy can experience a steady growth rate as a result
of the combined driving force of available capital, labour and technology. This theory also
argues that in an economy the way capital is accumulated, and what and how it is used for in
the economy will have a huge impact on economic growth (Barro & Sala-i-Martin 2004).
According to Popa (2014, p. 26), the neoclassical theory of growth examines the influence of
Labour, capital accumulation and technology on a country’s economy. The Neoclassical theory
suggests that an economy can reach short-term equilibrium through capital and labour in
production, but economic growth can increase more if there is technological advancement. One
thing neoclassical theory encourages is technology and does not override the effort or
contributions of labour and capital in the economic growth process but believes technology
will lead to consistent results on economic growth (Solow, 1956).

The Neoclassical theory of measuring an economy’s production function is often written as Y

= F (K, AL).
where Y = Economy’s Gross Domestic Product (GDP)
K = Share of Capital
A= Determinant level of Technology
L = Amount of Unskilled labour in an economy.
In loose terms, the neoclassical theory believes that in measuring the production function of an
economy, the gross domestic product of the economy denoted as (Y) is a function of the share
of Capital (K), Level of technology (A) and the amount of unskilled labour in an economy (L).
It also expresses that there is an obvious relationship between labour and capital which results
in economic output, but the theory argues that labour on its own is not enough to boost
economic growth without considering technology as the enhancer of economic growth at
equilibrium (Hofman, 2000).

In the light of other models, the idea is that for the purpose of growth analysis, the per capita
rate is fixed over time as the state approaches a level of consistency in growth and balance. In
other words, the neoclassical model explains that for the per capita rate of growth should
happen, then it must have been as a result of a constant and steady impact from technology
which will result in a shift in production output going forward. With this, a neoclassical theory
maintains that technology gives a high value to labour, and it is through that an economy can
attain a steady growth rate (McCallum, 1996).

One of the outstanding points to note from Solow (1956) is that he did not carefully examine
household saving habits but was mainly concerned with a portion of savings made by
households which was not even defined and made a constant. Meanwhile, Swan (1956) pointed
out a similar outlook to that of Solow but with less mathematical involvement and explanation
of the golden rule. The golden rule mainly provides a means through which the state finds a
favourable and consistent balance of which rather than looking to optimise before imposing or
finding conditions, it first attempts to create a balance before looking to optimize resources
(McCallum 1996). In this same light, Harrod (1939) and Domar (1947) pointed out that for
increased growth output, savings and capital must be equal in a steady state. This was mainly
a condition that needed actual validation for a consistent economic growth rate.

Around the 1980s, there was a re-emergence that the neoclassical model and growth rate did
not have any positive impact and the idea of an endogenous growth model came into play as a
result of the gaps created. The downside of the neoclassical growth model did not state the
possible changes in growth behaviour and was not properly examined. These failures became
obvious when the effect of per-person output was noticed in the exogenous context. It is seen
that the growth rate model was not intertwined with the assumption of the neoclassical model
and government policies to be made which would affect the output of a country were not put
into consideration. The impression from the model was that all economies will experience the
same growth rate, but this depends on one’s understanding, and it was found that in real life
each country has different growth rates. When observing the neoclassical model, there was no
acknowledgement that the economic growth of different countries differs. An example would
be developing countries like South Africa, Nigeria, Ghana and so on. These countries, if placed
and viewed from the standpoint of the neoclassical growth theory, will definitely have a
different development speed compared to countries like the United States of America,
Australia, Germany and so on. This is because developed countries have large capital and can
facilitate technology in their country which the developing countries cannot (Mankiw 1995, p.
281). Countries can still experience growth significantly even without more labour than
technology and still experience growth regardless of this. The Neoclassical theory of growth
however expresses that the varying population growth does not have any effect on the supposed
output of the country but rather the output is still maintained (Popa, 2014).

However, one of the shortcomings of this theory is that it does not explain growth behaviour
in the general equilibrium sense. To be clear, the theory does explain the possibility of a country
experiencing growth with the three driving forces of capital, labour and technology. Moreso, a
country can have capital, technology, and labour at its disposal and still experience basic
growth levels as assumed in by the theory but cannot experience that growth equilibrium which
is most essential. An example of this can be the United Kingdom; this country has attained a
certain level of economic output, but that growth equilibrium has not been reached. The
country’s economy is still not as impressive as it should be considering the idea of the model
even when there is an abundance of capital, labour and different technologies at their disposal.
In the same light, a county like Germany that has technology, capital and not enough labour
force still experiences economic growth (McCallum, 1996).

Capability Approach

In the bid for economic growth, welfare economics has mostly not been the issue to be
considered. Unlike the neoclassical theory whose base is on attaining economic growth through
Capital, labour and technology; the capability approach views economic growth from the
standpoint of the individual welfare and well-being of people in an economy by means of
accessing and restructuring policies made and effecting changes in the society (Sen, 1994).
Robeyns (2005) agrees that the well-being of individuals which comprises of inequality,
poverty, and opportunities can be evaluated through the capability approach which can serve
as a tool for economic analysis which can lead to improved policies, proposals and so on by
governments in an economy. The idea of equal construct which is mostly the case in many
theories is not applied in the capability approach rather, it entails freedom for states and
individuals in the state to choose what they want as a result of the obvious diversity (Robeyn,
2005) Good to see the multidisplinary nature of capability approach being included here.
You can also expend your examples in this way.

The idea of income is not the end to the obvious increase in the insatiable needs we have but it
is for the purpose of making progress in attaining satisfaction (Sen 1990, p. 44). Instead of the
imposed idea that everyone both humans and state can achieve the same level of output, what
an individual or state can achieve and would also want to achieve should be put into
consideration and weighed instead. Sen (1979) points out that just like economies and
individuals are different, so is the strength and ability of these economies and individuals in
achieving different set goals and outcomes. In evaluating the well-being of different economies
and individuals, useful information in quantifying the capabilities of these groups is not being
sourced properly which leads to inappropriate allocation of individual capabilities (Clark,
2005). Also, goods and services should be taken into consideration when assessing how well
individuals and economies can operate.

McLean & Walker (2012) carried out research on university-based professional education in
South Africa through the lens of the Capability approach in which one of the findings was that
different professional groups could collaborate regardless of their various interest. This was in
line with the constitution which seeks the good of its citizens thereby improving the economy,
but apartheid was a problem in South Africa because the capability of the country was not
considered (Fuller, 2010). Black South Africans experienced more poverty and inequality even
with the seeming growth of the economy.

Another case study carried out in Samoa by Schischka et al. (2008) involved village women in
a self-help development project and one of the findings was that the participants were not even
aware of their capabilities but while carrying out the research and not just by discovering new
skills, these participants got to explore their own capabilities which were unknown to them. In
addition, Sen’s (1979) capability approach had a positive effect on the participants involved in
the research project and they found it to be beneficial to them as it encouraged active
participation.

Conclusion

From the above arguments and reviews, the neoclassical theory of growth holds that economic
growth must be possible through three driving forces, which are Labour, capital and
technology. Although this does not have an all-positive outlook, one of the results of this review
is that Solow and Swan’s theory did not clearly explain how the growth behaviour worked or
the extent to which this growth theory could be sustained. For example, it was discovered that
even with the presence of technology which was the main point of the neoclassical theory, and
the presence of capital and labour, some countries still did not attain growth equilibrium. While
the neoclassical theory centred its idea of economic development based on three driving forces
(Labour, capital & technology), the capability approach believes that economic growth can
occur when the capabilities of individuals or states are effectively utilized. The capability
approach, on the other hand, sets to bring a better way to look at the neoclassical theory. The
capability approach encourages that human & economic welfare and capabilities should be
considered in the bid to foster economic growth.
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