Human as Capital

For long, economic growth theories and models centered on physical capital accumulation, ignoring human capital and its contribution to the production process. 

Human capital formation is an essential factor of not only economic growth but development. Not to forget, the Asian miracle of economic transformation of nations like Japan, South Korea, Taiwan, and China relied on human capital formation. 

The neoclassical growth theory, pioneered by Solow Model (1956), assumed competitive markets and excluded externalities. The economic value of factors of production – the marginal product – equaled their social value. Although it included physical capital, labor remained a homogenous commodity for production. In this model, there is neither scope of knowledge accumulation nor role for education and skill development.

This theory helped differentiate long-run from short-run impacts on economic growth. Despite its simplicity, predictions under this model were consistent with international data on factor prices, assuming that capital and labor received marginal products. 

Solow Model defined steady-state as an equilibrium where the marginal product of capital is constant, but the marginal product of labor grows with the rate of technological progress. 

It further assumed that, in the long run, capital per effective worker (which is different from the marginal product of labor or capital) must remain constant if people saved a proportion from their incomes. Thus, the per capita income growth relied on the rate of technological change and an increase in knowledge.

In terms of international differentials, the model predicts that the return to capital will be higher in poorer countries than in rich countries due to the lack of this physical capital. Thus, poorer countries have an incentive for capital accumulation, leading to faster growth of per capita income and finally convergence of per capita income across nations. 

However, Mankiw (1995) argued for defining terms such as knowledge and human stock. All technological advancements and scientific discoveries – in books, journals, magazines, pamphlets, and now through the internet and social media – add to human capital. 

Romer (1986) and Lucas (1988) are some of the other endogenous growth models studying long-run effects that incorporated the human capital formation and technological progress with the capital stock. While innovations and research and development (R&D) further economic growth, as per Paul Romer, empirical evidence suggests the same. Throughout economic history – through the first, second, and third industrial revolutions, inventions and breakthroughs have enabled economic prosperity. 

These models have gained prevalence in practice since traditional growth theories incorporated the aspect of human capital formation. And all these innovations are possible when the human capital acquires an adequate education, nutrition, health, and relevant skills through the early years of their lifecycle to complement physical capital. Investments in human capital formation, from government and the private sector stakeholders, are essential for growth and development. On the other hand, investments in physical capital such as robust infrastructure – ample housing, schools, and healthcare centers, are inevitable. 

The strengthening of public education is imperative, at least in developing nations, with a rising population growth rate and a relatively younger demographic. Further, with the rise of Artificial Intelligence and the disruption of traditional jobs, the development of sharp technical and research skills should be of prime importance. Focus on highly skilled workers and the creation of specialized employment is the future of work. 

Factors such as cognitive skills and socio-economic and environmental conditions also affect the productivity of individuals. The World Bank, to accelerate investments in human capital formation, has initiated the Human Capital Project. Further, the Human Capital Index captures the amount of human capital a child born today could attain by 18 years, given the risks to poor health and education prevailing in the country of study. There are three components to this index – survival, school, health.

The indicators show results as expected ex-ante. There is an east-west divide in human capital formation. While the western nations stand better in human capital formation, eastern countries, especially Sub-Saharan economies, are worse off. However, there are exceptions. East Asian countries like Singapore and China perform at par with developed nations of the West. 

The cross-country trends of these indicators, plotted against a logarithmic scale of Gross Domestic Product per capita (GDP per capita), show results as expected. With an increase in the Gross Domestic Product per capita (GDP per capita), the probability of survival, to age five, rises. On the other hand, the rate of stunting reduces for nations with higher GDP per capita. The same indicators also face a gender divide, with girls performing worse than boys. 

The pandemic has disrupted education, especially for the youngest of the students, and mental health – an equally vital but neglected element of our health. The absence of a physical classroom has embraced challenges, making the student-teacher dynamic digital. While schools across countries are about to reopen or have reopened, breaking the inertia of absence from schools will be difficult. The pandemic has also mirrored the dismal state of healthcare infrastructure across many developing countries. Moreover, the ongoing vaccination jab, threatened by supply shortages, has widened inequalities between developed and developing nations. Vaccine nationalism, as we know it, is also another threat to the pandemic-struck world.

All these conditions and circumstances, in turn, affect the human capital and deter the process of long-run economic growth and development.