Executive Summary

In the midst of a seven-year economic expansion and a booming stock market, it might seem like the last thing Washington policy makers should be considering is how to get the economy to grow faster. Yet, while the stock market may be booming, the underlying economy and the wages of American workers have been creeping up at a meager pace.

Productivity, the factor that determines economic growth, has grown slowly over the last 25 years. While productivity rose at an annual rate of 3.1 percent between 1947 and 1973, it has grown at an anemic 1.3 percent per year since then. Even with the recent spurt, productivity growth in the 1990s has been the lowest since the 1960s. If we had been able to sustain post-war productivity gains, the median annual wage would now be $52,000, instead of $35,000. And with current rates, it wont be until the year 2066 that real living standards for Americans double. Given this performance, and its impact on American workers incomes, it is appropriate to look more carefully at what drives productivity and economic growth.

This paper summarizes new research about the sources of economic growth and the role government can play in fostering growth in the knowledge economy. Policy makers can draw a number of important conclusions from this research:

• Technology, innovation, and knowledge are critical factors in economic growth;
• There is a significant private return on research and development (R&D) investment at the firm and industry level -- but an even greater return for society as a whole;
• There is a positive social value of raising the level of investment in technology and knowledge creation over that determined solely by the market;
• Technology and knowledge interact with a number of other factors, such as investment in equipment and education; and,
• Knowledge creation and technological innovation require special attention to institutional arrangements.