Growth Accounting & the Solow Residual
Decomposing growth into capital, labor, and TFP, the measurement behind the theory.
Definition
Decomposing output growth into contributions from capital, labor, and the leftover, the Solow residual, read as total factor productivity.
Key equation
ΔY/Y = α·ΔK/K + (1−α)·ΔL/L + ΔA/A
The intuition
Weight each input's growth by its income share; whatever growth remains unexplained is 'technology', honestly, a measure of our ignorance. The famous finding: most cross-country income differences trace to TFPTFPTotal factor productivity: the output growth unexplained by capital and labor, technology, in the broadest sense., not capital.
Exam tip
Use factor SHARES as weights (α ≈ 0.3 for capital) and be ready to list what contaminates the residual: utilization, quality, mismeasurement.
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