# 1. Introduction

The global economy regained some strength over the period between mid-2016 and 2018 but potential output growth—the rate at which an economy would grow when labor and capital are fully employed—has continued to remain weak (Figure 1). Post-crisis (201317), global potential growth fell short of its long-term average and was well below its precrisis average. This weakness was broad-based, affecting both advanced economies, where it was evident even before the financial crisis, and emerging market and developing economies (EMDEs), where there was a short-lived pre-crisis uptick.

Since the growth rate of per capita potential output is the overriding long-run force for sustained reductions in poverty, this trend is also cause for concern about the international community’s ability to meet broader development goals.<sup>1</sup> In some regions, especially commodity-exporting ones, such as Eastern Europe and Central Asia, and the Middle East and North Africa, the post-crisis slowdown in potential growth could set back per capita income convergence by more than a decade.

Against this backdrop, this paper addresses the following questions. First, how has potential growth evolved since the turn of the century? Second, what have been the drivers of potential growth? Third, what are the prospects for potential growth? Fourth, what policy options are available to lift potential growth?

To help answer these questions, the paper examines the evolution of potential growth in a large sample of countries, with a strong regional focus. Since potential output is not directly observable, economists estimate it from long time series of actual output, employment, capital stocks, and productivity. The paper uses a comprehensive database of potential output growth by Kilic Celik et al. (forthcoming).<sup>2</sup> For clarity, and in keeping with a longer-term focus, this study uses the production function approach.<sup>3</sup> This paper makes several contributions to the large literature on potential growth. First, the focus in this study is on the broader EMDE universe, whereas other studies have documented a potential growth slowdown in advanced economies and Asian economies. (IMF 2015; Dabla-Norris et al. 2015; Asian Development Bank 2016; and OECD 2014). Second, the paper examines global trends in the structural drivers of potential growth, including total factor productivity (TFP) growth, labor supply growth, and investment in human and physical capital. Third, it explores policy options to lift potential growth. These include measures to improve education and reforms to health care and labor

> 1 Research suggests that two-thirds of cross-country differences in growth of the poorest households’ income are accounted for by differences in average income growth (Dollar, Kraay, and Kleineberg 2013; Barro 2000). Mechanisms by which overall growth helps reduce inequality differ but include its impact in raising the demand for agricultural output which helps poor land holders, as well as rising urbanization and higher wages (Yankow 2006; Gould 2007; Ravallion and Datt 2002).

> 2 Most of the existing literature on potential growth involves estimating the role of output gaps in driving inflation or domestic monetary policy in the context of individual countries (in about half of 67 publications for individual EMDEs surveyed by the authors).

> 3 Other measures of potential growth incorporate short-term supply shocks that dissipate over time (Kilic Celik et al. forthcoming).

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