Innovation and Education are the Keys to Economic Growth

Services ... or manufacturing? Bio-tech ... or nano-tech? Climate ... or casinos? What really are the keys to improving economic growth? According to a study featured in the Federal Reserve Bank of Cleveland's 2005 Annual Report, differences in state income levels can be explained largely by two factors: innovation and workforce skills. The study's findings suggest that increasing a region's knowledge base should be a primary component of economic development strategies.

The study's authors, Reserve Bank economists Paul Bauer and Mark Schweitzer and Case Western Reserve University professor Scott Shane, examined a variety of factors that contributed to per capita income growth inthe 48 contiguous states from 1939 to 2004. The researchers found that the key measurable factors that explain income differences among states are patents and education.

They found that states with the highest levels of patents per capita also rank high in income, while most lower-income states have very low levels of patents. These results likely reflect more than just the value of the patents, say the researchers. In their interpretation, something about the states that rank high in patents makes them more active in generating innovation more generally. The researchers have not identified the specific sources of these advantages, but suggest, for example, that patents might be a proxy for success at commercialization of technology.

Educational attainment is also a good predictor of state income levels, say the researchers, who note that the three states that are the current education leaders -- Colorado, Connecticut, and Massachusetts - also stand out with regard to per capita income levels.

The researchers also found that industry specialization explained some of the growth differences among states over the period covered by the study. States with higher levels of manufacturing - including the newer manufacturing centers in the South such as Tennessee and Kentucky  --  tended to grow more slowly than would otherwise be predicted.

Do these results mean that industries like manufacturing no longer have a place? Not necessarily, say the researchers.

They explain that in the 1930s, manufacturing and high state income levels tended to go together. But the income advantage that manufacturing once had has been eliminated. The researchers say little correlation remains today between a state's manufacturing share and its income level. So there is no reason for states to avoid manufacturing, but there is also no reason to favor it over other economic activities.

Federal Reserve Bank of Cleveland

The Federal Reserve Bank of Cleveland is one of 12 regional Reserve Banks that along with the Board of Governors in Washington DC comprise the Federal Reserve System. Part of the US central bank, the Cleveland Fed participates in the formulation of our nation’s monetary policy, supervises banking organizations, provides payment and other services to financial institutions and to the US Treasury, and performs many activities that support Federal Reserve operations System-wide. In addition, the Bank supports the well-being of communities across the Fourth Federal Reserve District through a wide array of research, outreach, and educational activities.

The Cleveland Fed, with branches in Cincinnati and Pittsburgh, serves an area that comprises Ohio, western Pennsylvania, eastern Kentucky, and the northern panhandle of West Virginia.

Media contact

Doug Campbell, doug.campbell@clev.frb.org, 513.455.4479