How Technology, Institutions and R&D Shape Long-Term Economic Growth

Technology does not raise productivity simply because economies acquire newer machines, digital systems or research capacity. Its growth impact depends on whether knowledge can be created, absorbed, diffused and converted into more efficient production.

Published in Sustainability,a new study "The Economics of Technology and Growth: Technological Innovation, Institutional Quality, and Economic Performance in Central and Eastern European Countries" by Naib Alakbarov and Murat Gündüz tests this broader proposition by examining how capital accumulation, institutional quality and R&D capacity jointly shape output per worker across eight economies over 1996–2023.

The findings push the growth debate beyond the familiar choice between investment and innovation. Physical capital remains important, but the explanatory power of the model strengthens when economic freedom and R&D capacity are added, suggesting that technology delivers larger and more durable gains when it is supported by institutions that improve incentives, resource allocation and investment conditions.

The study also finds a positive association between the post-2004 integration period and productivity, while explicitly cautioning that this should not be read as a simple causal effect of EU membership. The wider message is that the economics of technology is ultimately about capability: the ability of an economy not only to invest in technology, but to turn knowledge, institutions and innovation into sustained productivity growth.

Capital still drives growth, but it no longer tells the whole story

The researchers build on the traditional Solow growth model, which emphasizes capital accumulation and technological progress as central determinants of long-run output. They then extend that framework by adding economic freedom as an institutional variable, R&D capacity as an innovation measure, and a post-2004 indicator designed to capture the structural shift associated with deeper European integration.

The dataset contains 224 observations across eight countries, with 28 annual observations for each economy. GDP per person employed represents labour productivity, gross capital formation per employed worker acts as a proxy for capital accumulation, researchers engaged in R&D per million people capture innovation capacity, and the Economic Freedom Index is used to represent institutional conditions.

Capital performs exactly as growth theory would predict. Its coefficient remains positive and statistically significant across all four model specifications, declining from 0.5834 in the baseline model to 0.4792 when institutional quality and R&D capacity are included together. The decline is revealing because it suggests that some productivity gains initially associated with capital are also linked to the wider environment in which capital operates.

So, investment appears necessary without being sufficient. A machine, industrial park or logistics network expands productive capacity, but its economic value depends on whether firms can deploy technology efficiently, whether institutions support investment and entrepreneurship, and whether the economy can absorb and generate knowledge. Capital deepening remains the foundation, but the study places greater emphasis on the systems that determine its productivity.

Institutions and innovation work best as complements

The study finds that economic freedom and R&D capacity improve the explanatory performance of the traditional growth framework. The fully augmented model, which combines capital accumulation, economic freedom and R&D capacity, records an average R² of 0.9782, compared with 0.9415 for the baseline Solow specification.

Economic freedom is positively associated with output per worker in the augmented specifications, while R&D capacity also remains positive and statistically significant. In the fully extended model, the economic-freedom coefficient is 0.5652 and the R&D coefficient is 0.2545. The researchers interpret the pattern as evidence that institutional quality and innovation are not isolated growth channels but complementary forces.

The logic is important for policy. R&D spending can expand scientific and technological capability, yet research does not automatically translate into commercial innovation. Firms still need predictable rules, functioning markets, investment incentives and effective mechanisms for moving knowledge from universities and laboratories into production.

Institutions, in turn, cannot generate technological progress on their own. Better property rights, regulatory stability and market efficiency may create stronger incentives, but productivity gains also depend on whether firms and workers possess the capabilities needed to adopt, adapt and improve technology. Consequently, the study points toward a development model in which institutional reform and innovation policy reinforce each other.

Europe's integration effect should not be mistaken for simple causality

The post-2004 period is positively associated with higher productivity across the model specifications, reflecting a period in which much of Central and Eastern Europe became more deeply integrated into European markets, capital flows, institutional systems and production networks. Yet the authors are careful not to treat the result as a direct causal estimate of EU membership.

The post-2004 variable does not correspond exactly to each country's accession date. Five countries in the sample joined the EU in 2004, Bulgaria and Romania joined in 2007, and Croatia followed in 2013. The coefficient therefore captures a broader regional transformation rather than the isolated effect of membership itself.

Several processes were occurring at once: deeper trade integration, greater foreign direct investment, institutional reform, technological convergence and policy change. The study argues that these shifts collectively contributed to the productivity environment, while explicitly cautioning against reading the coefficient as a clean measure of accession impact.

Country-level results reinforce the need for restraint. Capital accumulation is positively and significantly associated with output per worker in all eight economies, but the effects of economic freedom and R&D vary considerably. Economic freedom is statistically significant in Bulgaria, Croatia, Poland and Romania, while R&D employment shows stronger effects in Bulgaria, Romania, Slovakia and Slovenia, with weaker or insignificant relationships elsewhere.

Such differences show why uniform policy prescriptions are risky. Similar investments in research systems or institutional reform can produce different outcomes depending on industrial structure, technological capability, labour skills and the ability of domestic firms to absorb external knowledge.

The development lesson is about capability, not simply spending

The policy implications are not limited to Europe. Governments seeking faster growth often focus on increasing investment ratios, attracting foreign capital or expanding infrastructure. The study suggests that a more durable strategy requires attention to the domestic capabilities that determine what happens after investment arrives.

For Central and Eastern Europe, the authors point to better use of structural and cohesion funds, fewer administrative barriers, regulatory stability and stronger property-rights protection. They also call for higher R&D investment, stronger university-industry cooperation, better scientific and technical education, competitive research funding, innovation grants and support for technology-oriented entrepreneurship.

The Global South relevance is particularly significant, although it should be treated as an analytical extension rather than a direct empirical finding of the study. Economies attempting technological catch-up may gain less from imported capital if domestic firms lack the skills, research links and institutional conditions needed to absorb technology and move into more sophisticated production.

The findings also need to be read alongside important limitations. The sample includes only eight countries; economic freedom and R&D researchers are relatively narrow proxies for complex institutional and innovation systems; reverse causality cannot be fully excluded; EU accession occurred at different times; and major common shocks such as the global financial crisis and COVID-19 are not explicitly isolated. The authors also note that channels such as FDI, EU funds, technology transfer and trade integration are discussed but not directly tested.

The authors suggest broader country samples, alternative measures of governance and technological capability, and stronger causal methods such as instrumental-variable approaches, dynamic panel models, event studies and difference-in-differences designs. Such work could help determine not only whether institutions and innovation are associated with higher productivity, but also which specific reforms and technological channels generate the strongest effects under different economic conditions.