Why are the citizens of some nations rich while the inhabitants of others are poor? It is surely true that ample endowments of energy, timber, and fertile land all help raise wealth. However, it turns out that natural resources are only a very small part of the answer. Far more important in determining the wealth of the citizenry are the fundamental political and legal institutions of a nation. Institutions such as political stability, secure private property rights, and legal systems based on the rule of law create the incentives that encourage people to make long-lived investments in improving land and other forms of physical and human capital. These investments raise the capital stock, which in turn provides for more growth long into the future. The cumulative effects of this growth over time eventually yield much higher standards of living: they make the citizens rich.

One way to increase a nation’s overall quantity of goods or services is to increase labour, capital or both. But that doesn’t continue growth. At some point, adding more labour only means that the goods and services these workers produce are divided between more workers. Hence, the output per worker – which is one way of looking at wealth of a nation – will tend to go down.

Similarly, adding more capital such as machinery or other equipment endlessly is also unhelpful, because those physical items tend to wear out or depreciate. A company needs frequent financial investment to counteract the negative effects of this wear and tear.