Does the mix of physical and human capital investment matter for growth and the labor share?

Economic growth is often imagined as a simple equation: more machines and more workers lead to more wealth. For decades, economists have understood that technology plays a starring role in this story, acting as the engine that allows a society to produce more with the same amount of effort. But a deeper question has lingered: does it matter how a society chooses to build its future? Specifically, does the balance between investing in physical things—like factories, roads, and machinery—and investing in people—through education, health, and skill development—change the outcome? This question is not just about the total amount of money spent, but about the recipe itself. If a nation pours resources into building new infrastructure while neglecting the training and health of its workforce, does that investment still pay off? And how does this mix influence the share of national income that goes to workers versus the owners of capital?

Two researchers, Guay Lim from the University of Melbourne and Paul McNelis from Boston College, set out to answer these questions by looking at the United States economy over a long stretch of time, from 1960 to 2023. They constructed a detailed mathematical model of the economy that treats physical capital and human capital as distinct but linked forces. In their framework, human capital is not just the number of hours people work, but the accumulated knowledge, skills, and health that make those hours productive. They also accounted for the fact that governments play a massive role, spending tax revenue on both infrastructure and social services like education and healthcare. By feeding decades of real-world data into their model, they were able to trace how different types of shocks—sudden changes in technology, shifts in tax policy, or fluctuations in how efficiently money turns into useful assets—rippled through the economy to affect both overall growth and the portion of income workers receive.

The researchers found that the mix of investment matters profoundly, and not just in a minor way. Their analysis reveals a distinct asymmetry in how these two types of capital interact. Increasing the stock of physical capital, such as building more factories or upgrading machinery, does not automatically lead to higher economic growth if the human capital available to run those machines does not improve at the same time. In other words, a new machine is less productive if the workers operating it lack the necessary skills or health to use it effectively. Conversely, the study suggests that increasing investment in human capital—spending more on education and health—can support economic growth even when the accumulation of physical capital is relatively slow. This finding challenges the traditional view that simply building more infrastructure is the primary driver of prosperity, highlighting instead that the two forms of capital are deeply complementary.

This dynamic has significant consequences for the labor share, which is the fraction of the nation's total income that goes to workers in the form of wages. The researchers discovered that the efficiency with which investment is converted into actual capital is a major driver of cyclical changes in this share. For instance, during the period following the global financial crisis, a decline in the efficiency of physical capital investment played a significant role in pushing the labor share below its long-term average. The study also examined the role of government policy, specifically tax rates and how public funds are allocated between physical and human projects. Their simulations indicate that fiscal policies that encourage a higher share of spending on human capital can boost overall output, whereas policies that skew heavily toward physical investment without a corresponding rise in human capital may fail to generate the same growth benefits.

The authors also looked at the broader picture of market power and concentration, noting that the gap between what workers are paid and the value they produce has widened in recent decades, a trend often associated with increased market power among large firms. However, their core contribution remains the demonstration that the composition of investment is a critical, yet often overlooked, variable. The study suggests that under normal conditions, innovations in infrastructure and technology tend to occur alongside improvements in education and health, reinforcing the idea that these elements develop in tandem. But when these trends diverge, as they did sharply during the pandemic, the economic consequences are distinct. Ultimately, the work implies that macroeconomic policy has a vital role to play alongside microeconomic interventions. By rebalancing public expenditure and adjusting tax settings to favor the development of human capabilities, policymakers can influence not just the speed of economic growth, but also how the fruits of that growth are distributed between workers and capital owners. The evidence points to a clear conclusion: the path to a prosperous economy depends as much on the quality of the workforce as it does on the quantity of the machines they use.