Crash Course On China's Industrial Policy
Turns out industrial policy (especially China's) is a bit more holistic and evolutionary than people give it credit for
It was going to be a summary on the paper ("Decoding China's Industrial Policies" by researchers Hanming Fang, Ming Li, and Guangli Lu), but I found the paper so engaging, I decided to take the extra steps and turn it into a "crash course" to get people up to speed on how China does industrial policy. By analyzing 3 million government documents with LLMs (people often call it AI but it's not, but for the sake of getting through the course I stick with the AI), researchers have decoded China's vast industrial policy landscape, revealing how the economic giant successfully targeted strategic sectors.
Why it matters: Industrial policy is experiencing a renaissance globally. The (now short lived) CHIPS Act, (insufficient in my opinion) European Green Deal, and India's self-reliance push all borrow from China's playbook. Understanding this system, beyond visible subsidies, provides critical insights as Western economies embrace government intervention for the first time in decades.
The evolution of China's industrial policy: A twenty-year journey
China's approach to economic intervention unfolded in distinct phases, each shaped by domestic priorities and external pressures:
2000-2007: Decentralized experimentation
Gradual decline in top-down policy pass-through rates as local governments gained autonomy
WTO entry drove focus on export-oriented manufacturing and global integration
Provincial and city governments cited central directives with decreasing frequency
Coastal regions pioneered new policy tools that would later diffuse inland
2008-2012: Post-financial crisis expansion
Global economic downturn triggered massive stimulus package and policy intensification
Provincial governments emerged as key policy formulators, balancing central goals with local needs
Heavy emphasis on infrastructure investment and fiscal subsidies to maintain growth
City governments increasingly looked to provincial rather than central models
2013-2018: Xi Jinping centralization
Sharp reversal of decentralization trends as top-down governance strengthened
Central-to-local policy pass-through rates jumped significantly after years of decline
"Made in China 2025" established clear national priorities for technological advancement
Cities and provinces increasingly aligned target sectors with central directives
2019-2022: Technological self-reliance
"Dual circulation" strategy prioritized domestic supply chains amid international tensions
Industrial policy documents surged 30% compared to previous period
High-skill and emerging manufacturing sectors received unprecedented attention
Policy similarity across regions reached record levels, creating both coordination and overcapacity challenges
This chronological evolution reveals how China's industrial policy adapted to changing circumstances while maintaining remarkable consistency in its fundamental approach: central strategic guidance with local implementation flexibility.
KEY TAKEAWAYS:
China's industrial policy went through four distinct phases: decentralized experimentation (2000-2007), post-crisis expansion (2008-2012), Xi-era centralization (2013-2018), and technological self-reliance (2019-2022)
The trend toward decentralization reversed sharply after 2013, with increasing top-down policy implementation
Later periods saw much higher policy similarity across regions, creating both coordinated development and overcapacity problems
The big picture
For two decades, China deployed a sophisticated system where central authorities established strategic priorities while local governments experimented with implementation. This "Regionally Decentralized Authoritarianism" created both remarkable successes and significant inefficiencies.
By the numbers:
3 million government documents analyzed across central, provincial, and city levels
768,387 industrial policy documents identified using machine learning
21 distinct policy tools classified into five major categories
29% of policies targeted manufacturing, 40% production-related services
Only 41% used fiscal subsidies, challenging prevailing research assumptions
LLM/AI methodology: How the study decoded policy documents
The researchers pioneered unprecedented approaches to analyze policy documents at scale:
Dealing with the hallucination issue in LLMs
Traditional AI models struggle with long government documents, often "hallucinating" content that doesn't exist. The researchers developed a multi-stage verification process to ensure accuracy:
Decomposing complex questions into sequential steps, forcing the AI to tackle one element at a time
Requiring explicit citation of text passages supporting each conclusion
Verifying extracted information against the original document
Cross-checking outputs across multiple LLM models to identify inconsistencies
The keyword search limitation
The researchers directly compared their AI approach with traditional keyword methods:
Keyword searches identified only 328,495 industrial policies (versus 768,387 found by LLM)
Keyword methods missed policies using uncommon terminology or contextual descriptions
Traditional approaches could not extract relationships between policy elements
Manual verification confirmed AI's superior accuracy in identifying relevant documents
Extracting multidimensional information
The AI methodology enabled unprecedented information extraction:
Policy tone classification (supportive, regulatory, or suppressive)
Targeted industries mapped to standardized codes
Implementation tools categorized into structured framework
Intergovernmental relationships decoded from citation patterns
Evolution of policies tracked across time and regions
This methodological breakthrough has implications beyond industrial policy, offering a model for analyzing large government document collections across various domains.
KEY TAKEAWAYS:
Traditional keyword searches identified less than half the industrial policies found by LLM methods
The research team developed novel verification techniques to prevent AI hallucination when analyzing complex documents
The AI approach could extract multidimensional information impossible to capture with traditional methods
This methodology creates opportunities for similar large-scale analysis of government documents across fields
Breaking down China's industrial policy toolkit
China's approach transcends simple subsidies, deploying sophisticated tool combinations that evolved across regions, industries, and time. The research identified five major categories working in concert to transform the economic landscape.
1. Fiscal and Financial Tools — The foundation but not the whole story
These traditional monetary levers formed the backbone of support, but revealed surprising patterns in their deployment. Fiscal subsidies dominated city-level policies (48%) but appeared in only 25% of central policies, with wealthy coastal cities deploying larger but more targeted subsidies while inland regions offered broader but smaller support. In Shenzhen, for example, EV manufacturers received ¥3,000 per kWh of battery capacity, helping create a production hub.
Tax incentives showed a striking decline over time, falling from 32% in 2000 to 16% in 2020, and were nearly always paired with R&D support in high-tech sectors. Meanwhile, credit and finance interventions created lasting productivity gains through state-directed lending, increasing the probability of securing long-term debt by 2.3 percentage points. Though rarest among financial tools, equity support (appearing in just 5% of policies) delivered the strongest productivity effects (1.7% TFP increase), particularly through government guidance funds that took stakes in semiconductor firms.
2. Entry and Regulation Tools — Controlling who plays the game
The central government wielded market access and regulation as its primary lever (42% of central policies), both lowering barriers for domestic firms while restricting foreign competition. This approach declined from 55% to 31% of policies as economic liberalization progressed. Meanwhile, business environment improvement expanded rapidly after 2015 administrative reforms, with typical cities slashing approval requirements from 167 to 41 procedures. Industrial funds, entrepreneurship promotion, and trade protection completed this toolkit, each with distinctive regional and sectoral patterns.
3. Input Policy Tools — Addressing production bottlenecks
The research found technology R&D and adoption generated the highest overall productivity gains (2.1% TFP increase) among all policy tools, but required significant government expertise that limited effective implementation in less-developed regions. Labor policies were more prominent at city level (27%) than central (16%), with wage subsidies promoting employment but often decreasing productivity (-1.6% TFP effect), while talent programs targeting high-skilled workers showed more positive results. Infrastructure investment, environmental regulations, and preferential land arrangements rounded out this category, each playing distinctive roles in different contexts.
4 & 5. Demand Side and Supply Chain Tools — Ensuring market pull and ecosystems
Through industrial promotion events, government procurement programs, and consumer subsidies, these tools ensured market demand for targeted industries, with consumer subsidies growing significantly after 2015. On the supply chain side, industrial clusters (14% of policies) generated substantial productivity increases (1.5% TFP gain) through knowledge spillovers, while localization policies built domestic supply networks—though sometimes at the cost of creating regional protectionism.
How tools work together: The policy bundle effect
The true power of China's approach lay in tool combinations—policies employing three or more complementary tools boosted firm productivity 2.3 times more than single-tool approaches. These bundles evolved systematically over industry lifecycles: entry-stage policies typically combined fiscal subsidies with land arrangements and entrepreneurship support; growth-stage bundles shifted toward R&D and talent development; while maturity-stage approaches emphasized clustering, supply chain integration, and consumer-oriented demand stimulation. This lifecycle-specific bundling created comprehensive support ecosystems tailored to each development phase.
KEY TAKEAWAYS:
China deployed 21 distinct policy tools across five categories: fiscal/financial, entry/regulation, input, demand-side, and supply chain
Contrary to common perception, only 41% of industrial policies used fiscal subsidies
Different government levels favored different tools: central focused on regulation, cities on subsidies
Policy bundles with 3+ complementary tools were 2.3× more effective than single-tool approaches
Tool selection evolved systematically over industry lifecycles from entry support to upgrading
Spotlight: Signature industry case studies
The semiconductor saga: Two decades of persistence
China's semiconductor strategy illustrates the full spectrum of policy tools and their evolution:
Initial phase (2000-2008): Manufacturing foundation
Tax holidays (5-10 years) established for production facilities
Preferential land allocation in dedicated parks like Shanghai's Zhangjiang Hi-Tech Park
Direct subsidies covered 25% of capital equipment costs
Implementation heavily reliant on local initiative, creating uneven development
Middle phase (2009-2016): Design capability building
R&D subsidies shifted focus from manufacturing to chip design
Talent programs recruited overseas Chinese engineers with housing benefits
Government procurement guaranteed markets for domestic designs
Implementation increasingly coordinated between central and local governments
Recent phase (2017-2022): Full supply chain integration
Equity investments through government guidance funds surged
Industrial clusters enhanced knowledge sharing between design and manufacturing
Consumer subsidies encouraged domestic chip adoption in key applications
Implementation became more centralized following international sanctions
The semiconductor case reveals both strengths and limitations of China's approach—significant progress in creating a domestic industry, but persistent gaps in cutting-edge capabilities despite massive investment.
Electric vehicle ecosystem: From consumer subsidies to industrial transformation
China's EV strategy demonstrates how policy tools target different leverage points over time:
Consumer-driven phase (2009-2014)
Purchase subsidies reached ¥60,000 per vehicle
Local governments added matching subsidies, creating cumulative incentives
Tax exemptions eliminated 10% purchase tax
Implementation fragmented, with cities competing through different incentive levels
Infrastructure-building phase (2015-2018)
Charging network investment became priority
Land allocation for facilities received preferential treatment
Local procurement policies required government fleets to buy EVs
Implementation more coordinated, with standardized charging protocols
Supply chain integration phase (2019-2022)
Battery technology R&D support intensified
Industrial clusters around battery production hubs established
Export promotion targeted foreign markets
Implementation increasingly aligned with national dual circulation strategy
The EV case demonstrates the dynamic nature of China's industrial policy, continually adapting tools as the industry progressed from market creation to technological advancement to global competitiveness.
Solar energy: The overcapacity cautionary tale
China's solar industry highlights both the successes and pitfalls of industrial policy:
Export-oriented phase (2007-2012)
Tax rebates incentivized export-focused production
Credit guarantees enabled rapid capacity expansion
Land subsidies attracted manufacturing facilities
Implementation dominated by provincial competition for investment
Trade dispute adjustment (2013-2016)
Domestic installation subsidies pivoted from export to home markets
Government procurement of solar installations increased
Infrastructure investment in grid integration expanded
Implementation struggled with interprovincial coordination
Overcapacity correction phase (2017-2022)
Industrial consolidation policies encouraged mergers
Environmental regulation increased quality standards
Consumer subsidies gradually reduced to promote market forces
Implementation increasingly focused on managing excess capacity
The solar case reveals a critical industrial policy risk: when multiple regions simultaneously target the same sector with similar tools, the resulting overcapacity can undermine the very industries being supported.
KEY TAKEAWAYS:
Each industry received a custom-tailored policy approach that evolved as the sector developed
Semiconductor policies shifted from manufacturing to design to supply chain integration over two decades
EV policies progressed from consumer subsidies to infrastructure to technology development
Solar energy policies caused overcapacity problems through excessive regional competition, requiring later correction measures
Policy mechanisms: How China's industrial policy actually works
The study reveals multiple causal pathways through which policies influence firm behavior:
Entry incentive mechanisms
Many tools specifically lower barriers to entry:
Fiscal subsidies reduce initial capital requirements
Land allocation overcomes scarcity constraints
Business environment reforms cut transaction costs
Tax holidays improve early-stage cash flow
The study found these mechanisms increased entry rates by 4.4-6.7% depending on the specific tool, creating both vibrant competitiveness and potential overcapacity.
Productivity enhancement mechanisms
Certain tools specifically target efficiency improvement:
R&D support enables process innovation
Technology adoption subsidies promote modernization
Talent programs improve human capital quality
Clustering creates knowledge spillovers
These mechanisms improved TFP by 1.5-2.1% but often with limited duration (1-2 years), suggesting the need for continuous policy evolution to sustain productivity growth.
Implementation and adaptation mechanisms
The study identifies several pathways for policy effectiveness:
Target-setting creates clear objectives for local officials
KPI systems translate goals into measurable outcomes
Learning systems disseminate successful approaches
Piloting allows experimentation before wider adoption
These mechanisms reveal why similar policies often produced different results—implementation quality matters as much as policy design.
Intergovernmental coordination mechanisms
The research uncovered how different government levels interact:
Policy citation networks reveal information flows
Personnel rotation spreads ideas between regions
Funding requirements enforce central-local alignment
Promotion incentives reward policy adoption
These mechanisms explain both the strengths of China's approach (rapid diffusion of successful policies) and its weaknesses (harmful policy mimicking).
KEY TAKEAWAYS:
Industrial policies work through four main causal pathways: entry incentives, productivity enhancement, implementation/adaptation, and intergovernmental coordination
Entry mechanisms successfully increased new firm formation by 4.4-6.7% depending on the tool used
Productivity effects were positive but typically short-lived (1-2 years), requiring ongoing policy evolution
Implementation quality often determined success more than the specific policy design
The political economy of industrial policy
The research uncovered powerful patterns shaping how and why China deployed industrial policies in particular places and sectors:
Economic rationality in targeting
Cities predominantly targeted sectors with comparative advantage:
Strong correlation (0.35) between revealed comparative advantage and policy targeting
More developed regions showed stronger correlation (0.52) than less developed areas (0.21)
The relationship strengthened over time as policy learning accumulated
Regions with greater administrative capacity made more economically rational choices
Political incentives shape implementation
Political dynamics profoundly influenced local policy choices:
Cities in provinces with more cities (greater promotion competition) showed 16.3% stronger alignment with provincial directives
Officials with personal connections to higher authorities displayed 14% greater policy independence
Political turnover disrupted policy continuity, with 5% lower persistence during leadership changes
New leaders often imported policies from their previous posts, creating a personnel-driven diffusion mechanism
Policy similarity and local protectionism
As policies diffused geographically, problematic patterns emerged:
Cosine similarity of targeted industries across cities within provinces increased from 0.12 to 0.41 over the study period
Higher policy similarity correlated strongly (0.37) with local protectionism in intercity trade
Intra-city trade as a share of total trade rose with policy similarity
Cities with similar industrial policies traded less with each other, suggesting reduced complementarity
Pioneer versus follower dynamics
The sequencing of policy adoption created systematic efficiency differences:
Pioneer cities (first 20% to target a sector) saw 31% higher productivity gains than followers
Entry increases were 42% larger in pioneer cities compared to late adopters
Pioneer cities more frequently combined complementary tools (average 4.2 tools versus 2.8 for followers)
Pioneer cities showed stronger correlation between targeting and local comparative advantage
These political economy findings reveal the complex interplay between economic rationality, political incentives, and policy diffusion that shaped China's industrial policy outcomes.
KEY TAKEAWAYS:
Cities typically targeted industries where they had comparative advantage, but this relationship was stronger in more developed regions
Political incentives significantly influenced policy implementation—officials in competitive environments followed upper governments more closely
Policy similarity across regions increased dramatically over time, correlating with higher local protectionism
Early adopters of industrial policies for specific sectors (pioneer cities) achieved 31% higher productivity gains than followers
Measuring effectiveness: The balance sheet
The research combined policy data with firm-level records to create a detailed assessment of industrial policy impacts across multiple dimensions. On the financial side, firms in targeted industries received substantial benefits: effective tax rates dropped by 5 percentage points, subsidy levels increased by 6%, and access to long-term debt improved by 2.3 percentage points. However, these benefits weren't evenly distributed—larger companies consistently captured disproportionate shares, with fiscal benefit size strongly correlating with firm registered capital.
Entry effects varied dramatically by tool type. Fiscal subsidies proved most effective at increasing new firm formation (6.7%), followed by labor policies (4.8%) and preferential land arrangements (4.4%). Interestingly, some interventions produced opposite effects—environmental regulations reduced entry by 3.6% while trade protection decreased new firm formation by 2.9%, revealing complex tradeoffs between different policy objectives.
Productivity impacts showed equally nuanced patterns. R&D support generated the largest TFP gains at 2.1%, with equity financing (1.7%) and cluster policies (1.5%) also delivering significant improvements. In contrast, labor subsidies actually reduced productivity by 1.6%, highlighting how policies that boosted employment sometimes undermined efficiency. Most productivity improvements lasted only 1-2 years before fading, suggesting challenges in sustaining long-term impacts without continuous policy evolution.
Regional variations revealed stark patterns in which areas benefited most. Coastal regions captured 68% of all measured productivity gains, while inland areas saw higher entry effects but weaker efficiency improvements. Policy effectiveness correlated strongly with local administrative capacity—more developed cities implementing identical policies achieved significantly better outcomes. Places with stronger initial revealed comparative advantage showed systematically better results, suggesting that policies worked best when reinforcing existing strengths rather than attempting to create entirely new industrial capabilities.
KEY TAKEAWAYS:
Industrial policies substantially benefited targeted firms through reduced taxes, increased subsidies, and improved financing access
Different tools had dramatically different effects: fiscal subsidies boosted entry by 6.7%, while R&D support increased productivity by 2.1%
Productivity gains typically lasted only 1-2 years, requiring continuous policy evolution
Benefits were unevenly distributed, with coastal regions capturing 68% of productivity improvements
Natural experiments within the Chinese system
The study's comprehensive data revealed multiple natural comparison points that generate crucial insights without requiring external controls. The differences in how governments at various levels deployed the same policy tools created a natural experiment in central versus local implementation approaches. Central authorities consistently emphasized regulatory tools (42% compared to 24% at city level) and focused on strategic industries, while provincial governments functioned as policy intermediaries, adapting central directives to regional conditions. City governments prioritized fiscal tools (48% compared to 25% at central level) and infrastructure development, with more localized implementation correlating with higher firm entry rates but generally lower productivity gains.
Administrative capability created stark differences in outcomes between high and low capacity regions. Areas in the top quartile of administrative capability showed 2.3 times greater productivity effects from identical policies compared to bottom quartile regions. Low-capacity areas achieved stronger entry effects but weaker efficiency gains, highlighting an important tradeoff. High-capacity regions typically deployed more sophisticated tool combinations and showed better targeting of sectors with comparative advantage. Interestingly, administrative capability mattered significantly more for complex tools like R&D support programs than for straightforward interventions like fiscal subsidies.
The 2013 shift toward recentralization created another natural experiment in before-and-after policy dynamics. Policy similarity across regions increased 68% post-2013 as local governments more closely followed central directives. Productivity effects declined 23% as policies became less tailored to local conditions, though entry effects increased 17% as stronger implementation capacity was mobilized from the top down. The proportion of suppressive/regulatory policies declined from 36% to 24%, reflecting the central government's increased emphasis on supportive measures during this period.
Perhaps most revealing was the comparison between pioneer and follower regions in policy adoption sequencing. Early adopter regions (first 20% to target a sector) showed substantially higher returns on identical policies compared to late adopters, with productivity gains 31% higher and entry increases 42% larger. While followers often used similar tools, their implementation proved less effective, and they frequently targeted industries with weaker local comparative advantage. The productivity gap between pioneers and followers widened over time, suggesting cumulative advantages from early policy adoption.
KEY TAKEAWAYS:
The study identified four natural experiments within China's system: central vs. local implementation, high vs. low capacity regions, before vs. after 2013 centralization, and pioneer vs. follower cities
Administrative capacity was crucial—high-capacity regions saw 2.3× greater productivity effects from identical policies
The 2013 centralization shift increased policy similarity by 68% but decreased productivity effects by 23%
Pioneer cities achieved 31% higher productivity gains and 42% larger entry increases than followers implementing similar policies
Practical lessons for future industrial policy
The study yields specific insights highly relevant for policymakers worldwide now embracing industrial strategies. Effective tool selection emerged as a foundational principle; successful approaches matched tools to industry development stage, combined complementary instruments for synergistic effects, and considered local implementation capacity constraints. The research demonstrated how China systematically adjusted its tool mix as industries matured, planning for evolution from direct subsidies toward market-enhancing mechanisms as sectors developed. This dynamic approach proved far more effective than static policy frameworks.
Creating coordination mechanisms to prevent overcapacity emerged as another critical lesson. China's experience revealed both successes and failures in this domain. When properly implemented, information-sharing systems between regions, capacity approval processes, and differentiated regional roles based on comparative advantage helped prevent harmful duplication. However, the study documented numerous cases where these mechanisms failed, resulting in severe overcapacity in sectors like solar panels, steel, and electric vehicles. Implementing sunset provisions for support policies and establishing monitoring systems for industry-wide capacity metrics proved crucial for sustainable industry development.
Implementation prerequisites constituted a third key insight area. Regions that built administrative capacity before deploying complex policies significantly outperformed those that didn't. Establishing clear metrics that evolved with industry development—shifting from quantity to quality indicators as sectors matured—drove better outcomes. Creating formal learning systems to disseminate successful approaches, training officials in industry-specific knowledge, and designing incentives for appropriate targeting rather than blind mimicking all contributed to more effective implementation.
The study also identified common pitfalls to avoid. Preventing harmful policy mimicking through differentiated regional roles proved essential but challenging. Many regions fell into traps: excessive focus on entry at the expense of productivity; overemphasis on incumbent support at the cost of new entrant opportunities; and failure to incorporate market-based selection mechanisms as industries matured. Perhaps most importantly, many local governments struggled to recognize when to phase out support, continuing subsidies long after sectors had reached maturity, creating dependency rather than self-sustaining competitive advantage.
KEY TAKEAWAYS:
Success requires matching tools to industry development stage and systematically evolving support as sectors mature
Preventing overcapacity demands coordination mechanisms between regions and clear capacity monitoring
Administrative capacity building must precede complex policy implementation
Common pitfalls include harmful policy mimicking, failure to transition from quantity to quality metrics, and inability to phase out support at appropriate times
Between the lines
China's industrial policy success stemmed not from simple subsidies but from a sophisticated system evolving with industry development stages and local conditions. Central authorities provided strategic direction while local governments experimented with implementation—a model other countries now rush to adapt without fully understanding its complexity or pitfalls.
This first comprehensive view reveals a system far more nuanced than Western caricatures suggest. China's approach combined central strategic guidance with local experimentation, creating both remarkable successes in building new industrial capabilities and the willingness to endure significant inefficiencies in resource allocation if it means getting the capacity to produce what they want.
The bottom line: China's experience demonstrates that effective industrial policy requires far more than government funding. It demands sophisticated institutional capabilities, strategic tool selection, dynamic adaptation, and mechanisms to prevent harmful policy competition. Countries now embracing industrial policy would do well to learn from both China's achievements and its costly mistakes.
Glossary of Key Terms
Administrative capacity: The government's ability to effectively implement complex policies, including skilled personnel, data systems, and coordination mechanisms.
Comparative advantage: A region's relative efficiency in producing certain goods compared to other regions, measured by higher productivity or resource suitability.
Cosine similarity: A mathematical measure (0-1) of the similarity between two vectors; in this study, used to quantify how similar industrial policy targets were across different cities.
Dual circulation strategy: China's post-2019 economic framework emphasizing both domestic demand ("internal circulation") and international markets ("external circulation"), with increased focus on self-reliance.
Industrial cluster: Geographic concentration of interconnected businesses, suppliers, and associated institutions in a particular field, often promoted through policy to generate knowledge spillovers.
Industrial fund: Government-backed venture capital or investment fund targeting specific sectors, providing equity financing for strategic industries.
KPI (Key Performance Indicator): Quantifiable measures used to evaluate the success of an organization or policy in meeting objectives; in China, often used in cadre evaluation systems.
Local protectionism: Policies or practices that protect firms in a local jurisdiction against competition from other regions within the same country.
Pass-through rate: The degree to which local governments adopt and implement policies initiated by higher-level governments.
Pioneer vs. follower cities: Classification based on timing of policy adoption, with pioneers being among the first 20% to target a specific sector and followers implementing similar policies later.
Policy bundle: Combination of complementary policy tools deployed simultaneously to support a target industry, typically more effective than individual tools used in isolation.
Revealed comparative advantage (RCA): An empirical indicator of a region's comparative advantage demonstrated by its existing production patterns relative to the national average.
Smart specialization: The concept that regions should focus policy support on areas where they have existing strengths or comparative advantage rather than mimicking successful sectors from elsewhere.
TFP (Total Factor Productivity): A measure of economic efficiency calculated as output divided by the weighted average of inputs (labor and capital); increases indicate producing more with the same resources.