What is Incremental Capital-Output Ratio (ICOR)?

  • The Incremental Capital-Output Ratio (ICOR), is the ratio of investment to growth which is equal to 1 divided by the marginal product of capital.
  • Higher the ICOR, lower is the productivity of capital. The ICOR can be thought of as a measure of the inefficiency with which capital is used. In most countries the ICOR is in the neighbourhood of 3.
  • Overall, a higher ICOR value is not preferred because it indicates that the entity's production is inefficient. The measure is used predominantly in determining a country's level of production efficiency.
  • Some critics of ICOR have suggested that its uses are restricted as there is a limit to how efficient countries can become as their processes become increasingly advanced. For example, a developing country can theoretically increase its GDP by a greater margin with a set amount of resources than its developed counterpart can. This is because the developed country is already operating with the highest level of technology and infrastructure. Any further improvements would have to come from more costly research and development, whereas the developing country can implement existing technology to improve its situation.