Tuesday, 16 April 2013

The Fall and Rise of Industrial Policy

By Roger Williamson

I recently attended an exciting event at the LSE launching a book on Pathways to Industrialization in the Twenty-First Century.

We were told that industrial policy used to be a four letter word at the World Bank, according to Joseph Stiglitz – former Chief Economist. But now the tide is turning. On the day of the book launch, the Financial Times had an editorial urging the UK government to have a “more activist approach towards industrial policy” if George Osborne is serious about manufacturing and his “march of the makers”.

In the new book, Weiss defines the key term thus: “…industrial policy is used here in the sense of policy interventions designed to affect the allocation resources in favour of industry (principally manufacturing) as distinct from other sectors.” (Weiss p. 393). As Rodrik stresses – the “how” is harder than the “why” (see Acs and Naude p 388)

Hosted by Professor James Putzel on behalf of the LSE’s International Development Department, the session had a strong line up of the book’s three editors, Wim Naude, Adam Szirmai (both Maastricht and UNU-MERIT) and Ludovico Alcorta (UNIDO) as well as the long-term industry editor of the Financial Times, Peter Marsh. I finished the two hour session with twenty pages of scribbled notes and a head full of ideas.

Naude stressed that the challenges of this century are not those of the past – countries looking to industrialize in the 21st century face new challenges and a more crowded field. He gave us 12 reasons why it is important to make things “you can drop on your foot” (The Economist) i.e. real goods – stuff you can use. Quite simply, people need things which don’t come straight from nature in order to stay alive and enjoy life. Manufacturing provides productivity gains and the benefits of agglomeration and specialization. Especially now we have reached “The Urban Century” (see the Rockefeller Foundation publication on the subject) manufacturing will be more, not less, important. He also gave a taste of the chapters from the book.

Szirmai provided us with some solid facts and figures. In the three decades from 1980, developing world share of manufacturing has risen from 14% to 42% - but most of that growth has been in China and the four Asian tigers (Hong Kong, Singapore, South Korea and Taiwan). His chapter argues the “case for manufacturing” as the primary engine of growth. There is an empirical correlation between “the degree of industrialization and the levels of per capita income in developing countries”. Productivity is higher in manufacturing than agriculture. There is a “structural change bonus” in moving labour from agriculture to manufacturing, and a “structural change burden” in a shift from manufacturing to services. Manufacturing offers particular “opportunities for capital accumulation” and economies of scale.

Furthermore there are opportunities for “embodied and disembodied technological progress”; linkages and spillover effects are stronger than in agriculture or mining. “As per-capita income rises, the share of agricultural expenditures in total expenditures declines and the share of expenditures ion manufactured goods increases ( Engel’s law).” (pp. 54-5) In the chapter Szirmai examines and comments on these eight elements. In his brief statement at the meeting, Szirmai drew out some implications of the new 21st century situation. Distributed production offers chances to get a niche in one sector – but there is a danger of getting stuck there  – e.g. Mexico and assembly activities. There is shrinking policy space – but one issue which could be re-introduced is non-reciprocity which was allowed in GATT but not under the WTO rules. Jobless growth remains a threat – even rapid industrialization will not absorb enough labour. Keeping abreast of technological advances and dealing with the additional burden of climate change make industrialization harder in the 21st century. His conclusion at the meeting: “Industrial policy is more urgent than ever, but it may be more difficult to implement than before”.

Acorta’s presentation provided the title for this blog. He also introduced the Stiglitz quote above and pointed out that President Obama is now into industrial policy (in response to the crisis in the auto industry) and that Germany has long done industrial policy better than most. In UNIDO’s view, every country needs a long-term strategy vis-à-vis the world economy to enable it to structure its industry and achieve better prospects for it. This should not be old-style state industry, or long-term unsustainable subsidies. Local differences matter, so no “one size fits all”. Industrial policy must be both supporting and challenging – subsidies must generate returns and have built-in sunset clauses. Policy effectiveness and sustainability are key – hence the need for feasibility studies. Industrial policy must be evidence-based, with feedback loops. It must also be environmentally sustainable. There are still major inefficiencies (for example in energy use) within companies – life-cycle analysis is essential. There are opportunities for green diversification – for example, the emerging South African solar industry. Perhaps in middle income countries, especially the BRICS, there are opportunities for R&D subsidies for green innovation. Green procurement can also be more widely used.

Peter Marsh told us a bit about his background – his chemistry student’s fascination with the periodic table, 180 elements of which 100 are readily available.  These have been combined into literally billions of objects. He boiled manufacturing down to a neat formula – as the combining of “materials + energy + ideas”. With manufacturing capacity goes up and prices go down. Particularly in the service sector, labour productivity is a restraint – as Baumol pointed out, it still takes four people to play a Beethoven string quartet (the answer of the Reduced Shakespeare Company may be fun, but it’s not universally applicable). In an entertaining, erudite and well-illustrated presentation he laid out some of the characteristics of what he calls the “fifth industrial revolution”.  (Two asides - many in Africa must be thinking that to be allowed one would be nice; and if you want to know what the other four are – get the book) Hallmarks of this 5th stage are: blended technologies, mass personalization/customization; a focus on specialisation and niches; environmental stewardship; the service dimension; global networking; cluster dynamics and the new geography of production. Peter Dicken’s classic Global Shift is a good complement to this analysis.

Some further notes on the event. It was well-attended though it’s out of term-term and exams are looming. A lot of lively and intelligent questions from students as well as some of us old(er)-timers with a well-ground axe or two. The discussion took off around sub-Saharan Africa. Was there much to encourage most of the continent? Is industrial policy just wishful thinking for these countries? John Page’s chapter in the book is challenging. Four decades of false starts and lost opportunities are dismissed as follows:  “The state-led, import-substitution strategies of the 1960s and 1970s produced industry without efficiency…The adjustment policies of the 1980s and 1990s, however, produced efficiency without industry”. (p. 258). 

Where next?
Szirmai stressed the encouraging growth rates since 2000 in a number of economies such as Rwanda, Ethiopia, Ghana, Mozambique and Angola.  It is quite clear that both agriculture and industrialization need help in Africa – but can one discern viable pathways? (Of course competing histories of industrialization in Europe also come into play here – did an agricultural revolution drive up productivity per labourer and force rural people (or free them up) to look for work in cities – or were the technological advances in agriculture and industry always linked in a more synergistic way?). Young Africans, it is frequently reported, do not want to stay on the farm. Nor would I – but what are the prospects in the cities? Controversial proposals need to be addressed – should African countries take advantage of their low labour costs and compete with East Asia – and forget any idea of a minimum wage? China is already using Cambodia and Vietnam in this way. Can Africa corner the cheap labour end of global industrialization – or even carve out part of it.

The chapter by Page criticizes hopes for an agriculture-led industrialization strategy – although it is clear that the sector cannot be neglected. As Naude and Szirmai state, he notes that “agro-processing offers new opportunities to poor African countries, even though global standards and product quality requirements create new challenges and difficulties” (p. 420-1).

Naude was more pessimistic than Szirmai at the LSE session because of the obstacles to African development. The African challenges are of course dramatically exacerbated by climate change – as agricultural production is so vulnerable. For example, he mentioned that dependence on modified seeds and chemical fertilizers increase the financial risks for African farmers. He also gave us the bizarre story TRIPS story of the evening – a foreign multinational trying to claim the intellectual property and patent Rooibos tea- sounds like a rural myth, but here we are….What chance to do African producers stand in a world like this?

Another clear message was: don’t take the Asians as a blueprint – Hobday argues that learning from Asia’s success requires rejection of a follow-the-leader, catch-up model. “One of the insights to be gained from each of the Asian nations is the importance of identifying and building a distinctive path of development, supported by policies that encourage these paths. “ (pp. 151-2). The editors cite Lin and Chang with approval (p.20) in arguing that countries must be allowed the right to choose their own paths – using S. Korea, Japan and Finland as examples. (Of course, there is a down side to this – those seeking to buck trends and find their own path can easily get lost for a decade or two). Harry Wu’s chapter argues that a proper understanding of China’s success needs to take account of over a century of industrialization – and that stop-go policies actually hindered progress. (p 155 ff). One fascinating innovative theme in the book is the impact on waste scavenging in developing countries in supplying Chinese industrialization (Martin Medina pp. 325 ff.)

Weiss outlines five challenges  for the future:
  • Financial sector reform
  • Breaking into global production networks
  • Facing competition from the reemerging giants
  • Addressing climate change
  • Avoiding jobless growth.
Justin Yifu Lin – a more recent Chief Economist at the World Bank has given the book a ringing (and justified) endorsement:
“No country has been able to move successfully from a low –income agrarian economy to a high income service-oriented economy without its government’s proactive use of industrial policy to facilitate the economic transformation. However, industrial policies failed in most countries in the past. This book makes an invaluable contribution to the emerging literature on rethinking industrial policy.…. I highly recommend  any student and practitioner interested in poverty reduction and sustained growth in developing countries to read this book.”
This is exactly right. No blog can do a serious book like this justice – you have to get it and engage with it – now that you cannot benefit from the stellar line-up we enjoyed in the LSE’s fine New Academic Building.
So, I expect the book to appear on many reading lists, and it should be in university libraries. I also suggest that George Osborne should get a copy – the powerful chapter by Fiona Tregenna on how difficult it is to reverse de-industrialization is not just relevant to poor economies (especially in Sub-Saharan Africa). The challenge of “premature de-industrialisation is particularly acute – recovering from this arrested form of development may well prove more difficult than the initial industrialization” (see pp. 97 ff) I am sure he can even find someone clever from the Treasury to help him with the mathematical model on the technical details of decomposition …..

Professor Putzel exercised a “self-denying ordinance” and did not make the classic mistake of the Chair – that of engaging the panel in his own discussion when the audience were itching to get in on the act. Quite the contrary – he held back and we had to wait to the very end for his substantive contribution. He warned us not to assume that the battle is now won because a great book has appeared, and also to understand that there are real issues which divide experts in the field. Even if the field is now open for serious discussion of industrial policy, there is deep division on how “latent” comparative advantage should be interpreted. There are those who insist that governments should promote industry in line with comparative advantage – thus sticking fairly closely to the economic liberalism of the past three decades, and – on the other hand – those who argue that governments must work actively toward transforming their country’s comparative advantage.
At the end of the session, with due thanks to all concerned, Professor Putzel invited us up to the top floor of the New Academic Building, where the drinks reception enabled us to talk further and survey the London skyline. I noted what big buildings financial services can finance. And I hope that more of the money goes into financing production in the real economy than once more  being money speculating on money.  So we finished the evening with the view across the City towards Canary Wharf in perhaps the best room in London to remember LSE professor Susan Strange’s early warning – 25 years ago - on Casino Capitalism.