Folks, sorry for disappearing for almost 2 months.
Allow me to share thoughts from my activities at workplace.
What is industrial policy? Well, there are many definitions but the most generic might be determination from the state (government) to favor and develop some economic activities than others. In particular, determination from the state to develop local entrepreneurs over facilitating foreign businesses.
It was like a déjà vu when I recently listen to a talk on industrial policy. There I was, just like the old days in Salemba, listening to a lecture on a topic that I thought was already dead. Instantly I recalled sitting in a class listening to talks (Faisal Basri and Dorodjatun) about the danger of protecting industries. An infant industry, as we used to say, is nothing less than a parasite, breeding corruption, fattening bureaucrats, and screaming for protection to achieve anything but ability to manufacture efficiently.
The speaker, Robert Wade of LSE, tried to make a case that industrial policy is increasingly relevant in an open economy. He then mentioned several approaches that at first sound innovative such as what he called “nudging” and “preferential treatment”. Example from the first is officials willingness to share information with domestic private firms on foreign incumbent cost structure, technological capability etc. Example from the second is rather blunt: officials imposing higher taxes over imported intermediate goods that would otherwise supplied by local suppliers.
But why now ?? Why is this still relevant now, 9 years after financial havoc ransacked Jakarta’s banking house of fraternity? Why talk about this after Chandra Asri (crony “foreign” chemical manufacturer), Bakrie (yeah.. hmm..), and IPTN (state aircraft industry) stumbled following years of sweetheart-oh yeah baby relationship with the state?
Moreover, I don't think Prof. Wade's example indicate new practices in institutionalizing industrial policy. Popular anecdotes from success stories are often used to highlight the importance of industrial policy (IP). Professor Wade mentioned a case from Taiwan glass and semi-conductor. His story suggests that there was a deep intervention of government officials in sharing and packaging strategic information about market potentials. Officials in Taiwan were also active in persuading foreign firms to switch to local suppliers. Other people mentioned about case studies from Korea shipping industry. There stories suggest even deeper relationship between the state and Chaebols (conglomerates). At some point, Korean government mandated that all oil import to Korea must be carried using Korean made vessels. Even Indian software industries are not immune. Some stories suggested that Bangalore was the location of many military labs with highly talented engineers. Finally China. They succeeded in putting few men around the earth orbital, period.
In short, fragmented stories hint that state signature is present behind the success of any country’s industrial development.
Indeed, Prof. Wade is not alone. Some have been die-hard believers of this concept, like Alice Amsden of MIT – although she uses anecdotes to make the case. Some have revived this idea and provide it with a high-powered shot of empirical evidence – like what Ricardo Hausmann, Jason Hwang, and Dani Rodrik have done. Oh, not to mention also some politicians and half-baked economists who are mixing self interest with bad economic policies. But from Hausmann, Hwang, and Rodrik, this is what they said:
" When local cost discovery generates knowledge spillovers, specialization patterns become partly indeterminate and the mix of goods that a country produces may have important implications for economic growth. We demonstrate this proposition formally and adduce some empirical sup- port for it. We construct an index of the "income level of a country's exports, document its properties, and show that it predicts subsequent economic growth" [ What You Export MattersRicardo Hausmann, Jason Hwang, and Dani Rodrik NBER Working Paper No. 11905]
Their paper clearly indicates that a country must think seriously on what product to make and to export. If I can be more blunt, they resonate the argument that low wages, banana harvesting, and t-shirt/sandal making do not get you that far. One needs to master the capability to manufacture with sophisticated technology if productivity is expected to take the economy to a higher level. In away, it sounds like idea of BJ Habibie, supposedly one of Indonesian brightest person.
At this stage, I personally agree. I think under general circumstances, relying on primary commodities will not take you off.
But somehow I still can not conceive that the ultimate recipe for success is to have the state meddling with affairs of private enterprises in developing path to success. My reasons are the following:
(1) Boring reason: Political economy. Many cases suggest that private sector could not wait to influence regulation by working with the state. Once they did, they do not have incentive to stay straight.
(2) Have boring reason some more: Costs of protection are usually too high and often resulted in inefficiency. Protection distorts price signals which enable firms to correctly internalize their costs. Say you again you give our cement factory, Semen Padang (SP), a subsidy. We can bet that SP have the chance to perform worse than before because their cost is artificially low. With proper corporate governance, low cost may not translate to higher productivity because some of the idle cash flow to local festivities – with local MPs.
(3) Ah.. am I clever or what: Information problem. Some cases show that those who succeeded in developing product for export are indeed good firms. The problem is that the government can only see if those firms have already done their export. Thus helping exporters in this case may not be efficient because those firms already have high likelihood in succeeding without the help from the state. Using Indonesian manufacturing data, I and Beata Javorcik did an empirical exercise where we found that growth in total factor productivity among firms is the highest during period about to become exporters. Once succeed in exporting, their productivity started to level off. State can only see productivity after they succeeded.
(4) Only wise (insane) person can say this: One difference between South Korea in the early 80s and Indonesia in early 90’s was luck i.e., God's willing. Indonesia had the ingredients to become S.Korea: strong government, strong military presence in all social and political aspects, liberalized capital markets, protecting its conglomerates, amazing economic growth despite weak institutions. South Korea built ships, we did airplanes. South Korea built cars, so did we. They made electronics,.. (who is making electronics in Indonesia?). South Korea had border skirmishes with N. Korea, we even went further to invade East Timor. But what missing was that Indonesia did not have a leader with highly discipline sons/daughter. Leaders were smart and honorable men, yet somehow their characteristics are absence in their family members (specially sons/daughters). Family members were recklessly fell in love with private sectors hungry for protection and generals hungry for cash.
Having said two boring, one bright, and one insane reason, what should a country do?
(1) Develop necessary infrastructure for entrepreneurship to flourish. Investment in public education and telecom are mandatory. A private consultant mentioned that Indian software industry took off after government enabled them to uplink their work via satellite and connect to the US. Rather than creating another state company, just figure out regulation to let private firms compete in providing their services.
(2) Develop necessary financial market that generates financial instruments for entrepreneurs to hedge their risks. Institute a credit rating agency that can identify lending risk based on pattern of lending repayment, not on after they defaulted or have been visited by the police. Induce private financiers to develop local skills and introduce sophisticated product for local entrepreneurs. Subsidized credit is not the answer. But regulation in allocating x% of loans to local entrepreneur can force banks, including foreign banks, to develop such knowledge.
(3) Identify market failures that impede innovative ideas to grow. R & D is expensive, but not for imitator. Work on law and institution in preserving intellectual property.
(4) Do a PR campaign. If fast food can appear healthy, why can’t the state appears that they are supporting local entrepreneurs?
While those suggestions indeed sound like a laundry list, but at least, I think they are good ideas.
Industrial policy Exporting Development policy