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Industrial Policy - Protectionist Agendas and Economic Development Policy

Earlier this month, the U.S., Canada, and Mexico met to renew their economic partnership to promote free trade and “openness.” Since the 1940s, the world economy has largely abided by norms of openness, but trade and tech wars between the U.S. and China are one example of the deterioration of those norms and a trend towards more protectionist agendas. China’s integration of the world economy has always used subsidies and state control to finance business. In response, the U.S. has resorted to industrial policy using subsidies, conditional on North American production, with the Inflation Reduction Act and the Chips Act. Other parts of the globe have turned towards industrial policy, including Europe and Asia. Pertinent to our discussion, Indonesia, a developing country, has banned exports of nickel to get the battery making industries to invest in their local economy. In light of these developments, Balassa’s (1980) work as well as Moran’s (2015) piece become strikingly relevant.

Based on our readings, I think that many developing countries would face significant challenges in attempting to emulate China’s "Indigenous Innovation Policy" or "Made in China 2025" programs. China appears to use an inward oriented development strategy that also attracts multinational investment and participation by offering its market to corporations should they receive something in return. China then uses this power at the negotiation table with other countries. It resembles a power wielding system of coercion rather than a well-designed industrial public policy for development that could end up having unintended, negative consequences. For example, it is difficult to determine which industries, and to what extent, need protection or subsidizing. It is possible that China’s industrial policy, and in turn the trade wars that ensue, lead to wasteful government expenditures and market distortions that impede economic growth. Therefore, as a framework of development, I don’t think replicating this approach would yield great results among other developing states. Instead, focusing on government interventions to guide the appropriate development through careful investment provides promise for developing countries during this era of the green economy and tech boom.

Balassa’s (1980) piece discusses the stages of development, highlighting the importance of transitioning from import substitution, with and industrial policy that protects certain sectors, to an open economy. The argument goes that infant firms and industries need protections and can help increase production. As production surpasses consumption, countries will need to move to the next stage of development to avoid declines in output. The next stage is second stage import substitution or a greater reliance on exports. Those countries that did not open up and focused instead on a strategy of inward oriented development were not successful. This played a significant role in shaping development economists’ theories of development and helped shape the Washington Consensus.

Moran (2015), contrary to more traditional development frameworks expressed by Balassa (1980), argues in favor of a more open system. Instead of government intervention that protects certain local infant industries with tariffs, quotas, or other subsidies in the early stages of development, Moran is in favor of interventionist policies that improve development through targeted high-skilled investment. Examining three case studies, Moran shows that efficient and effective use of foreign direct investment (FDI) has provided more rapid growth and more substantial welfare gains compared to traditional development schemes. For example, in Costa Rica, the government was able to attract Intel business and investment by showing Intel that they would be able to easily assimilate into the global economy. Further, Costa Rica provided incentives for the company. This investment ended up having significant positive impacts on Costa Rica’s overall growth and development by creating and employing a higher skilled workforce with positive spillover effects.

Naturally, this change in direction, focusing on government interventions and the importance of effective public policy to mend market failures, makes sense given the limited and dispersed success that the market economy provided the Global South due to the Washington Consensus. As highlighted by Moran, “it remains true that multinational investors try to limit horizontal spillovers as much as possible.” Without government protection and intervention, multinational corporations have and will take advantage of host countries and stymie indigenous competition. So, it makes sense we need public interventionist policies to help dictate and guide development. The debate at this point seems to be about which policies best guide that development.

China, however, provides a unique case study for analyzing frameworks of development because its protectionist approach seems to blend the inward-oriented development strategy described in Balassa with the high-skilled investment approach described by Moran. China’s "Indigenous Innovation Policy" and "Made in China 2025" programs are designed to expand Chinese influence among strategic industries through state investment and protectionist policies that allow foreign participation for a price. Ultimately, China is or was attempting to create a comparative advantage in certain sectors of the economy through policies such as subsidies, low-interest loans, regulatory standards, and financial support for key initiatives. But Beijing also attracts investment in key sectors and multinational interest that increase innovation and rapid growth. From a strictly development perspective, this may work, given China’s political and economic power.

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