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What Industrial Policy?

Keijiro Otsuka's picture

Recently, economists began proposing the strategy for industrial development in low-income countries.  But there are few explicit recommendations as to what role governments should play in fostering industrialization.  Related question is whether we can draw useful lessons from successful experience of industrial development in East Asia for other regions, such as sub-Saharan Africa (SSA).

The paper entitled “A Cluster-Based Industrial Development Policy for Low-Income Countries” (Policy Research Working Paper 5703) proposes an industrial policy consisting of four pillars of recommendations based on roughly 20 case studies of industrial clusters in Asia and sub-Saharan Africa.

Surprisingly, there are so many industrial clusters not only in East Asia (e.g., Japan, Taiwan, and China) but also in South Asia (e.g., Bangladesh, India, and Pakistan) and SSA (e.g., Ghana, Ethiopia, Kenya, and Tanzania).  In general, the cluster consists of SMEs in low income countries, which use labor-intensive production methods, and larger enterprises in higher income countries, which use more capital-intensive production methods.  Many of the clusters have been formed without any government support, which indicates that clustering occurs in industries in which the country has a comparative advantage.  Thus, the first pillar of our policy recommendation is to create competitive market environments to develop industries with comparative advantages.  Also the fact that so many industries are clustered indicates that there are strong agglomeration economies generated by clusters, e.g., low transaction costs and information spillovers due to proximity among enterprises.  The second pillar therefore is to promote industrial clusters.

We began our inquiry with two case studies each in Japan and Taiwan and four case studies in China.  Soon we realized that the patterns of development across the eight industrial clusters are surprisingly similar. We called it “an East Asian model of cluster development” in our first book.  Thereafter we continued to work in South Asia and SSA and found that we made a mistake.   What we found was that the development patterns of all the successful industrial clusters are strikingly similar.  The essence of the spectacular development of the garment industry in Bangladesh is not different from the East Asian model.  The successfully growing leather-shoe industry in Ethiopia reminded us of the similar growth in East Asia.  Thus, we were forced to acknowledge that “East Asian model” was misnomer in our second book.

Interestingly enough, the difference between successful and unsuccessful cases lies essentially in the occurrence or the absence of simple innovations or multi-faceted improvements in production and management.  In other words, there are “missing factors” in the unsuccessful cases.   Thus, we propose that the effective industrialization policy must infuse such missing factors.  According to our case studies, the two major missing factors are: managerial ability of entrepreneurs and will to learn management and technical knowledge from more advanced countries.  In order to transform the so-called “survival cluster” to “dynamic cluster,” investments in managerial human capital and learning from abroad are needed.  Such investments, however, tend to be socially sub-optimum partly because of the imitation of new knowledge by rival enterprises and partly because of the ignorance of improved production and management knowledge.  The third pillar of recommended policy is to invest in managerial human capital.  At present, we are confirming these points by offering managerial training, called KAIZEN, to randomly selected chief decision-makers of SMEs in several low-income countries.  The preliminary results look highly promising.

The success in multi-faceted improvements in production and management results in congestion of the existing industrial clusters, because innovative enterprises attempt to expand the size of their operation.  Commonly observed at this stage, particularly in East Asia, are investments in industrial parks by the government and provision of formal-sector credits for those innovative enterprises seeking larger space for the installation of more advanced machines.  Thus, the fourth pillar is the construction of industrial zones and the provision of credit to support innovative enterprises, possibly through industrial development banks, which are quasi-governmental organizations formed with the purpose of assisting new enterprises in priority industrial sectors by providing long-term loans and a wide range of consultancy services including technical and managerial advice.

While we are confident about the first three pillars of the recommended policy because they are based on the results of our own case studies, we are much less confident about the fourth pillar, particularly the role of industrial development banks, because we are not familiar with the reality of industrial development banks in low-income countries.  I would appreciate to hear your comments on this.
 

Comments

Submitted by Fahd Rehman on
Dear Professor Otsuka, Hi This is Fahd a former GRIPS student. Me working on industrial cluster of Knitwear (Lahore) Pakistan for my PhD. In the context of Pakistan, the role of industrial development bank for nurturing industries has been a failure. In the past, the disbursement of loans was made on political connections and willful default of industries took place. Similarly, consultancy services such as technical and managerial advice has not been successful. In my opinion, the role of global value chains is significantly important in upgrading SMEs. My research is focused on the effect of GVCs on upgrading of SMEs. Regards Fahd Rehman PhD Student UNSW, Canberra