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Thursday, April 15, 2010

Return of Industrial Policy

In a recent article on Project Syndicate, Dani Rodrik makes the compelling claim that industrial policy is returning to the forefront of development discourse - in fact, he argues it never really left. Citing China, Chile, and most controversially, the U.S., Rodrik outlines three important policies regarding how industrial policy should be practiced:

“First, industrial policy is a state of mind rather than a list of specific policies. Its successful practitioners understand that it is more important to create a climate of collaboration between government and the private sector than to provide financial incentives. Through deliberation councils, supplier development forums, investment advisory councils, sectoral round-tables, or private-public venture funds, collaboration aims to elicit information about investment opportunities and bottlenecks. This requires a government that is “embedded” in the private sector, but not in bed with it.

Second, industrial policy needs to rely on both carrots and sticks. Given its risks and the gap between its social and private benefits, innovation requires rents – returns above what competitive markets provide. That is why all countries have a patent system. But open-ended incentives have their own costs: they can raise consumer prices and bottle up resources in unproductive activities. That is why patents expire. The same principle needs to apply to all government efforts to spawn new industries. Government incentives need to be temporary and based on performance.

Third, industrial policy’s practitioners need to bear in mind that it aims to serve society at large, not the bureaucrats who administer it or the businesses that receive the incentives. To guard against abuse and capture, industrial policy needs be carried out in a transparent and accountable manner, and its processes must be open to new entrants as well as incumbents.”

Rodrik’s points are well-formulated and seem to reflect the lessons learned over the past few decades – but even more importantly, they illustrate the complexities of forming an adequate national industrial policy: determining the appropriate level of government investment, incentives, and transparency without becoming bogged down in the process, slowing market evolution by generating creative and capital bottlenecks and harming the consumer. To say achieving a balance between these tensions is difficult would be an understatement. Nevertheless, in a fast-paced global economy where rapid innovation is increasingly important, Rodrik’s principles provide insight into the general strategies governments must employ to achieve a competitive advantage.

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