Industrial policy

Examples of IP

- Fundacion Chile - salmon fishing , discovery lead to rewards that paid off all the other failures by the Fundacion Embraer- benefit from export subsidies POSCO - South Korean steel firm, benefited from Import substitution. In the 1990s POSCO was the most efficient steel industry and in 2011 it was the 4th largest steelmaker).

Examples used to show IP

-El Salvador - What matters most is a change in attitude, lack of entrepreneurial incentives - Uruguay - Says it doesn't use IP, but it does - democratic country. lacks politicall salient vision. - South Africa - needs to increase demand for labour in manufacturing, Rodrik believes government has to reinvigorate manufacturing sector and expand other non-traditional sectors.

Rodrik's 3 principles of effective IP

1) Embededness: - Soft IP. There needs to be close collaboration between government and the private sector - ongoing debate to identify possible externalities etc. 2) Carrot and stick - Schumpeter - there need to be rents to incentivize entrepreneurs to innovate as rents can cover costs of dicscovery and other activities that promote structural change. IP MUST RELY ON BOTH PRONGS : IT MUST ENCOURAGE INVESTMENTS IN NON-TRADITIONAL AREAS BUT ALSO WEED OUT PROJECTS AND INVESTMENTS THAT FAIL. 3) Accountability - Accountable leader - Bureaucrats monitor the businesses and the people monitor the bureaucrats. Accountability raises the political profile of IP programs by assigning a high-level champion to them. - Rodrik uses the example of BoE inflation target, in holding Governor of Bo E to account etc. OPTIMAL POLICY REQUIRES AN ACCEPTANCE OF A CERTAIN FAILURE RATE ( HAUSMANN AND RODRIK ( 2003))

2 approaches to IP:

1) Government picks winners , traditional east-Asian styles where governments pick certain sectors and provide incentives to get the sectors going. 2) IP is a process without a preconceived list of sectors and policy instruments- EMPHASIS IS ON CONSTRUCTING INSTITUTIONAL FRAMEWORK THAT IDENTIFIES PROBLEMS TO BE SOLVED THROUGH DIALOG AND DELIBERATION WITH THE PRIVATE SECTOR.

Problems with IP

1) IP has a loosely defined set of market imperfections 2) IP is implemented by bureaucrats that have little ability to identify imperfections 3) IP is overseen by politicians who are prone to corruption and rent-seeking. 4) The Market failure targeted by IP is often different from failure causing the problem. 5) IP is an invitation to corruption and rent-seeking, opens the door to preferred policies where the main purpose is to transfer income to politically-connected groups. Rodrik believes a lot of these problems are suffered by standard government policies, He also believes that the informational and rent-seeking arguments are rebuttable as institutions can be constructed and arranged to achieve social objectives ( BoE inflation target). Rodrik believes that in order to omve on , have to view IP as another default government policy.

Examples of market failures

IP tries to address market failures in labour, products and credit markets. e.g. Collateral constraints combined with asymmetric information result in credit market imperfections and incomplete insurance. e.g. Banerjee and Duflo (2005) - summarise a wide range of studies that show huge variation in interest rates paid by different borrowers and conclude that these can be explained only by credit-market imperfections. Head and Swenson (1994) provide evidence of spillovers associated with geographical agglomeration looking at the location decisions of Japanese multinationals in the US. Rodrik believes that the "new" growth theory relies heavily on the assumption of externalities in knowledge and in new-good creation(Klenow and Rodriguez-Clare 2005) 1) Interventions in health and education are motivated by human capital externalities. 2) Interventions in social insurance are motivated by asymmetric information. Rodrik believes that systematic empirical evidence on these market imperfections is sketchy. 3) Lack of information or political capture (regulatory agency working in interests of commercial companies rather than the public interest)

Definition of IP

Policy that stimulates specific economic activities and promote structural change.

Task of IP

The challenge in most developing-countries is not to rediscover industrial policy, but to redeploy it in a more effective manner. 1) Elicit information from the private sector on significant externalities and their remedies 2) About implementing appropriate policies 3) Uncovering where the most significant obstacles to restructuring lie and identifying what type of interventions are most likely to remove them.