Assembling some thoughts on industry policy: Part One

Industry policy â which can be anything from subsidising Research and Development to ‘picking winners’ and supporting some ‘key industries’ over others â is one of the shibboleths of the left. I’m always surprised and dismayed when ACOSS puts in its oar with other allies in the institutional left like the union movement in calling for industry policy. It’s a gratuitous addition to their list of causes when surely the principle of Ocham’s razor applies at least as much to political as to scientific advocacy. I wonder why they don’t keep their powder dry for what matters to them. They do it â they’ve said to me when tackled â because they want some overarching policy to reduce unemployment and raise wages more generally.

The trouble is, industry policy is usually supported from some dark place in the human psyche which is hard wired not to understand the ideas of comparative advantage demonstrated by Ricardo in the early nineteenth century. This is a murky place of which economists are trained to be instinctively suspicious. This is the place where much of what passes for economic commonsense comes from. Here exports are good and imports are bad, (they’re two sides of the one coin but exports are the price we pay for imports that we want). In the pre-Ricardian world view countries ‘compete’ with each other â like firms do. And they do so by trading. Ricardo’s great message was that what looks like competition between nations is the best possible way they can co-operate. In the pre-Ricardian world countries ‘compete’ for treasure and in the modernised version, they ‘compete’ for ‘high value’ good jobs, while the devil takes the hindmost and gets industries that reward their owners and their workers poorly. The smart countries make computer chips, the dumb ones potato chips.

I share the general suspicion of industry policy with most economists. It’s amazing how tenacious the pre-Ricardian mind-set is even though it doesn’t take that long to get the hang of it. Trouble is, for those that care, where would they find out? They can read Ricardo and get the hang of that â but that’s the beginning of a complete rethinking of how things might fit together. In fact there are lots of boosters for free trade and the things economists think are the go who actually don’t ‘get it’. Lots of free market Journos are in this category from Tom Friedman to our own Paul Kelly. As Krugman pointed out in the early 1990s one telltale sign is lots of talk about how ‘competitive’ a country is â an idea that is at the very least problematic to a post-Ricardian. There are some embarrassing passages which read the same way in Industry Commission publications of the early 1990s just before Krugman came out with his critique.

Even if it was a good idea for an enlightened bureaucracy to pick a few winners, there are lots of reasons to be wary in Australia.

  1. Of all the countries in the world, after a successful and generation long struggle against protectionism, Australia’s political and bureaucratic system has developed stronger ‘anti-bodies’ against the re-emergence of protectionism than just about any country. Witness the excitement over Kevin Rudd saying he wants a bit of industry policy.
  2. Even if it were a good idea in Australia â something that I’m not too convinced of â our political and business elites are pretty short sighted and notoriously captive to sectional interests.

I recall getting to the Business Council in 1997 by which time the Council had finally succeeded in its campaign to wean the economy off special assistance for favoured sectors. But not only was it unable to agree on a statement of regret that the Howard Government’s first announcement on automotive industry policy was such a hodgepodge, but it was hot to trot on winning new tax breaks for favoured businesses. The peculiar Mortimer Report and even more peculiar Goldswothy Report (remember them?) duly recommended special favours and as I recall the first special major project funded by the Howard Government â under the rubric of promoting cutting edge industry â was a pulp mill! Likewise calls for industry policy usually intensify around the demise of one of our least competitive firms. And so a disproportionate share of automotive industry assistance goes to the automotive industry’s least competitive car maker â Mitsubishi.

I’d add another caveat. The risk one takes when picking winners is justified by the potential benefits and these gains are larger where

  1. You are a small country
  2. You are near a large market
  3. You don’t have strong comparative advantages in commodity exports.

In each of these cases newly competitive industries can grow much larger through trade. Australia is a tolerably small country but doesn’t have the other two advantages as most of the industry policy success stories have. I know of no big commodity exporter that’s been successful at heavily interventionist industry policy â thought the Nordics have been good at facilitative industry policy â with strong state subsidies for skill formation, research and development and an understanding of the importance of trade with large markets usually in mind.

But I don’t think all the arguments go one way. Something that you’ll discover in the next exciting episode.

This entry was posted in Economics and public policy. Bookmark the permalink.
Subscribe
Notify of
guest
11 Comments
Oldest
Newest Most Voted
Inline Feedbacks
View all comments
Rex
Rex
14 years ago

Why are the potential gains larger if you don

Rex
Rex
14 years ago

Being neither Evan Thornley nor Jason Soon, and thus still in learning mode when it comes to economics, I don’t get it. How can commodity exports ‘crowd out’ the scope for high value exports. Where’s the constraint in scope? Is it a constraint on capital? A constraint on skills and workforce (surely not)? A constraint on the commodity itself (surely only if the ETM is derived from the commodity, like cars are derived from steel).

I just don’t see how having a competive wool export industry can, for example, reduce a country’s ability to design and manufacture aeroplanes.

trackback

[…] I posted an introductory post on industry policy summarising some of the very good reasons to be suspicious of ‘picking […]

Tom N.
Tom N.
14 years ago

Nick said: “There are some embarrassing passages which read the same way in Industry Commission publications of the early 1990s just before Krugman came out with his critique.”

Really? Can you point some of them out. I also thought the IC was pretty sceptical of all this stuff, and simply mentioned it – to demonstrate that it was aware of it – without ever given it any credence.

Tom N.
Tom N.
14 years ago

I remember the Commission’s use of GDP comparisons in that way well, and indeed I made some criticisms of it myself. However, that’s a different point from using the

trackback

[…] far) he engages in very Krugmaneque catching of economic pundits in various inadvertent lapses into what I call pre-Ricardian […]