Government Policy

Toward Industry
 Premises of Government Policy
Toward Industry
 Firms compete in industries, not nations.
• Government’s role in competition is inherently
partial.
 A nation’s competitive advantage in industry is
relative.
• International standards set the minimum policy
targets if a nation is to upgrade its economy.
Premises of Government Policy
Toward Industry
 Dynamism leads to competitive
advantage, not short-term cost
advantages.
• Pressure and a sense of urgency are
part and parcel of national competitive
advantage.
 Premises of Government Policy
Toward Industry
 National economic prosperity demands
that industries upgrade.
• Government policy must be concerned
with laying the foundation for upgrading
competitive advantage in a nation’s
industry and prodding firms to do so.
 A nation’s competitive advantage in
industries is often geographically
concentrated.
• The role of local government is important.
 Premises of Government Policy
Toward Industry
 Competitive advantage in a nation’s
industries is created over a decade or more,
not over three- or four-year business cycles.
• Government are prone to choose policies with
easily perceived short-term effects.
 Nations gain advantage because of
difference, not similarities.
• It might be a mistake for any nation to follow
closely a mode of economic development created
for another nation.
 Premises of Government Policy
Toward Industry
 Many categorizations used to distinguish or
prioritize industries have little relevance.
• Government policy must provide an environment
in which any industry can prosper if firms are
innovative and achieve high productivity.
 The process of sustaining advantage may be
intensely uncomfortable for firms and those
who work in them.
• Many firms would prefer more stability and an
environment in which prosperity is guaranteed
rather than continually having to be re-earned.
 Government’s Effect on Factor
Conditions
 Government’s role in factor creation in
such areas as primary and secondary
education systems, basic infrastructure,
and research is justified by externalities.
 The creation of advanced and specialized
factors involved firms, though sometimes
in collaboration with government entities.
• Ex: specialized apprenticeship program,
research efforts in universities connected with
industry, trade association activities, private
investment of firms.
 Government’s Effect on Factor
Conditions
 Government efforts at creating
specialized factors run the risk of
creating the wrong factors at the
wrong time.
 Both government and industry must
invest in factor creation.
 The process of factor creation
benefits greatly from the proximity
of economic interest.
Characteristics of Sound Education
and Training Policy
 Education standards are high.
• Education standard setting is an important role
of government.
 Teaching is a prestigious and valued
profession.
 Majority of students receive education and
training with some practical orientation.
• The training of a significant proportion of the
outstanding students in a nation in science and
engineering seems to provide the greatest
benefits to an upgrading economy.
Characteristics of Sound Education
and Training Policy
 There are respected and high-quality
forms of higher education besides the
university.
• In some fields, German technical universities
are more prestigious than regular universities.
 There is a close connection between
educational institutions and employers.
• The German apprenticeship system is an
extraordinary example of an system where
students combine education with on the job-
training.
Characteristics of Sound Education
and Training Policy
 Firms invest heavily in ongoing in-
house training through industry
association or individually.
 Immigration policies allow the
movement of personnel with
specialized skills.
Science and Technology Policy
 Stimulating improvement in science
and technology is widely
acknowledged role of government
due to the externality.
 The overarching principle in
addressing science and technology
should be to create an commercial
innovation policy and not just a
science and technology policy.
Characteristics of Effective Science
and Technology Policy
 There is a match between science and
technology policy and the patterns of
competitive advantage in the nation’s
industry.
 There is emphasis on research universities
instead of government laboratories.
• Benefits of research universities are such as
training of new generation of scientist and
engineers, easy diffusion of research results
and fertile incubator of new business.
Characteristics of Effective Science
and Technology Policy
 There are principal emphasis on
commercially relevant technologies.
 There are strong links between
research institutions and industry
• Examples:
 Specialized research institutions focused on
industry cluster or crosscutting technologies
 Research contract
 Explicit dissemination mechanism
Characteristics of Effective Science
and Technology Policy
 Research activities within firms are
encouraged.
• The most effective means to encourage
industry R & D directly seem to be partial
funding of specialized research institutes
connected to industry clusters.
 There is primary emphasis on speeding
the rate of innovation.
 There is limited role for cooperative
research.
 Government and Infrastructure
 Upgrading a nation’s industry depends on
a modern and improving infrastructure.
 Both firms and governments have a role in
creating and upgrading infrastructure.
 Highly specialized infrastructure tailored to
particular industries might be a source of
competitive advantage.
 Government and Capital
 Government has a role in affecting
both the supply and cost of capital.
 Tax policy is important tool for
encouraging savings.
 Controlling government deficit is
important for saving and cost of
capital.
 Efficient capital market is necessary.
 Government Subsidy
 Subsidy usually delays adjustment and
innovation rather than promoting
innovation.
 Ongoing subsidies dull incentives to
innovate and create an attitude of
dependence.
 Once started, subsidy is difficult to stop.
 Indirect subsidy, in areas such as
education, research universities, and
advanced infrastructure, are better
investment of government funds.
 Devaluation Policy
 Devaluation is undesirable means of
balancing trade. It lowers the
standard of living of a country.
 The expectation of a lower exchange
rate leads firms toward a
dependence on price competition and
toward competing in price-sensitive
segments and industries.
 Government Effect on Demand
Conditions
 Government procurement’s effect on
demand condition
• Negative effect: If the government
procurements become a guaranteed market,
its effect on national competitive advantage is
negative.
• Positive effect:
 Early Demand
 Demanding and sophisticated demand
 Procurement reflecting international need
 Procurement process that facilitate innovation
 Competition
 Government Effect on Demand
Conditions
 Defense procurement has both positive
and negative effect.
 In the years before and after WW II,
defense needs stimulated fundamental
research on core technologies such as
aerospace, electronics, and synthetic
materials. Spin-off were substantial.
 Firms succeed in the defense market but
fail to develop the product varieties and
cost position needed to serve the
commercial market.
 Government Effect on Demand
Conditions
 Stringent regulation of standards for
product performance, product safety, and
environmental impact contribute to
creating and upgrading competitive
advantage.
• Example: Sweden’s tough standard on product
safety and environmental protection
 Tough standards also encourage the start-
up of specialized manufacturing and
service firms to help them address them,
which can develop strong international
positions.
 Government Effect on Demand
Conditions
 Product liability regulation could have both
positive and negative effect on competitive
advantage of nations.
 Product liability laws can benefit
competitive advantage by acting like a
sophisticated buyer to encourage the
development of better products.
 Product liability law can place firms in
costly and lengthy product liability suits so
that it might retard the innovation.
 Government Effect on Demand
Conditions
 In the area of health care, electric power,
and telecommunication, private ownership
and exposure to competitive pressure
create the best environment leading
industries to play the role of demanding
and anticipatory buyers.
 Regulation that protect small independent
wholesalers and retailer would have
negative effect on competitive advantage
of nation.
 Government Effect on Demand
Conditions
 A policy of providing incentives to
buyers to be early purchasers of
sophisticated product is often more
beneficial to innovation and
competitive advantage than directly
subsidizing them.
• Example: Japanese robotic industries
 Government Effect on Demand
Conditions
 Foreign aid and special buying
relationship create a captive market
for a nation’s firms, which tend to
have negative effect on competitive
advantage of the industry.
 The market created by foreign aid or
special relationship are rarely
advanced and demanding market.
Government Effect on Related and
Supporting Industries
 The presence of advanced and
innovative media in a nation is a
source of national advantage.
 There is a striking correlation
between the availability of media and
competitive advantage in mass-
marketed consumer goods and
services.
Government Effect on Related and
Supporting Industries
 Once a clusters forms, government could
play a beneficial role by investment to
create specialized factors such as technical
institutes, training centers, data banks and
specialized infrastructures.
 Governments have a poor tract record in
selecting sectors where the subtle
conditions for national advantage are
present for cluster formation.
Government Effect on Related and
Supporting Industries
 Regional policy to stimulate economic
development in the depressed area of
nation has rarely been effective since it
involves generalized subsidies to induce
firms to locate plants in a region.
 Creating magnets for clusters, in the form
of universities, research laboratories,
specialized infrastructure are more
effective regional policy.
 Government Effect on
Internationalization
 Sustaining and enhancing competitive
advantage requires that a nation’s firms
take a global approach to strategy.
 Government can encourage the
international outlook and exports through
the provision and dissemination of foreign
market and technical information.
• Example: JETRO
 In an upgrading economy,
internationalization does not threaten
domestic jobs but raises the productivity.
 Government Effect on Goals
 Tax policy must encourage efforts, not tax
away its fruits through high marginal tax.
 The possibility of personal achievement
based on merit, which comes from such
policies as an open educational system,
financial aid for education and training for
deserving individuals, and strict policies
against discrimination, encourage
investment in building skills, risk taking,
and unusual effort.
 Government Effect on Goals
 One policy to encourage high and
sustained rates of capital investment
in industry is favorable tax treatment
of long-term capital gains on equity
and investments in firms.
 Senior managers’ compensation
based on short-term results
discourages investment and
innovation.
 Government Effect on Domestic
Rivalry
 Ensuring vigorous domestic rivalry is
one of the most important role for
government in upgrading of an
economy.
 The importance of domestic rivalry
for national advantage has strong
implication for anti-trust policy.
• Globalization of industries should not
limit the importance of anti-trust policy.
 Government Effect on Domestic
Rivalry
 It is hard to find examples of true
competitive advantage in industries where
there are cartels.
 A strong anti-trust policy in the area of
horizontal mergers and collusive behavior
is essential to the rate of upgrading in an
economy.
 Vertical integration or activities should not
be restrained by anti-trust policy.
 Regulation of Competition
 Regulation of competition such as
maintaining a state monopoly,
controlling entry, or fixing prices
usually works against the upgrading
of competitive advantage in an
economy.
 Deregulation of competition and
privatization of state monopolies are
usually spurs to national advantage.
 Protection under Infant Industry
Arguments
 Protection of infant industries can be
effective. However, its success is not
guaranteed.
 The conditions for effective infant
industry protections
• Presence of domestic competition
• Presence of the potential for a favorable
national “diamond”
• Limited duration of protection
 Government Effect on New
Business Formation
 New business formation can not flourish
without a strong commitment to
competition.
 Sustained investment by government in
universities and technical school is
essential element in new business
formation.
 Encouraging private venture capital
through tax incentives for long-term
capital gains is better way of providing
venture capital for new business
formation.
 Government Policies at Different
Stages of Competitive Development
 The appropriate government policy toward
industry shift as nations progress to
successive stages of competitive
development.
 Government has the greatest direct
influence on national advantage in the
factor and investment-driven stages.
• Policy tools: Subsidies, Temporary protection,
Channeling scarce capital into selected
industries, Upgrading education and
infrastructure.
 Government Policies at Different
Stages of Competitive Development
 As the nation aspires to move beyond
early investment-driven to innovation-
driven stage, firms must increasingly
become the prime movers.
 Government’s role must shift to an indirect
one.
 Government’s most significant influences
at this stage are in creating advanced
factors, upgrading demand conditions,
ensuring competition.
 Government Policies at Different
Stages of Competitive Development
 Unless government policy toward industry
shifts as a nation moves to the advanced
stage, the upgrading of industry will be
retarded.
 Many government are either unwilling to
give up their power and influence on
industry or fail to understand how earlier
policies become counterproductive when
firms seek higher-order competitive
advantage.
 Targeting
 Targeting is the practice of singling out
particular industries for support and
development.
 There are direct targeting and indirect
targeting
• Indirect targeting: government white paper,
investments in specialized education
institutions, university research capabilities
• Direct targeting: subsidies, protection, and
brokered market division or mergers
 Targeting
 Such targeting policies as persistent
subsidies, protection without
domestic rivalry, and guaranteed
government procurement of
unsophisticated goods will fail.
 The appropriateness of targeting
depends on the industries chosen
and the stage of national competitive
development.
 Targeting
 In chemical and machinery industries
which were more dependent on highly
specialized technology, knowledge of
sophisticated users applications and
customer relationship, government policy
levers are unimportant to competitive
advantage.
 In shipbuilding and steel, where low labor
costs and large-scale investment in
modern plants provided advantage,
government targeting was more
successful.
 Government Policy in Developing
Nations
 Competitive advantage in developing
countries tends to be almost exclusively in
industries where natural resources, cheap
labor, location factors, and other basic
factor advantages provide a fragile and
often fleeting ability to export.
 To progress, the developing nation faces
the daunting task of upgrading all four
parts of the national diamond.
 Planned Economies
 The determinants of national
advantage lead to pessimism about
the prospect of centrally planned
economies.
• Lack of specialized factor creating
mechanism
• Lack of sophisticated demand
• Lack of motivation
• Lack of effective domestic rivalry
 Development Priorities
 Import substitution policy tends to draw a
nation into unattractive industries or
industries where it has little prospect of
gaining a competitive advantage.
 Development strategy based solely on
identifying industries where nation has
only basic factor advantage is not
successful.
• Norway, Canada, Australia, New Zealand
 Development Priorities
 A nation will be most likely to be
successful not in isolated industries but in
building whole clusters.
• Identify industries where its factor advantage
provides some competitive advantage.
• Upgrade its advantage in these industries
beyond basic factor costs
• Stimulate the development of upstream,
downstream or related industries through
investment in education, research and
infrastructure
 Indigenous Companies versus
Foreign Multinationals
 Even though foreign multinationals are
important part of the process of economic
development in early stages, they can not
be the sole engine for creating national
advantage in advanced industries.
 It is rare that multinationals make a
developing country a major center for
producing sophisticated components or for
conducting core R & D.
 The growth of indigenous companies can
be the means to move beyond factor-
driven advantage.
 Indigenous Companies versus
Foreign Multinationals
 Multinationals can seed a cluster.
 Several multinationals in an industry
should be sought instead of only one to
encourage rivalry.
 Government should encourage the
formation and upgrading of indigenous
companies in related and supporting
industries through development of human
resource skills, a scientific base, and
infrastructure to support higher-order
competitive advantage.
 OEM Supplier versus Global
Competitor
 Most developing nations pursue
some combination of OEM supplier
and global competitor.
 To achieve sustained national
advantage that transcends basic
factor endowment, the global
competitor route is more desirable.
 Role of Government
 Many of government policies to support
domestic industries such as subsidies,
domestic mergers, providing guaranteed
government procurement, and artificial
devaluation of the currency, can actually
hurt a nation’s firms in the long run.
• Upgrading of economy would be slow due to
these policies.
• Helping creates the demand for more help.
 Role of Government
 Government’s proper role is to
encourage and even push firms to
move to higher level of competitive
process even though this might be
an unpleasant process.
 Sound government policy seeks to
provide the tools necessary to
compete such as bolstering factor
creation.
 Role of Government
 The most powerful levers available to
government for influencing national
advantage are slow-acting ones such as
creating advanced factors, encouraging
domestic rivalry, and influencing demand
sophistication.
 The long time horizon and uncomfortable
nature of the most effective policies raise
difficult challenges in nations where policy
makers are influenced by political process
such as special interest group.
 Role of Government
 Government policy toward industry must
recognize that the “diamond “ is a system, where
weakest link constrains the development of an
economy.
 If government overstate its role in national
competitive advantage, it will create an economy
of dependent and ultimately unsuccessful firms.
 National competitive advantage is not a zero-sum
game. Each economy would benefit from
improvement of productivity in other economy
through international trade.