A new essay by the The Global Prosperity Institute, a new think tank that describes itself as being ‘committed to promoting prosperity and combating poverty by stimulating economic growth’, says failure must be tolerated in industrial policy.
The article is well worth reading.
It is entitled, Losing to win: the paradox of industrial development, and draws on examples from South Korea’s motor vehicle industry and China’s electric vehicle programme to demonstrate that large-scale industrial policy interventions often lead to failures, but that they can also fuel successes that eclipse the cost of those failures.
The reason the piece caught my attention was that it cites Mariana Mazzucato, who sits on president Cyril Ramaphosa’s economic advisory council.
She has been described as an economist ‘on a mission to save capitalism from itself’, and is the author of a number of books that emphasise the catalytic role of the state in economic development, most notably in The Entrepreneurial State. She advocates for what she calls a Mission Economy, in which governments, à la John F. Kennedy’s moon shot programme, steer the economy to ‘solve the problems that matter to people’.
If all of this sounds like neo-leftwing statism, that’s because that is exactly what it is. It lionises the state-led growth of Asian economies, especially China, and the idea that the private sector and capitalist markets can, and should, be ‘harnessed’ for the public good.
Failure
The Losing to win article points to the failure of South Korea’s initial attempts to create an automobile export industry, in the form of Shinjin, which was forced to close in 1982 after having taxpayer money thrown at it, and being the ‘leading light’ of the country’s industrial policy, for 20 years.
‘Billions of South Korean Won had gone up in smoke; money that could have been used on hospitals, roads or schools,’ the article notes.
It recognises that this appears to confirm the orthodox economic view, expressed in the words of Robert Wade of the London School of Economics, that ‘industrial policy is government picking winners; and everyone knows that governments can’t pick winners’.
It even notes that there were other failures, such as Asia Motors and Daewoo. However, the article then says: ‘But the same policies also produced Hyundai and Kia, two shining symbols of what a well-executed industrial strategy can achieve.’
These successes, the article argues, justify all the losses, over decades, and one ought to accept some share of losses in the pursuit of industrial policy success.
It also cites the example of electric vehicle production in China, which is an elaborate and very expensive industrial policy programme that includes building a local market for electric vehicles and massive investments in battery technology, the majority of which has yet to turn a profit.
‘It just takes a few big successes for the failures to pale into insignificance,’ the authors argue.
Whose money?
All this sounds a little similar to the creative destruction of the private sector, except for one major difference. Whose money is at stake?
In the private sector, the cost of failure is borne by capitalists who chose to take the risk of investing. If some guy decides to throw billions at a scheme to build really ugly electric pickup trucks, he might succeed, or he might fail, but either way, it’s no skin off my teeth. He’s not risking your or my money.
Governments, on the other hand, take risks with public money. This creates an entirely different incentive.
If you’re buying something for yourself with your own money, you care about both quality and price.
If you’re buying something for someone else with your money, you care about price, but not so much about quality.
If you’re buying something for yourself with someone else’s money, you care about quality, but not so much about price.
And if you buy something for someone else with someone else’s money, you care neither about price nor about quality.
And that’s what the government does, pursuing industrial policy with taxpayer money. It has no skin in the game. It has no incentive to assure either quality or good value.
Chaebols
The Losing to win article never answers whether the lost money that ‘could have been used on hospitals, roads or schools’ in fact should have been spent on hospitals, roads or schools.
Taxpayers don’t pay the government to create private corporations. South Korea’s economy is dominated by four so-called chaebols: vast, family-owned conglomerates, that make fortunes building ships, electronics, cars, appliances and more.
South Korean taxpayers aren’t shareholders in these companies, and do not earn dividends from the investments their government made on their behalf to ensure the growth of these private-sector monopolists.
The majority of Koreans are being squeezed out of the market by these dominant chaebols, and protests against chaebols and political corruption have flared up periodically.
Long horizons
The article refers to Mazzucato on the old saw that the private sector is not willing to make major investment with very long payoff horizons. That is only true if the economic environment in a country is uncertain.
A great deal of historic industrial development was funded privately, from factories, to bridges, to trains and railways, to ambitious tunnel projects, to the world’s largest ships (and that’s to speak only of Isambard Kingdom Brunel). Many early public transport systems, and some modern ones, and most of Silicon Valley, are entirely built on private capital.
The belief that government finance is required to take long-term risks is a fallacy. What is required is long-term policy certainty. That creates an environment in which capitalists can feel confident they can start major projects with some certainty of reaping the rewards a decade or more down the line.
‘Wider society’
The article goes on to argue that ‘the goals of private sector actors differ from those of wider society’, but it never justifies this statement. If there is demand in society, and the private sector is vibrant, well-functioning and free, companies will emerge to serve that demand.
If a government must force companies to supply a product or service, or must force citizens to invest in something through taxation, it is arguable that ‘wider society’ never wanted it in the first place.
Conversely, the economic calculation problem suggests that government cannot even know what ‘the goals of wider society’ are, or whether they indeed differ from those of the private sector.
‘Wider society’ isn’t even really a thing. Society is composed of individuals. Individuals have wants and needs. Individuals express the subjective value they attach to goods and services by the price they are willing to pay for them. If some of the people need motor vehicles, but other people prefer bicycles, what does the ‘wider society’ want?
How many Koreans really wanted Hyundais? How many Chinese people really had electric vehicles at the top of their priority lists?
Folly
The article is commendably open about the risks inherent in what it proposes: ‘There is of course a danger in this line of thinking. Recognising that failure is an inevitable part of even the best industrial policy risks legitimising poor policymaking that creates little or no value. Zombie firms can continue to be kept artificially alive by government handouts ad infinitum. And it can provide intellectual cover for crony capitalism to thrive.’
It proceeds to gloss over those risks, however, by saying governments should just set the right decision criteria and minimum conditions, and know when to ‘pull the plug’.
That is easier said than done, however. It is folly to rely upon governments to be virtuous, and orchestrate vast amounts of money honestly and without risk of cronyism and corruption.
Even in the article’s own example of South Korea, it wasn’t possible to prevent crony capitalism. Five years ago, its president went to prison for corruption, though few expected real reform to follow.
Governments cannot pick winners. Governments are not good central planners. Governments cannot access the decentralised knowledge of society. Governments do not have the right incentives. Governments cannot be trusted with taxpayer money.
The article acknowledges that economists say ‘the best industrial policy is none at all,’ but does not acknowledge that these are the reasons why.
Deep doodoo
And finally, the article entirely ignores the fact that the South Korean economy is facing rising headwinds, in part due to flagging exports, while the Chinese economy is (to use the academic term) in very deep doodoo that it is unlikely to be able to dig itself out of, as a result of spending vast fortunes it didn’t have on industrial policy.
(My own warning that the Chinese model is morbidly obese, written in 2012, has held up remarkably well.)
Cherry-picked examples of apparently successful industrial policy do not justify the idea that governments ought to be investing heavily to direct industrial activity. The money that citizens earn is not for the state to gamble on ‘entrepreneurialism’ and speculative investments. If citizens want to do that, they can do so themselves.
Ultimately, this idea of state-led growth and a government that is capable of orchestrating industrial policy for the benefit of the people fails for the same reason that every left-wing idea fails: it works only if one can rely upon the government being honest, competent and in command of perfect knowledge.
‘A good chef’, the article calls such a government. That is naive idealism at the best of times. When faced with regimes like that of South Africa, that’s living in la-la land.
[Image: South Korean demonstration in 2017 against the ties of President Park Geun-hye (centre) to chaebols, including Samsung (left) and Hyundai (right). By Mathew Schwartz, under a Creative Commons Attribution 3.0 licence.]
The views of the writer are not necessarily the views of the Daily Friend or the IRR
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