Letter IEDI n. 1056—Industrial strategy and sectoral heterogeneity
In the recent document “Industrialization as the driver of sustained prosperity,” UNIDO—United Nations Industrial Development Organization—discusses, among other topics, criteria for the design of successful sectoral industrial policies. Today’s Letter IEDI tackles this issue, which is gaining more and more prominence in the world, after years of so-called "horizontal" (non-selective) industrial policies being prioritized.
First, UNIDO synthesizes statistical evidence that links industrialization to the development of countries. In other words, international experience shows that the increase in industrial value added is directly associated with the increase in per capita GDP.
A rising share of the industry in countries' GDP is the central engine of development, in a process the economic literature refers to as "structural change." After a certain point, the growth and diversification of services take the lead. However, the composition of the industry also changes throughout this process.
With the progression of countries' per capita income, that is, with their economic development, some industrial sectors first established—in general, producers of essential goods—begin to lose share in the industry's per capita value added (examples are textiles and clothing), while others tend to preserve their shares, such as food and beverages.
There are also those that undergo profound changes, starting to incorporate greater technological content and to diversify their products, like the chemical sector, which continue to maintain their importance with the expansion of per capita income.
And there are some industrial sectors that only develop when the country reaches a higher level of income, making market expansion and the generation of economies of scale possible. These are the cases of the vehicle and machinery and equipment industries, for which technological progress is essential.
The speed with which changes in the composition of sectors in GDP happen in an economy is related to conditions that determine the evolution of productivity, says UNIDO.
Some conditions are ubiquitous, that is, they have similar impacts on industrial sectors in any country, with only differences in degree. For example, the development of more technology-intensive sectors, anywhere, will depend on the level and intensity of this factor in the countries in which they are located.
However, there are conditions that are not easily discernible, as they constitute a country-specific advantage (or disadvantage) for the development of certain sectors, which is linked to its institutional, political and social characteristics.
According to UNIDO, these not-easily discernible conditions are critical, since they determine the extent to which the country-specific factor endowments will be used to boost industrial development. It is on these conditions that industrial policy acts.
To be successful, an industrial policy must consider fruitful experiences and take into account the intrinsic heterogeneity between manufacturing sectors, in order to identify specific parameters of success for each of them. This mapping allows efforts to be concentrated on the crucial parameters.
For example, in the automotive industry, a minimum level of production scale is vital for competitiveness, as is technological intensity for the pharmaceutical industry and an abundant labor supply for the garments industry. Based on these parameters, it is possible to shed light on government actions through industrial policy.
For UNIDO, even if companies in a certain sector are able to perform well in other parameters, if industrial policy does not address the specific factor required by their sector, the productivity and competitiveness needed will be very difficult for firms to achieve.
The Fourth Industrial Revolution (4IR) creates the opportunity for new industrial policies. As the digital technologies linked to it are not distributed equally among countries, UNIDO says that some countries need specific industrial policies to enable their adoption.
A recent case of success has been the policies for incorporating 4IR technologies into the medical device sector in Costa Rica. Currently, the country already has more than 70 medical equipment companies and the sector corresponds to 30% of its total exports.
UNIDO establishes five principles for a good sectoral industrial policy:
• Public policies can play a fundamental role in building the productive, technological and organizational capabilities necessary and specific to a particular sector.
• Governments can help companies understand the reasons for their lack of success in a given sector, by comparing them with their counterparts in other countries, in order to identify which industrial parameters are the most important.
• Governments can shape and create sectoral markets through public procurement and other targeted policies, in addition to regulation and competition policy, at the microeconomic level, and fiscal, monetary and exchange rate policy, at the macroeconomic level.
• Some industrial parameters are redesigned by technological changes and the government can act as a great technological entrepreneur creating technological infrastructure and investing in basic science, standardization and technology intermediation services.
• Technological change has the role of redefining sectoral boundaries, causing the sector-specific industrial parameters to change, too. This offers an opportunity for alternative industrialization patterns that may benefit countries that develop skills to take advantage of it. Governments can help companies to identify and capture these windows of opportunity.