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The infant industry argument

February 25th, 2008 · No Comments

by Ha-Joon Chang

Independent.co.uk (July 23 2007)

I have a six-year-old son. His name is Jin-Gyu. He lives off me, yet he
is quite capable of making a living. After all, millions of children of
his age already have jobs in poor countries.

Jin-Gyu needs to be exposed to competition if he is to become a more
productive person. Thinking about it, the more competition he is exposed
to and the sooner this is done, the better it is for his future
development. I should make him quit school and get a job.

I can hear you say I must be mad. Myopic. Cruel. If I drive Jin-Gyu into
the labour market now, you point out, he may become a savvy shoeshine
boy or a prosperous street hawker, but he will never become a brain
surgeon or a nuclear physicist. You argue that, even from a purely
materialistic viewpoint, I would be wiser to invest in his education and
share the returns later than gloat over the money I save by not sending
him to school.

Yet this absurd line of argument is in essence how free-trade economists
justify rapid, large-scale trade liberalisation in developing countries.
They claim that developing country producers need to be exposed to
maximum competition, so that they have maximum incentive to raise
productivity. The earlier the exposure, the argument goes, the better it
is for economic development.

However, just as children need to be nurtured before they can compete in
high-productivity jobs, industries in developing countries should be
sheltered from superior foreign producers before they “grow up”. They
need to be given protection, subsidies, and other help while they master
advanced technologies and build effective organisations.

This argument is known as the infant industry argument. What is little
known is that it was first theorised by none other than the first
finance minister (treasury secretary) of the United States – Alexander
Hamilton, whose portrait adorns the $10 bill.

Initially few Americans were convinced by Hamilton’s argument. After
all, Adam Smith, the father of economics, had already advised Americans
against artificially developing manufacturing industries. However, over
time people saw sense in Hamilton’s argument, and the US shifted to
protectionism after the Anglo-American War of 1812. By the 1830s, its
industrial tariff rate, at forty to fifty per cent, was the highest in
the world, and remained so until the Second World War.

The US may have invented the theory of infant industry protection, but
the practice had existed long before. The first big success story was,
surprisingly, Britain – the supposed birthplace of free trade. In fact,
Hamilton’s programme was in many ways a copy of Robert Walpole’s
enormously successful 1721 industrial development programme, based on
high (among world’s highest) tariffs and subsidies, which had propelled
Britain into its economic supremacy.

Britain and the US may have been the most ardent – and most successful –
users of tariffs, but most of today’s rich countries deployed tariff
protection for extended periods in order to promote their infant
industries. Many of them also actively used government subsidies and
public enterprises to promote new industries. Japan and many European
countries have given numerous subsidies to strategic industries. The US
has publicly financed the highest share of research and development in
the world. Singapore, despite its free-market image, has one of the
largest public enterprise sectors in the world, producing around thirty
per cent of the national income. Public enterprises were also crucial in
France, Finland, Austria, Norway, and Taiwan.

When they needed to protect their nascent producers, most of today’s
rich countries restricted foreign investment. In the 19th century, the
US strictly regulated foreign investment in banking, shipping, mining,
and logging. Japan and Korea severely restricted foreign investment in
manufacturing. Between the 1930s and the 1980s, Finland officially
classified all firms with more than twenty per cent foreign ownership as
“dangerous enterprises”.

While (exceptionally) practising free trade, the Netherlands and
Switzerland refused to protect patents until the early 20th century. In
the 19th century, most countries, including Britain, France, and the US,
explicitly allowed patenting of imported inventions. The US refused to
protect foreigners’ copyrights until 1891. Germany mass-produced
counterfeit “made in England” goods in the 19th century.

Despite this history, since the 1980s the “Bad Samaritan” rich countries
have imposed upon developing countries policies that are almost the
exact opposite of what they used in the past. But these countries
condemning tariffs, subsidies, public enterprises, regulation of foreign
investment, and permissive intellectual property rights is like them
“kicking away the ladder” with which they climbed to the top – often
against the advice of the then richer countries.

But, the reader may wonder, didn’t the developing countries already try
protectionism and miserably fail? That is a common myth, but the truth
of the matter is that these countries have grown significantly more
slowly in the “brave new world” of neo-liberal policies, compared with
the “bad old days” of protectionism and regulation in the 1960s and the
1970s (see table). And that’s despite the dramatic growth acceleration
in the two giants, China and India, which have partially liberalised
their economies but refuse to fully embrace neo-liberalism.

Growth has failed particularly badly in Latin America and sub-Saharan
Africa, where neo-liberal reforms have been implemented most thoroughly.
In the “bad old days”, per capita income in Latin America grew at an
impressive 3.1 per cent per year. In the “brave new world”, it has been
growing at a paltry 0.5 per cent. In sub-Saharan Africa, per capita
income grew at 1.6 per cent a year during 1960-80, but since then the
region has seen a fall in living standards (by 0.3 per cent a year).

Both the history of rich countries and the recent records of developing
countries point to the same conclusion. Economic development requires
tariffs, regulation of foreign investment, permissive intellectual
property laws, and other policies that help their producers accumulate
productive capabilities. Given this, the international economic playing
field should be tilted in favour of the poorer countries by giving them
greater freedom to use these policies.

Tilting the playing field is not just a matter of fairness. It is about
helping the developing countries to grow faster. Because faster growth
in developing countries means more trade and investment opportunities,
it is also in the self-interest of the rich countries.
_____

The author teaches economics at the University of Cambridge. The article
is based on his book Bad Samaritans – Rich Nations, Poor Policies, and
the Threat to the Developing World (Random House).

Copyright (c) independent.co.uk

http://www.independent.co.uk/news/business/comment/hajoon-chang-protectionism-the-truth-is-on-a-10-bill-458396.html

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Tags: Critique of Evolutionary Economy

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