Industrial Policy Jolts Neo-Liberal Dreamers

飞雪寒冰

If the current financial and economic hurricane has done nothing else, it will have demolished the hold of free-market theory that neo-liberals succeeded in establishing as the dominant guide and constraint on government policies for the past 30 years. The theory says "free-up markets, deregulate, denationalize, and get government out of the economy."

Now, pressed by economic crisis, governments around the world are taking control of financial and industrial firms, setting out new regulations, and intervening to affect market outcomes. They are tempted and pressured to rescue their big, bleeding firms and their citizens' jobs as well as, of course, to leverage their wealth strategically rather than invest passively as simple, though big, market players. This is going to matter.

During the past generation, industrial policy has been taboo. Countries pursued it, but their governments believed they ought not for two reasons: First, the logic of the market is supposed to be superior. And second, your industrial policy may be good for you, but yours and their industrial policies are together bad for both. The coinciding of these two reasons led to a rollback of at least open and admissible interventions, and a general victory for Treasuries and central banks, at the expense of commerce, labor and industrial development ministries around the globe.

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During the past decade, there has been some restless resistance to neo-liberal dogma. Performance has fallen short of promise. Why has the process of transition in East Europe been so haphazard and disappointing relative to state-led development in China? Why has the neo-liberal transition in East Europe been accompanied by such a huge increase in inequality and poverty? How is it possible that Argentina is one year a hero of sober, market-oriented and governmentally appropriate development, and four years later is chided as a goat of excessive, populist budget deficits? Why did the world capital market try to pull the plug on growth of extremely successful East Asian economies in 1997-'98? How has a policy of trying to rely on private self-regulation spurred by compensation-based incentives led to a collapse of the global financial system?

It is this last question that is likely to be decisive. The quarter-century, neo-liberal dream was ruled by Alan Greenspan from his seat as chairman of the U.S. Federal Reserve. The New York Times' Edmund Andrews caught him last October 23 reacting to the end of the dream while addressing the U.S. House of Representatives' Committee on Oversight and Government Reform. "Those of us who have looked to the self-interest of lending institutions to protect shareholders' equity, myself included, are in a state of shocked disbelief," Greenspan was quoted as saying.

"Do you feel that your ideology pushed you to make decisions that you wish you had not made?" asked committee Chairman Henry Waxman.

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"Yes," Greenspan responded. "I've found a flaw (in my thinking). I don't know how significant or permanent it is. But I've been very distressed by that fact…. This modern risk-management paradigm held sway for decades. The whole intellectual edifice, however, collapsed in the summer of last year."

When the debris from the current crisis is cleared away, governments will -- once again – have ended up amassing substantial direct and indirect positions in a host of national firms, not only in finance but also in industry. And governments will have abandoned the presumption that business is not their business. Governments will then face an irresistible temptation moving forward, and will find themselves under considerable political pressure to use their leverage over business for what various groups regard as national interests. And when one country does that, others will be pressured to do the same. When the U.S. bails out its auto industry, or its banks, or insurers, or airlines, shouldn't France and Germany do so, too?

If auto plants are going to close in Europe, it matters a lot for Belgian and German politicians whether the closed factories are in Belgium, Germany or Spain. The position that detailed intervention in industrial location and structure may be sustainable politically as part of a grand, international free-trade bargain among governments, a mutual and balanced reduction in industrial policy deterrence. But deterrence lasts only as long as it actually deters.

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Meanwhile, the post-crisis world is likely to see a serious, international return to ambitious industrial policy that will likely weaken America's relative position. America excels at entrepreneurial and technological invention and innovation. America excels at startups such as Intel, Apple and Google. But from the American standpoint, what happens when Japan or Germany or China creates a domestic launch market, and then pumps billions into launching photovoltaic or wind power companies to drive successive rounds of innovation and economies of scale, all in order to take an overpowering lead in a surging, new industry in which American firms, dependent on the tight constraints of capital markets, will be left far behind? What happens when the financing for the next generation of American biotech or nanotech start-ups comes from a Chinese sovereign wealth fund? What happens when a financing condition is a demand from the Chinese government -- legitimately and understandably -- that part of a deal be a rapid back-transfer of new technology to China?

That will matter a lot, for ultimately China and other East Asian countries with large export surpluses, along with resource exporters, will wind up actively managing their investments in the United States. They will not be happy to hold low yield Treasuries, but will insist on higher yielding junk bonds and equities. And with risk has to come control, otherwise the incentives to tunnel productive assets out of a corporate shell in which foreigners have a stake and into some privately held vehicle are overwhelming.

In the late 19th century, American crony capitalist, politico-economic operators such as Jay Gould and Leland Stanford were experts at doing so. Gould lost most of his first fortune trying to corner the American gold market in 1873. Stanford held on to his, and it became the core endowment of a great California university.

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If America is fortunate, it will see economic growth of about 3 percent per year in real terms over the next two decades. Of this growth, about one-quarter – perhaps 0.75 percent per year -- will come from the labor side, from more hands with more skills and more education. Another one-quarter -- another 0.75 percent per year -- will come from the capital side of plant and equipment purchases funded by investors. These two components have a narrow economic logic supporting them: Hands go to work and bring skills and educational capabilities with them because they are paid wages. Investors bring funds in anticipation of interest coupons, dividends and capital gains.

However, fully half of the economic growth -- 1.5 percent per year -- comes from technological and organizational progress, also known as innovation. It is not distributed to those who first undertake innovations, create technologies and pioneer organizations. These important fruits of innovation do not remain confined to innovators but instead spill out in capillary fashion into the broader economy, usually quite nearby.

Ford did not capture the lion's share of the gains from the Ford-invented and Ford-pioneered assembly line, but General Motors, Caterpillar, Westinghouse and many others did. Xerox did not capture any of the gains from the invention of the windows-icon-mouse-pointer computer interface, but Apple and Microsoft did. Fully half of economic growth is an unrecompensed byproduct of what businesses do. It spills out and over into the local industrial eco-system.

This is an opportunity that governments always have and inevitably will try to seize. Capturing and repatriating innovation's spillover growth encompasses one area in which governments have tried to make industrial policy, sometimes with success but with many failures as well. But it is not the only one. Protecting and supporting your lemons such as steel, autos, farming and, by easily foreseeable extension, squeezing those same lemons in other countries, is another.

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Now, individual governments outside the United States may or may not succeed. They will, probably, largely fail in their industrial policy goals. Technology transfer is very hard; the global economy is littered with the skeletons of unfit "national champion" firms and unsuccessful, government-led programs to force -- via hothouse -- the growth of commercially successful, technologically sophisticated, high-wage firms. Economist William Easterly has a very large list of countries that thought they could do better than trusting the market.

It is, however, incontestably true that there have been industrial policy successes. And not all of the successes have been in East Asia. They can be found even in Africa, such as Botswana and the island nation of Mauritius, which look to an extent surprisingly like Taiwan and Hong Kong. France in 1945 was supposed to be a country of small-scale family enterprises incapable of rapid industrialization and productivity growth. Yet a generation of government ownership of "commanding heights," and indicative planning, transformed it into the post-industrial equal of Germany, and superior to Britain.

And what high-tech leadership in post-industrial sectors of the U.S. economy would exist in current form without the government's Defense Advanced Research Projects Agency, the National Institutes of Health, and America's research universities? Boston's Route 128 and California's Silicon Valley would have been inconceivable without MIT, Stanford and the Pentagon. Given these successes, all the world's countries are likely to try as we move forward.

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The neo-liberal order sought mutual and balanced relaxation of government interventionist policy tensions. Technological and organizational progress would still be of immense value and still be realized through largely unintended spillovers stemming from economic decisions based on other motives. But if market logic ruled, at least the game would be fair in a culturally comfortable but restricted sense of fairness by minimizing direct political influence on national economic outcomes.

But the neo-liberal policy order will not survive this downturn intact. Those governments that have been practicing industrial policy will up their efforts, and all others who recently swore off the sauce cold turkey will undoubtedly try again.

This will, I think, be very bad for the future of the world economy. It will exert a substantial drag on world growth. It will politicize issues and disputes that are best kept out of politics.

But I see no way to avoid it. The current financial crisis has scrambled the egg that was dominated by neo-liberal ideological order. It was a useful thing, but an egg cannot be unscrambled.