All the Way to the Top: Innovation, Growth, and the Role of the State Reda Cherif and Fuad Hasanov International Monetary Fund November 29, 2017 DISCLAIMER: THE VIEWS EXPRESSED HEREIN ARE THOSE OF THE AUTHORS AND SHOULD NOT BE ATTRIBUTED TO THE IMF, ITS EXECUTIVE BOARD, OR ITS MANAGEMENT.
Will Singapore be around in 100 years? I am not so sure. Whatever the choices are, I am absolutely sure that if Singapore gets a dumb government, we are done for. This country will sink into nothingness. Lee Kuan Yew
What is the Grail of Development? 0 10000 20000 30000 40000 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 Year Korea Chile Malaysia Ghana
Almost Half-Century of Development 1 IRL USA.2.4.6.8 0 HKG TPC GNQ OMN ABW KOR ESP PRT MLT POL SYC CYP GRC HUN MYS CHL ROMKNA ARGPAN TURURY AIA MUS MDV BGR MSR BWA BRASURATG IRNMEX VEN THA CHN DOM COL CRI LBN GAB IRQ DZA EGY MNG ECU JOR GRD ALB IDN LKALCANAM ZAF TUNPER DMA SLV AGO BLZ CPV BTN MAR PRY VCT SWZGTM FJI JAM LAO INDBOL PHL MMR VNM BFA CMR BGD COG PAK NGA HND LSO SDN PSE KEN KHM ZMB MRT CIV GHA SYR NIC NPL STP TCA DJI ETH MLI BEN MOZ BDI RWA UGA MWI GNB HTI SEN GIN GMB LBR MDG SLETCD COM CAF NER TGO TZA ZWE COD JPN ITA NLD AUT DEU DNK CAN AUS SWE BEL ISL FINGBR FRA BHR NZL ISR TTO VGB BHS BRB 0.2.4.6.8 1 GDP per capita relative to US in 1970
Are Asian Miracles Outliers? Much of the real world is controlled as much by the tails of distributions as [by] means or averages by the exceptional not the common place; by the catastrophe, not the steady drip we need to free ourselves from average thinking. - Phil Anderson, Nobel laureate in physics
What Do Economists Know About Growth and Innovation? The lack of sustained growth relates to productivity slowdowns and innovation-driven growth is key to sustaining productivity gains Important to switch from investment-based strategy to innovation-based strategy before reaching a certain level of development (Acemoglu, Aghion, and Zilibotti 2006) This involves continuously introducing new goods and tasks and moving up the quality ladder (Lucas 1993 and Aghion and Howitt 1992) and to do this, the country must be a large exporter (Lucas 1993) Empirically, export sophistication is an important determinant of long-run growth Hausmann, Hwang, and Rodrik (2007) and Cherif and Hasanov (forthcoming)
Standard Growth Policy Advice May not be Sufficient Standard policy prescription includes macroeconomic stability, minimum state intervention and an enabling environment conducive to investment in both physical and human capital (e.g. Breaking the Oil Spell by Cherif, Hasanov and Zhu 2016) It consists in tackling government failures (Rodrik 2005) The Gulf Cooperation Council (GCC) countries have improved in most of these dimensions but relative economic improvement has not materialized
Ease of Doing Business (Ranking among 183 countries) Tackling Government Failures 0 20 Doing Business vs. Global Competitiveness Index, 2013 Singapore Saudi Arabia U.A.E 40 Bahrain Oman Qatar 60 80 100 Kuwait 120 140 160 180 200 140 120 100 80 60 40 20 0 Global Competitiveness Index (Ranking among 134 countries)
Market failures are the Binding Constraints High scores in infrastructure quality and other business quality indicators (e.g. tax, regulation, competition, and trade) in the GCC and much better than in relatively successful oil exporters Firms choose to produce non-tradables over tradables The market failures necessitate government intervention, i.e. the leading hand of the state to create a dynamic export sector
Creating a Dynamic Export Sector Export orientation vs. import substitution/non-tradables Domestic capabilities vs. portfolio diversification (e.g. Norway in the 1970s vs. petrochemicals/metals in other oil exporters) Sophisticated exports vs. agriculture and services such as tourism and finance Beyond vs. within comparative advantage (e.g. Korea/Malaysia vs. Chile)
The Leading Hand of the State Direct intervention: to encourage/create domestic firms in the targeted new industries (e.g. electronics in Taiwan Province of China) Indirect intervention: to help firms develop while learning new tasks (e.g. Singapore, SBIR and BNDES) Enforce market discipline: despite the support received, firms must export and are subject to fierce competition (e.g. Korea)
Automotive: Malaysia vs. Korea Malaysia s Proton car Established in 1985 and reached annual production of 500,000 cars Lack of innovation, vested political interests, and mismanagement A few key elements for the success of Hyundai The push to export from the outset Move first, then learn and adjust strategy (huge annual production targeting the US, own dealership network and investment in advertisement) Large state support with strict accountability High R&D spending and own engine produced in 1991 Competition across several chaebols in international markets
Trapped in the Middle vs. Asian Miracles A middle-income country like Malaysia has tackled most of the known government failures It enjoys a relatively highly skilled labor force, good infrastructure and business environment especially compared to Korea in the 1970s and 1980s The divergence between the Asian miracles and Malaysia is instructive about the key differences in terms of innovation policies
The Asian Miracles vs. Malaysia 0 10000 20000 30000 40000 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 Year Korea Taiwan Province of China Malaysia
Malaysia s Total Factor Productivity has been Lagging 50 100 150 200 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 Year Korea Taiwan Province of China Malaysia
But Export Sophistication Improved Substantially 0 5 10 15 20 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 Year Korea Taiwan Province of China Malaysia Chile
The Missing Element 0 100 200 300 400 500 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 Year Korea Taiwan Province of China Malaysia Chile
Relatively Small R&D Spending 0 1 2 3 4 Korea Malaysia Thailand 1996 2011
Patents Granted: When Korea Overtook Other Countries 0 2 4 6 ZAF HUN GRC SVN ISR NZL JPN ISR NZL ITA EST SVN ESP HUN ESP MYS GRC PRT CHL ZAF BRA MEX MEX PHL TUN -2 TUN PHL BRA CHL MYS PRT 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 Year
Patents Granted: The Gaps are Large in Magnitude JPN ISR 100 200 300 400 ISR KOR 0 EST HUN PRT GRC SVN NZL ESP NZL ITA ESP EST PHLNGATUN MYS SVN HUN PRT GRC BRACHL ZAFMEX 1990 1995 2000 2005 2010 2015 Year
R&D Spending: When Korea had the same income as others in 2014 1 2 3 4 5 GRC EST PRT SVN ISR 2000 2002 2004 2006 2008 2010 2012 2014 2016 Year ITA ESP JPN
Researchers per Million People: When Korea had the same income as others in 2014 10 12 14 16 SVN JPN ESP GRC PRT ITA EST 6 8 2000 2002 2004 2006 2008 2010 2012 2014 2016 Year
Malaysia s Technology Diffusion in Electronics Attempts at technology diffusion from MNCs: The Industrial Master Plan of 1986-95 but aborted in favor of liberalization and FDI Technology parks in the 1990s Vendor Development Program for local suppliers Local technology creation is largely missing Many local firms did not meet requirements to get incentives from the state and lacked high value added production R&D intensity was lacking in local firms
Electronics: In the Footsteps of Taiwan Province of China A few key elements A focus on SMEs and linkages with MNCs Public research institutes to create technology Massive investment in skills Leap to the frontier at an early stage Industrial Technology Research Institute (ITRI) set up in 1973 to lead the effort Spin-offs and the state as a venture capitalist Technology sharing agreement or license with a US firm Staff sent for training in the facilities of the US partner firms Experimental production units set up within the institute About 50 percent of capital provided and even initial production took place at the institute Technology frontier reached within a decade by late 1980s
Who Does Private R&D? Source: https://www.oecd.org/sti/outlook/e-outlook/sticountryprofiles/estonia.htm
The State as a Venture Capitalist Who does R&D in innovative economies? Mostly large domestic firms in high-tech manufacturing Manufacturing and software/scientific services represent 90% of total R&D in the US Pharmaceuticals and electronics industries are about 15 times more R&D intensive than services Specializing in producing/exporting complicated stuff should lead to higher R&D and innovation but how do you get into these sectors? Venturing into these sectors with purpose-specific policies
Changing Incentives for Firms Purpose-specific investment in skills and infrastructure Funding and business support using development banks, public venture capital funds, and export promotion agencies (e.g. Finland) University-centered innovation: applied sciences, startup incubators, research and development centers, and University-Industry partnerships (e.g. EPFL in Switzerland) Industry clusters (e.g. Biopolis in Singapore)
The Rise of Nokia Nokia started as a paper mill company (joint venture later with rubber and cables companies) Government procurement played an important role in ICT cluster development (e.g. Post and Telecommunication Operator) Parallels with Taiwan Province of China: STPC- STAG; ITRI-Tekes; ERSO-VTT 7-8% of Nokia s R&D in 80s and 90s from Tekes (excluding partnerships) From late 90s to 2010, Nokia s R&D was around 1% of GDP (about 1/3 of total R&D)
University- Centered Innovation: EPFL Large investment in basic and applied research in Universities, including through Swiss National Foundation and Commission for Technology and Innovation Strong collaboration with industries: CTI on a national level, Innovation Park at EPFL Policies to attract foreign talent (professors and PhD/masters students) Supporting legal framework for technology transfers (early 1990s for ETH System) and various funding instruments (e.g. Innogrants) and startup support at Innovation Park
Industry Clusters: Singapore s Biopharma In early 2000s, Biopharma was identified as one of the pillars of Singapore s manufacturing Ministerial Committee for Life Science was set up to coordinate the initiative Purpose specific investment to solve coordination failures: Research institutes Partnerships with industry Skills (PhD fellowships abroad, technicians ) Biopolis (physical hub for Biomedical research) Funding instruments Legal framework (e.g. clinical trials and stem cells)
Changing Incentives for Workers Improving education quality through Early childhood education programs (Heckman 2008) Teacher quality enhancement programs Training institutes, apprenticeships, and technical schools Importance of study abroad programs and research institutions Changing social attitudes Developing economies: Saemaul Undong -type social development program (Cherif, Hasanov, and Zhu 2016) Advanced economies: Encourage entrepreneurship and risk taking
Concluding Remarks The key is exporting activities of domestic firms and local technology creation Picking sectors/missions rather than firms while preserving competition and creative destruction To create local technology, a focus on competing in international markets, climbing the value added ladder and moving to frontier technology early on, while enforcing market discipline and accountability is needed Invest in purpose-specific skills and infrastructure and change incentives for firms and workers
Creativity always comes as a surprise to us; therefore we can never count on it and we dare not believe in it until it has happened. In other words, we would not consciously engage upon tasks whose success clearly requires that creativity be forthcoming. Albert Hirschman The Principle of the Hiding Hand