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Africa: "New Structural Economics"

AfricaFocus Bulletin
Apr 11, 2012 (120411)
(Reposted from sources cited below)

Editor's Note

"I believe that every developing country, including those in Sub-Saharan Africa, can grow at 8 percent or more continuously for several decades, significantly reducing poverty and becoming middle- or even high-income countries in the span of one or two generations, if its government has the right policy framework to facilitate the private sector's development along the line of its comparative advantages and tap into the late-comer advantages" - Justin Yifu Lin, Chief Economist, World Bank, in introducing his just published book New Structural Economics: A Framework for Rethinking Development and Policy

Leading Chinese economist Justin Yifu Lin, who ends his terms as chief economist of the World Bank at the end of May, has laid out an ambitious proposed framework which he argues goes beyond the old structural economics of the 1960s and 1970s with its overemphasis on state initiatives and the "Washington consensus" of market orientation in the 1980s and 1990s, building particularly on the experiences of successfully industrializing countries such as the East Asian tigers and other recently emerging powers such as China and Brazil. He labels it "New Structural Economics," and, as the quote from the book's introduction cited above makes clear, he is definitely optimistic about the prospects that Africa may follow the path of such rapid growth.

These views are hardly likely to mark any new consensus, as traditional macroeconomic assumptions remain embedded in many Bank policies, and critics both in and outside the Bank are likely to question whether the focus on growth, however modified, is not still likely to result in ignoring wider considerations of environmental impact, equity, and other components of human development that are not measured by gross domestic product. But there is no doubt that the prominent position of such views signals the growing intellectual weight as well as economic prominence of the emerging powers.

This AfricaFocus Bulletin contains the text, but not the footnotes and references, from the epilogue to the book.

A video from the book launch, press releases, related references, and the full book available for download are available at: http://go.worldbank.org/QZK6IM4GO0

Additional related commentary can be found in the Chief Economist's blog at http://tinyurl.com/6ltrs3a See particularly his March 22 blog post on his last visit to Africa before ending his term at the World Bank this June.

Another AfricaFocus Bulletin, sent out by e-mail today and available on the web at http://www.africafocus.org/docs12/wb1204a.php, includes several article from the Bretton Woods Project on current issues facing the World Bank, as well as links to the debate on the choice of a new Bank president.

For previous AfricaFocus Bulletins on economic issues, visit http://www.africafocus.org/econexp.php

Particularly relevant issues include:

China/Africa: Development Issues
http://www.africafocus.org/docs11/ch-af1108a.php and http://www.africafocus.org/docs11/ch-af1108b.php

Africa: ECA Calls for Developmental States
http://www.africafocus.org/docs11/eca1103.php

Africa: Thinking Beyond Acronyms
http://www.africafocus.org/docs10/pov1009.php

++++++++++++++++++++++end editor's note+++++++++++++++++

Epilogue: The Path to a Golden Age of Industrialization in the Developing World

"The golden age of finance has now ended," as Barry Eichengreen commented recently in reference to the Great Recession. In my view, however, the golden age of industrialization in the developing world has just begun. The global financial crisis is still looming large over Europe. Newspapers are carrying daily reports on the anemic recovery, stubbornly high unemployment rates, downgraded sovereign credit ratings, and recurrent debt crises occurring in the wake of the recession in advanced countries on both sides of the Atlantic. Political leaders the world over are just waking up to the fact that over reliance on making financial deals to maintain a high standard of living, without building and rebuilding a strong industrial base, is just a mirage.

For a sustainable global recovery and robust growth in the coming years, the world needs to look beyond the Euro Area and sovereign debt worries to the promise inherent in structural transformation, which, as defined in this volume, is the process by which countries climb the industrial ladder and change the sector employment and production compositions of their economies. Except for a few oilexporting countries, no countries have ever gotten rich without achieving industrialization first. During my travels in the past three and a half years as the Chief Economist of the World Bank Group, I have been struck by the potential for less developed countries to take a page from the playbook of more successful industrializing East Asian countries, such as China, Indonesia, Japan, Korea, Malaysia, Singapore, and Vietnam, and to dramatically improve their development performance.

My belief in the coming of a golden age of industrialization in the developing world is based on the potential to rapidly expand industrial sectors in developing countries, including those in Sub-Saharan African countries, and on the dynamic relocation of industries in a multi-polar growth world. The first force can be envisioned through an improved understanding of the mechanics of economic transformation in modern times ushered in by the Industrial Revolution in the 18th century. In advanced countries technological innovation and industrial upgrading require costly and risky investments in research and development, because their vanguard technologies and industries are located on the global frontier. By contrast, a latecomer country can borrow technology from the advanced countries at low risk and cost. Hence, if a developing country knows how to tap the advantage of backwardness, its industrial upgrading and economic growth can proceed at an annual rate several times that of high-income countries for decades as the country closes its industrial and income gap with advanced countries. The second force is the rapid wage increase in the dynamically growing emerging market economies and the unavoidable relocation of their labor-intensive manufacturing industries to other lower-income countries. Take China, for example: its monthly wage for unskilled worker is about $350. China is likely to maintain high growth in the coming decades (Lin 2011a). Its monthly wage for unskilled worker will reach at least $1,000 in 10 years. Such wage dynamics means China will need to upgrade to higher value added, more capital-intensive sectors, opening up a huge opportunity for other countries with income levels lower than China's to enter the labor-intensive manufacturing industries.

In the UNU-WIDER annual lecture I delivered in Maputo, Mozambique, in May 2011, I explained how developing countries can capture these opportunities to achieve rapid industrialization and economic growth. The winning formula is for them to develop tradable industries that are expanding rapidly in countries that have been growing dynamically for decades and that have higher income and similar endowment structures to theirs. The pattern of flying geese is a useful metaphor to explain my vision. Since the 18th century, the successfully catching-up countries in Western Europe, North America, and East Asia all followed carefully selected lead countries that had per capita income about twice as high as theirs, and emulated the leaderfollower flying-geese pattern in their industrial upgrading and diversification before becoming advanced countries themselves (Lin 2011c).

The emergence of large market economies such as Brazil, Russia, India and China (BRIC) as new growth poles in the multi-polar world and their likely continuous dynamic growth in the post-crisis world offers an unprecedented opportunity to all developing economies with income levels currently below theirs - including those in Sub-Saharan Africa - to develop manufacturing and jump-start industrialization. China, for example, having been a "follower goose" in East Asia, is on the verge of graduating from low-skilled manufacturing jobs. Because of its size, however, China may become a "leading dragon" for other developing countries instead of a "lead goose" in the traditional flying geese pattern of the international diffusion of industrial development. China will free up 85 million labor-intensive manufacturing jobs, compared with Japan's 9.7 million in the 1960's and Korea's 2.3 million in the 1980s (Lin 2011c).

The benefits of reallocating labor-intensive manufacturing jobs from China and other dynamically growing emerging market economies, such as India and Brazil, to low-income countries, most of which are located in Sub-Saharan Africa, could be enormous. In 2009 alone, China exported $107 billion worth of apparel to the world, compared with SubSaharan Africa's total apparel exports of $2 billion (2 percent of Chinese apparel exports). If only 1 percent of China's production of apparel is shifted to lower-wage African countries, African production and exports of apparel would increase by 47 percent. Similarly, employment gains could be significant. Africa's population (north and south of the Sahara) is 1 billion, slightly less than India's 1.15 billion. In 2009 manufacturing value added was 16 percent of GDP in India, 13 percent in Sub-Saharan African countries, and 16 percent in North African countries such as Egypt, Morocco, and Tunisia. India's employment in manufacturing was 8.7 million in 2009. Hence, based on a back-of-theenvelope calculation, it is reasonable to assume that total manufacturing employment in Africa is at about 10 million (Lin 2011c). This suggests that relocation of even a small share of China's 85 million labor-intensive manufacturing jobs to Africa would provide unprecedented opportunities for Africa.

But why are Chinese firms and lower-income country governments that would benefit substantially from a reallocation of firms from China and other emerging market economies not yet organizing themselves to seize these opportunities? From my frequent interactions in the past three years with policy makers in low-income countries in Africa and Asia, as well as with business people and government officials in emerging market economies, I know that policy makers and business communities would be interested in pursuing this opportunity. Some individual firms from emerging markets have linked up with entrepreneurs in low-income countries to develop various labor-intensive manufacturing industries. Still, many industrialists in emerging markets are hesitant to relocate abroad, especially to Africa. They cite the following concerns: (i) social and political instability; (ii) differences in labor laws and qualification; (iii) poor logistics; and (iv) the lack of adequate infrastructure and business conditions. These soft and hard infrastructure concerns add to the risks of their investments, increase the transaction costs of their operations, and outweigh the potential benefits of low labor costs in Africa and other low-income countries.

How to deal with these infrastructure problems? The first two issues can be mitigated through the commitment and broad-based support of recipient governments; the latter two could be addressed effectively through the development of sector-specific cluster-based industrial zones. Why is the latter sector-specific approach - sometimes called "picking winners" - desirable?

First, the required infrastructure improvements are often industry specific. The cut flower and textile industries, for example, require different infrastructure for their exports. Because the government's fiscal resources and implementation capacity in a developing country are limited, the government has to prioritize the infrastructure improvement according to the targeted industries.

Second, to compete in the globalized world, a new industry not only must align with the country's comparative advantage so that its factor costs of production can be at the lowest possible level, but the industry also needs to have the lowest possible transaction-related costs. Suppose a country's infrastructure and business environment are good and industrial upgrading and diversification happen spontaneously. Without the government's coordination, firms may enter into too many different industries that are all consistent with the country's comparative advantage. As a result, most industries may not form large enough clusters in the country and may not be competitive in the domestic and international market. Only in the wake of many failures might a few clusters eventually emerge. Such "trial and error" is likely to be a long and costly process, reducing the individual domestic and foreign fi rms' expected returns and incentives to enter new industries or relocate to other countries. This in turn can slow down or even stall a country's economic development.

But there exists a long list of failed attempts to pick winners. These failures, as discussed in the previous chapters, were often the result of the inability of government to come up with good criteria for identifying industries that are appropriate for a given country's endowment structure and level of development. In fact, governments' propensity to target industries that are too ambitious and not aligned with a country's comparative advantage largely explains why their attempts to "pick winners" resulted in "picking losers" (Lin, 2011d).

The recipe to economic success therefore is the one that helps policy makers in developing countries identify the industries in which their economies may have a latent comparative advantage and remove binding constraints to facilitate private domestic and foreign fi rms' entry to and operation in those industries. Chapter III of this book provides the governments in developing countries with a pragmatic and easy-to-follow growth identification and facilitation framework to do so.

Many low-income countries have an abundance of natural resources. They may also benefit from the industrialization opportunity provided by the industrial upgrading in dynamically growing emerging market economies by following the "flying geese" pattern. Resource-intensive industries, such as extraction, provide very limited job opportunities. In a visit to Papua New Guinea in 2009, I found that its famous OK Tedi copper mine generated 40 percent of the country's public revenues and 80 percent of its exports but provided only 2,000 jobs in 2009. Most of Papua New Guinea's 6.6 million people still live on subsistence agriculture. Their wage rate is low, and wages constitute the major cost of production for labor-intensive industries. Low wage, natural-resourcerich countries could therefore develop labor-intensive industries, creating much needed jobs. Indonesia is a good example showing that this is possible. Labor-intensive manufacturing industries not only offer the potential to absorb surplus labor from the rural subsistence sector, but the development of such industries can also pave the way through continuous upgrading to higher value added industries. Finland's Nokia, for an example, started as a logging company and diversified its operation to the laborintensive business of producing rubber boots; it then became the original equipment manufacturer of household electronics for Phillips before venturing into mobile phones.

Still, resource-rich countries often suffer from the Dutch Disease, as export receipts from natural resources push up the value of the currency, thus adversely affecting the competitiveness of their other exports. Sometimes also the wealth from natural resources is captured by powerful groups, turning resource richness into a curse. At the same time natural-resource rents can provide a great opportunity for development if managed in a transparent way and prudently invested in human and physical capital, such as infrastructure, and used to diversify to non-resource sectors as suggested in the growth identification and facilitation framework. These investments, if well chosen, can increase labor productivity, reduce production and transaction costs and ultimately cure the Dutch Disease, and turn the abundance in natural resources from a curse to a blessing. This is because such countries have opportunities to accumulate capital, upgrade endowments, improve infrastructure, transform industrial structure, and subsequently raise incomes faster than labor-abundant, resource-poor countries (Lin, 2011b).

The discussion so far has been on the opportunity of and ways to achieve rapid industrialization in low-income countries. The new structural economics also offers new insights to middle-income countries about how to upgrade their industries and achieve dynamic growth. A unique feature of middle-income countries is that some of their industries will still locate within the global frontier and some of their industries will locate on the frontier because of the graduation of higher-income countries from those industries. For the former industries, the government can follow the growth identification and facilitation framework to assist the private firms to tap into the potential of the latecomer's advantage, and for the latter industries, the government should adopt the same measures as those in the advanced countries for supporting innovation in technology and industries. Commonly used measures include support for basic research, providing patent protection, mandated use of new technology/products, and direct government procurement of new products. If a middle-income country can implement these measures to facilitate private firms' industrial upgrading and diversification, the country can not only avoid the middle-income trap but also achieve dynamic growth and catch up to advanced countries in a generation.

The discussion so far has not discussed the technological innovation and productivity improvement in agriculture. In low-income countries, where most people work in agriculture, improving agriculture will be important not only for reducing poverty but also for generating economic surplus to support industrialization. Governments need to facilitate the innovation and extension of agricultural technology and improvement of infrastructure for agricultural production and commercialization.

Finally, as stated in the introduction, I am convinced that, every developing country, including those in sub-Saharan Africa, has the potential to grow at 8 percent or more continuously for several decades, to significantly reduce poverty, and to become a middle-income or even a high-income country in the span of one or two generations, if its government has the right policy framework to facilitate the private sector's development along the line of its comparative advantages and tap into the latecomer's advantages. I hope this book will help developing countries to realize their growth potential. A world without poverty will then become a reality instead of just a dream.


AfricaFocus Bulletin is an independent electronic publication providing reposted commentary and analysis on African issues, with a particular focus on U.S. and international policies. AfricaFocus Bulletin is edited by William Minter.

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