Industrial Policy: A New Perspective
Industrial policy has long been criticized by economists as an ineffective and flawed approach. Skeptics argue that governments lack the knowledge to pick winners and losers, and that special interests often manipulate the process for personal gain. While these concerns are valid, recent research shows that industrial policy, when implemented correctly, can be successful. The Biden administration’s strong focus on industrial policy with initiatives like the American Rescue Plan and the Infrastructure Investment and Jobs Act is supported by mounting evidence.
A recent working paper titled “The New Economics of Industrial Policy” offers insights into the potential of industrial policy. Written by Reka Juhasz, Nathan J. Lane, and Dani Rodrik, the review highlights both the successes and failures of industrial policy. Rodrik, known for his pro-industrial policy stance, acknowledges the skepticism surrounding his impartiality as a reviewer but emphasizes that the empirical studies speak for themselves.
The review identifies three justifications for industrial policy, all aimed at correcting market failures. Firstly, companies often underinvest due to limited capture of the overall benefits, so targeted measures can maximize investment. Secondly, private companies struggle to coordinate their efforts in a way that benefits all stakeholders, leaving room for government intervention. Lastly, certain inputs, such as infrastructure, can only be provided by the government.
However, industrial policy is not without risks. Government incompetence and regulatory capture present challenges that must be addressed. Critics of industrial policy are concerned about companies and the government collaborating with each other, but when done right, this embeddedness can actually lead to success. Sociologist Peter Evans coined the term “embedded autonomy” to describe the social ties between executives and officials that facilitate negotiation and policy development.
Examples of successful industrial policy include the Defense Advanced Research Projects Agency (DARPA), which played a pivotal role in the development of technologies like the internet and GPS. Additionally, the gearing of the US industry for military production during World War II and the Apollo lunar mission resulted in lasting increases in manufacturing output. However, it’s important to note that not all sectors benefit equally from industrial policy, and some regions may not experience long-term gains.
Industrial policy should not be evaluated solely based on sector performance and government support correlation. Tariffs, a well-known form of industrial policy, are often counterproductive as they raise prices for consumers. Instead, targeted measures to alleviate coordination failures and promote public-private collaboration are more effective. Governments worldwide have recognized the limitations of tariffs, with only a small percentage of industrial policy interventions relying on them.
The Biden administration’s goal of reducing greenhouse gas emissions while creating high-paying factory jobs highlights a potential conflict in industrial policy objectives. However, overall, Rodrik believes that the administration is on the right track. Purposeful and systematic industrial policy is preferable to accidental or haphazard efforts.
To achieve successful industrial policy, cautious and deliberate decision-making is crucial. Overpromising and failing to address potential conflicts can undermine the effectiveness of industrial policy initiatives. Nonetheless, with proper implementation, industrial policy can spur economic growth and address market failures, benefitting society as a whole.
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