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Knowing Your Strengths
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How did Japan; Hong Kong, China; Republic of Korea; Singapore; and Taipei,China achieve levels of development comparable with western countries when their conditions after World War II were not any better than those of other developing countries?
The East Asian miracle has been a challenging question and puzzling phenomenon to economists. While many believe that government interventions and regulations, including widespread corruption, weak protection to investors, and a high degree of social conflicts have hindered the development of the rest of Asia, economist Justin Yifu Lin proposes a different explanation.
Mr. Lin, who is Professor and Founding Director of the China Center for Economic Research at Peking University, Professor of Economics at Hong Kong University of Science and Technology, and ADB’s Distinguished Speaker for 2004, argues that the determining factor is whether the development strategies adopted by governments harnessed their comparative advantages.
He says that many development efforts after World War II failed because governments adopted a development strategy that conflicted with their endowment structures.
“East Asian economies considered their comparative advantages in their choices of industries and technology at each stage of their development,” he says.
“In contrast, poor-performing, lessdeveloped countries adopted a comparative advantage—defying development strategy to develop capital-intensive industries when their economies were capital scarce.”
An abundance of labor and scarcity of capital often characterize developing countries. But inspired by the dream of nation building, leaders attempted to build up capital-intensive industries and adopt advanced technologies similar to those of most developed countries within the shortest periods.
This strategy involves choosing industries and technologies that ignore existing comparative advantages, which leads to firms that are not viable in an open and competitive market. Thus, government has to protect these firms through large policy support such as interventions in the form of tax reductions, tariff protection, and legal monopolies.
This, Mr. Lin explains, is what leads to rent-seeking activities and corruption in many developing countries. The protected status of these firms leads to low productivity and efficiency, and the amount of financial support they need causes inefficiency in the country’s financial system. Entry in the priority sectors chosen by the government also becomes a privilege, often for close friends and supporters of those in power, resulting in crony capitalism.
All these factors have let to the pooreconomic performance seen in many of Asia’s developing countries.
“To catch up with developed countries and to win the war against poverty, it is imperative to find a new development strategy,” says Mr. Lin.
The strategy he proposes involves encouraging firms to enter industries in which the country has comparative advantages and to adopt the production technology that will make these firms viable.
Developing countries, he explains, have the “advantage of backwardness,” which means they can borrow low-cost, low-risk technologies and industries from developed countries, whereas the latter need to engage in high-cost and high-risk invention to obtain technology information.
As such, developing countries can experience a higher return on capital, a higher rate of capital accumulation, industrial upgrading, and a larger room to reallocate labor and other resources from low value-added industries to high valueadded ones.
"With dynamic growth and faster accumulation of capital, the labor force will become scarce and wage incomes will increase, creating the desirable 'growth with equity'"
- Justin Yifu Lin, economist
“As a result, developing countries can potentially have higher economic growth rates than developed countries, and eventually catch up,” says Mr. Lin.
To realize this “advantage of backwardness,” however, it is important that these countries adopt an appropriate development strategy that will guide their technological and industrial borrowing from developed countries.
In the strategy Mr. Lin proposes, all firms in sectors that are part of the country’s comparative advantages will be viable. These firms therefore have no excuses to ask for government subsidies and protection, reducing the possibility of rent-seeking and the financial depression that results from the need to mobilize resources for nonviable firms in priority sectors.
Further, firms will be forced to become more competitive and the economy will have a larger surplus, accumulate more capital, generate more jobs for the poor, and enjoy a better income distribution.
“With dynamic growth and faster accumulation of capital, the labor force will become scarce and wage incomes will increase, creating the desirable ‘growth with equity’,” he says.
The role of government in this is to remove all possible obstacles to the function of a free, open, and competitive market.
Governments, for example, can collect information about new industries, markets, and technology, and make it available in the form of an industrial policy to all firms.
Since upgrading technologies and industries is risky by nature, governments can compensate for the costs by providing some forms of small, limited-time subsidy to the firms that initially follow the government’s industrial policy.
“With the joint efforts of governments, people, and the international community, developing Asia will have a new era of dynamic, inclusive growth,” says Mr. Lin.
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