The Initial Structural Transformation

(Initiating the Industrialization Process)

Introduction: An Industrialization Imperative? The Lewis Dual-Economy Model of Structural Transformation Initiating the Structural Transformation Toward Industrialization Why is Government-Sponsored ISI Needed? Infant Industry Tariff: Government Intervention to Protect Domestic Industry Static and Dynamic Welfare Effects of An Infant Industry Tariff The Elimination of Infant Industry Protection: When is Enough, Enough? The Importance of Embedded State Autonomy to Successful ISI Potential Gains from Easy ISI Stage of Industrialization Para-state Firms and Social Capital Measuring the Success of Easy ISI

Introduction
Achieving an adequate level of economic growth and development appears to be inextricably intertwined with the level of industrialization of an economy Structural transformation of industrialization change not only the physical landscape of nations via urbanization, internal labor migration and the establishment of a complex usually urban business enterprises but also alters many of the cultural, social, and other institutional arrangements that have made a particular society unique and made it what it is to that particular point in time Industrialization and development provide many benefits to society but sacrifices also are required so choices must be made Reconciling conflicting interests may slow progress but each society must evaluate as objectively as possible to what extend trade-offs made to sustain traditional dimensions of its society There is a 2-fold industrial imperative:
1. Higher levels of industrialization contribute to higher rates of economic growth 2. Industrialization sets the stage for a desired transformation of import and export patterns

Structural Change and Economic Growth and Development

The size of the agricultural (primary) sector tends to shrink with economic growth as rural workers move into the industry (secondary) and services (tertiary) sectors Therefore, the larger the share of the labor force engaged in agriculture, the lower the level of development Likewise, there is an equally strong positive relation between the share of the labor force in industry and in services and the level of development The compelling correlation between the agricultural and industrial transformations which contribute to greater development can be measured by income or by the Human Development Index (HDI) Development involves both an industrial evolution and reorganization of the agrarian sector, the additions of human and physical capital and the attention to endogenous technological change All sectors of the economy must become more technological and more productive as the shift in labor from primary to secondary to tertiary uses moves forward

The Lewis Dual-Economy Model of Structural Transformation (pg 252 253)

He observed that less-developed nation typically was dualistic (having 2 key sectors of agriculture and industry) and these sectors had little interconnection (Can you tell us what those little connection were? Pg 252) The labor migration is cumulative once begun as the higher wages of industry attract rural workers until an equilibrium is reached when the productivity of workers is more or less equalized between sectors Initiating the Structural Transformation Toward Industrialization: It is Import Substitution Industrialization (ISI) with several stages of: 1) Easy ISI 2) Difficult or Secondary ISI

The First Stage of Industrialization: Easy ISI

ISI involves the establishment of usually domesticowned firms within the less-developed economy that begin to produce for domestic consumption some of the manufactured goods currently being imported (domestically produced goods substitute for the foreign produced goods) (Usually what do they produce first?) (Pg 253) What are the factors needed to be considered in a country when one is to implement ISI? (Pg 254) A reorganization of the internal structure of production toward a higher degree of industrialization is not enough for long-term progress without a fundamental reorientation of what less-developed nations export to the world market as industrialization must go beyond just being internally oriented so that it ultimately reaches out to world markets if long-term success is to be attained

Why is Government-Sponsored ISI Needed?

A lack of financing for projects, few trained entrepreneurs, low skill levels of workers and foreign competition from imports all worked against the expansion of the manufacturing sector in most LDCs so the government be the initiator Transitional Inefficiencies: (What are the inefficiencies, can you find them in the book? Pg 258 259) Infant Industry Tariffs: Government Intervention to Protect Domestic Industry which is one way to finance the higher cost involved in nurturing the infant industry (Can you figure out how is it that the infant industry can result in higher cost?) (Pg 260 265) This is an economic paradox at work by getting prices wrong (raising prices above the international market level with a tariff) it can sometimes yield positive development outcomes (Can you think of another economic paradox?)

The Elimination of Infant Industry Protection: When is enough, enough?

It is quite dangerous to put a number to it, but in the non-durable weight consumer goods industries in which ISI begins, 5 7 years would seem to be a reasonable target date for ending protection and for domestic producers to have overcome the basic transitional inefficiencies encountered at the beginning of easy ISI For more complicated products with longer learning curves or where technology is more complex, somewhat longer transition periods may be warranted A timetable for the eventual phasing-out of tariff protection should be part of the governments policy When ISI begun, government should reveal this schedule to the new firms so that they anticipate with certainty the end of infant industry tariff protection or suffer the consequences of outside competition If tariff on ISI industries are not phased out, then the tariff itself can become a substantial internal barrier to progress (deadweight-losses) (Do you know what is dead-weight losses?) (Pg 262 265)2

The Importance of Embedded State Autonomy to Successful ISI

Industrialists in an ISI sector where tariffs are not progressively removed may be able to reap substantial economic rent (profits higher than are necessary for the current production) because the tariff prevents the full-force of foreign competition The contact between protected industrialists and government bureaucrats can result in substantial degrees of corruption and bribery When government lack relative autonomy from strong vested interest, they often respond to the private concerns of those groups which have the power, money, influence and access to government to make their voice heard The barrier of a weak, captured state needs to be overcome by appropriate institutional reform, culminating in the creation of a developmental state (Chapter 7, pg 213) (Can you let us know what are the main criteria of a developmental state?) page 215

Potential Gains from the Easy ISI Stage of Industrialization

During the easy ISI phase, the industrial labor force develops both specific and general human capital skills as a result of learning-by-doing as they work with modern machines and technology These skills will be at least partially transferable to other firms thus shortening the lag time required for other firms to overcome transitional inefficiencies in the future ISI is a training ground for entry-level local industrialists who have an opportunity to mature and learn how to produce thus facilitates the establishment, extension and solidification of a domestic class of private entrepreneurs who are essential to the continuation of the process of development in the future

Para-state Firms and Social Capital

Infrastructure investments (heating oil, natural gas, electricity, ports, telecommunications, etc.) require a lot of initial investment in terms of physical and financial capital outlays while also demand a mastery of intermediate levels of technology It may be too much for local private entrepreneurs so that the government can help in this area It is very common that the state firms are being accused of being less efficient and that they do not profit because they charge too low but any losses incurred can be funded out of the national budget Such state enterprises can actually be contributing quite effectively to social efficiency by producing the socially optimal level of electricity, water, transportation and contributing the positive externalities helping to make the private sector more productive Para-states may not always by definition be purveyors of inefficiency (Can you think of any other benefits that the para-state might contribute to the society?) (Pg 270 -271)

Measuring the Success of Easy ISI

A successful easy ISI stage of industrialization shifts a countrys production possibilities frontier (PPF) outward both along the agricultural axis and the manufactured goods axis (See Fig 9.3, pg 272) With the transfer of labor from agriculture to industry and the introduction of new technology in both the agriculture and industry sectors, it will result in a new production possibilities curve Both the share of total production and of total employment originating in agriculture and manufacturing rise over the transition