There is no economic war – and we need no industrial policy

Today marked the publication of Tarzan’s new growth report. Not surprisingly, it is being welcomed by the Labour Party and trades unions as well as representatives of big business. Indeed, some elements of the report are very commendable and many other aspects would simply involve re-arranging the deckchairs in ways which would do little obvious harm.

Predictably, however, Heseltine comes out in favour of governments 'picking winners'. Indeed, unashamedly so. He argues: 'There are many descriptions used to criticise so comprehensive an approach. Picking winners, intervention. There is one overwhelming response. In their own ways all our competitor economies manage their systems along these lines. We are the ones out of step.' This is simply not true. In our own ways too, we attempt to pick winners – especially (and with disastrous effect) in the energy sector and with special tax subsidies for research and development and specific industries. The most successful countries have had what Geoffrey Owen from the LSE calls a 'horizontal' rather than a 'vertical' industrial policy. They have removed government regulation, ensured that there is a strong framework of the rule of law and property rights, decent education systems, low taxation and so on to ensure that companies thrive when they provide products that consumers value. Indeed, some of Heseltine’s proposals involve such a horizontal policy.

Heseltine’s lack of understanding of this issue is illustrated in the bizarre sentence: 'Whenever the words industrial strategy are uttered the retort of interventionism and picking winners is usually not far behind. But what is the alternative; to start picking losers?'. Well, no. The point is that when governments try to pick winners, as they did in the 1960s and 1970s, they tend to turn out to be losers – remember the huge strategic support for the car industry? The question is not whether governments should pick winners or losers but who should determine where capital should be allocated and what products should be produced and purchased.

South Korea is often cited as taking an alternative approach. It is true that, in the early 1960s, when national income per head was below absolute poverty levels and the main export was human hair for wig making, the government had a positive industrial strategy. However, any half-reasonable policy, even in the context of a highly autocratic government, that protected property rights more effectively and allowed greater (though highly limited) freedom, was bound to lead to growth from that position. South Korea really entered the big-hitter league when it significantly relaxed its industrial policy in the 1980s. Indeed, for all the faults of industrial policy, when pursuing catch-up growth it is easier to predict the sectors in which such growth is likely to take place than if an economy is growing from an already exceptionally high level of income. Despite this, it is worth noting that there has been a litany of failures of industrial policy even in developing countries.

As has been noted, Heseltine argues that all other countries pursue an industrial policy and we are out of step. If that is so, it is not obvious that being out of step does too much damage. Our GDP per head in purchasing power parity terms sits between those of Japan and France (which are lower) and Germany. This is despite the incredibly low level of savings in the UK (an issue not mentioned by Heseltine). Without saving, there can be no capital accumulation except that funded from investors abroad.

An interesting feature of the new industrial policy is that it is proposed that it develops in close collaboration with industrial leaders. Of course, we have been here before and it was a dismal failure. This is a recipe for corporatism and the imposition of policies that restrict competition (and therefore growth). The two current areas where business and government co-operate most closely would seem to be banking and energy – these are two sectors in which flawed policies are leading to declining productivity.

Heseltine’s problems with economics do not stop there. Like David Cameron and many politicians he continually writes about the economic war with our competitors. There is no war. There is a process of discovery to determine how resources can be allocated to increase productivity and exploit our comparative advantage through trade. The stuffed toys that my children collected when they were younger were made in China. There is no war amongst the nations of the world to make and sell a fixed number of stuffed toys. Instead, we have industrious people producing valuable goods and services in the UK that are traded for teddy bears, toys, electronics and all sorts of other products produced overseas.

There is some half-decent stuff in the Heseltine report but, from false premises, wrong conclusions are also drawn.

Great read Philip. Basically a lot of PR and publicity for nothing new. That's Tarzan writ large.
Tarzan's last stand perhaps!
Whilst I agree that getting governments to pick winners is a bad idea, especially if they do so in collaboration with established businesses, I don't think it is because they have any more bad ideas than the general population. In general these people tend to be better informed and brighter than the average. The problem is that the vast majority of new ideas are not in fact improvements. Probably only 1% of new ideas are improvements, and even if government is twice as good as the general population that still leaves 98% that should be abandoned. Rather I think the problem is that the government can cross subsidise failing enterprises based on bad ideas for far longer than any private organisation can, and far far longer than a small private organisation can. If an idea isn't working the organisation feels pain quickly, fears for its future existence, and either sorts out the snags or abandons the idea pretty quickly. After all the only consideration for an elected politician is whether he can keep enough "face" to win the next election, a civil servant doesn't even have to worry about that, and both know that the taxes will keep rolling in and that future revenue is secure. The Owner of a business knows that his future revenue depends on pursuing good ideas whether new or not, and that he must drop bad ones as soon as possible. He would rather loose face than go out of business.

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