I recently finished How Asia Works. Instead of my format I used in the last few post, I tried a slightly different format. I took what I thought were the most important ideas and wrote a brief essay describing the book. In other words, a brief rephrasing. Let me know what you think.
How Asia Works: Success and Failure in the World’s Most Dynamic Region, a book by Joe Studwell analyzes the rapid economic development of Japan, Korea, Taiwan, and China. The author analyzes the successful policies of these nations and compares it to the less successful policies in Malaysia, Indonesia, and the Philippines. Studwell argues there is a consistent “recipe” for economic development: 1) developing agriculture as a form of “large-scale gardening” that maximizes output, putting a large and relatively unskilled population to work, 2) making investments in export-oriented manufacturing to encourage technical learning, and 3) developing a closely controlled financial framework in service of agriculture and manufacturing and not deregulating financial markets too soon. The interesting conclusion from this framework is the idea there are two types of economics: economics for early development and market economics for a developed country.
Step 1: Agriculture
A developing nation must first address its agriculture to put its population to work and maximize output. This takes the form of “large-scale gardening” which will not be as efficient as “scale” farming, but seeks to maximize output1. Economic theory tells you “scale” farming is the way to do this as its “efficient”. This may be true if your goal is efficiency, or to maximize returns on capital. In an early development stage, many nations should not focus on this, but rather on maximizing output. Many Northeast Asian nations that reorganized their agriculture did so by employing a land policy based on “land redistribution”.
Land redistribution was redistributing land into equal parcels for all as opposed to having concentrated land ownership. While it may seem drastic and unfair, it creates the conditions for perfect competition many economists dream of (Studwell, 2014, 10). This policy results in output growth as competition realigns and removes the perverse incentive of powerful landowners. For landlords, it is easier to raise their return by raising rent than by helping farmers increase yields. This creates a vicious cycle: higher rents result in less money for farmers to invest in the land, keeping yields low. Land redistribution policy breaks this cycle; research in the book explains equal land distribution correlates well with future economic growth (Studwell, 2014, 10). Once output is maximized, this prevents countries from having to import food and creates consumption for industrial development, leading to more political stability and upward mobility (Studwell, 2014, 66).
Step 2: Manufacturing
After developing its agriculture to maximize output, a developing nation should then invest in its manufacturing to promote industrial learning. The author points out these nations should begin with infant industry policy that protects domestic firms, allowing them to learn and grow. This policy highlights another interesting divergence between economic theory and economic history. While many economists will tell you to leave it to the “market”, history shows many economic powers developed with protectionist policies in early stages such as England, France, Germany, and the United States. After nurturing these domestic firms, you must allow them to compete, but not by picking winners or national champions. Instead, you eliminate these underperforming firms by shutting them down or forcing them to merge into more successful firms.
The next effective policy measure is something Studwell calls “export discipline”: the idea that as firms are learning, they should make goods for export to the international market as this is the true test of competitiveness, providing feedback on investments firms are making. To encourage industrial learning, successful nations such as Korea did not enter into joint ventures with multinationals as the arrangement creates technological dependence. Instead, Korea partnered with a Mitsubishi, a weaker Japanese firm, to learn its technology while also seeking out opportunities to learn about technology and processes from many other auto manufacturing firms. In addition, Korean firms did not want to blindly trust technology, but wanted to understand the “nuts and bolts” of how everything worked even if the process was outdated or more manual (Studwell, 2014, 142).
By understanding the basics, getting a variety of perspectives, and insisting on technological independence, Korea became a force in both automobile and steel manufacturing. To summarize, after a period of initial protectionism, a developing nation’s manufacturing policy should seek to spur domestic competitiveness and then international competitiveness via export discipline.
In order to properly develop agriculture and promote industrial learning, a developing nation must tie its financial policy to these two goals. The simplest way to do this is through the banking system and provide credit based on export performance. Another means is to impose capital controls in early development stages. Some countries took the advice of developed nations that said to deregulate financial markets prematurely. This may help in developed countries but not in developing ones as capital markets are harder to control.
Premature financial market deregulation results in speculation and bubbles, not efficient capital allocation. A key takeaway from this book is that entrepreneurs are very similar while the policies surrounding them are different, yielding different results. This premature financial deregulation advice is another instance in which economic theory and policy do not align in an early stage of development.
In conclusion, economic development policy in early stages and economic theory do not seem to coincide judging by outcomes. In agriculture, a focus on output versus efficiency initially drives the gains to get a population working and productive. In manufacturing, protectionist policies to get businesses off the ground is effective based on history. The “market” cannot cure all: without land redistribution or incentives to export, landlords and entrepreneurs will take the “path of least resistance” to increase their returns, which do not align with national economic development goals in an early stage.
Incentives matter in all these stages and policy helps drive them. Finally, premature financial deregulation results in bubbles and speculation, not in efficient economic development or capital allocation. There are two types of economics: the stages described for development and a market economy based on efficiency, profits, and deregulation (Studwell, 2014, 269).