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July 29, 1994
"A Lot of People Think Japan's Industrial Policy Picked Only Winners; A Lot of People are Wrong - The Bureaucrats Blew It, Too"
San Jose Mercury News
By Timothy Taylor
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WHEN I hear about a "government-industry partnership," I wince. It usually means that government is about to hand over a lot of goodies to some politically favored industry, thereby making all other industries relatively worse off.

Don't tell me about how well such policies have worked for Japan. I've heard the conventional wisdom, the story of how clever Japanese bureaucrats back in the 1950s and 1960s picked the industries of the future like cars and electronics, and then helped those industries grow.

The problem with that happy tale is that Japanese also provided considerable assistance to not very successful industries, like the rice industry. Why should clever bureaucrats get credit only for successes, and no blame for failures?

Economists Richard Beason and David E. Weinstein investigate this question more thoroughly in a working paper from the Harvard Institute of Economics Research. They divide the Japanese economy into 13 different industrial sectors (they leave agriculture aside). Then, they collect data on all government assistance to those industries -- whether in the form of tax breaks, subsidies, government loans, and trade protection -- from 1955 to 1990.

They find that Japan's high growth industrial sectors like electrical machinery, general machinery and transportation equipment received fewer subsidies over that time than low growth sectors like textiles, mining and processed foods.

They write: "These data do not, however, negate the existence of special measures in high growth sectors. Rather, the data suggest that high growth sectors simply did not get as much favorable treatment as low growth sectors." And later in the paper: "Japanese industrial policy seems to have transferred resources out of high growth sectors and into low growth sectors. This seems to have enhanced the rate of capital formation and growth in mining and textiles with small or mildly negative effects in most other sectors."

What went wrong with the government-industry partnership in Japan? Beason and Weinstein identify three possibilities.

First, Japan's bureaucrats aren't as omniscient as Americans sometimes believe. In some cases, they just chose the wrong industry to support.

A second possibility is that the goal of helping money-losing industries took political precedence. In both the Japanese and U.S. political systems, a laudable humanitarian concern for helping workers in low-growth industries, particularly when their jobs are threatened, tends to get muddled up with how to increase productivity in high growth industries.

Along these lines, William Baumol, an eminent economist at New York University, once proposed half-seriously that we should tax corporate losses, and subsidize corporate profits. After all, he reasoned, the government should be assisting profitable high-growth industries, and hastening the transition of the money losers. The present tax system does the reverse.

A third reason that Japanese industrial policy did not help growth is that while subsidies can offer life-support to, say, Japanese agriculture, they haven't helped that industry achieve world-class productivity. Overall, there doesn't seem to be any statistical connection between how much government assistance a Japanese industry received and the productivity growth of that industry.

Beason and Weinstein conclude: "Japanese industrial policy does not seem to have been an important factor in enhancing Japanese competitiveness."

Plain old facts and figures aren't likely to settle the argument over industrial policy. Government economic bureaucrats in both Japan and the United States have personal and career reasons to believe that they do more good than harm. Industries that want goodies from the government will earnestly promise that with just a little help, they will take all the tough steps to become competitive that they ought to be taking anyway.

Politicians will preen to the skies every time they can point to a government program anywhere in the history of a successful company. But remember, no one is holding any press conferences to commemorate the cases where good money was poured after bad.

Maybe most of all, the public likes to see its elected officials doing something, anything. What people too often forget is that giving assistance to one particular industry is costly in two ways: It costs taxpayers and consumers directly, and it hurts other industries by diverting human and financial resources that would otherwise have flowed elsewhere.

Japanese industrial policy does have lessons for the United States. Japan has an excellent education system, which prepares workers at all skill levels; a high savings rate and low government budget deficit, so that investment capital is readily available; and a focus on continual technological improvement. Moreover, it's clear that the Japanese industries that eagerly competed in world markets are far more productive and healthy than those that have hidden behind trade barriers.

The proper government industrial policy is something like being a combination of coach, umpire and groundskeeper at a baseball game: teach the basic skills, keep track of the score, officiate disputes, prepare the playing surface, make sure that excellence has a better chance of winning -- and then get out of the way and let the competitors battle it out.

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