Viewpoint: Let us redefine industrial policy

“The world is changing” is a cliché. But with permanent climate change looming and the lessons of COVID undigested, change has become a central worry and opportunity. We need to consider obstacles to change and get rid of them. One of these obstacles is industrial policy.

In neo-classical economic theory, industrial policy – routinely characterised as “the state picking the winners” – is derided as counterproductive. An often-cited argument is the Japanese government deciding after the second world war that a car industry in Japan would not be worthwhile. The exceptions according to this theory is sectors with high barriers to entry and “infant industries” where the state could offer temporarily relief.

If we want to mount a last-ditch attempt to ward off permanent climate change, we need to redefine industrial policy, because “do not commit industrial policy” has become a dogma throughout the OECD countries. As a result, there is firm resistance against doing what it takes to support the technical development necessary to make the fight against climate change economically and politically palatable.

Let us acknowledge that governments are indeed not good at picking the winners. This is simply a consequence of reality being too complicated to predict, or the equivalent of models that don’t work very long. The arguments of the Japanese bureaucrats against the car industry were logical and even true in the short term, but things changed. The global economy had one banner year after another, The Japanese got richer quickly.

New, better roads were constructed and Japanese car producers learned to make gear boxes even Japanese drivers could not demolish. Let’s note in passing that private enterprise can’t pick winners either.

Let us also acknowledge that demand and supply curves don’t exist in reality and don’t work very well where you might theoretically be able to construct them, witness disequilibria in e.g. grain, oil and rice markets. Market failure is a better constant, with marketing based on emotion, hiding real purchasing cost, artificial product differentiation and in-fact oligopolies being major culprits.

”Civil servants are very risk-adverse and digest failure badly, while investing in change and innovation is by definition risky”

The above considerations turn government-supported decisions into ordinary risk-and-return based questions. Governments can estimate return just as well as companies in the financial sector, but civil servants are very risk-adverse indeed and digest failure badly, while investing in change and innovation is by definition risky. It follows that governments should participate with private partners in projects that can find private financing but in insufficient quantity.

It needs not be a silent partner, but it should listen carefully to private sector partners when risk is discussed. It should avoid a rule-based, mechanical approach to risk management and use a principle-based method instead.

An important side activity would be to consider the cost of government regulation. Several EU subsidy programmes are so difficult to make use of that some companies give up early rather than apply. In this way, companies focussed on obtaining subsidies are privileged over companies focussed on dedicating their resources to research and development.

Also, change implies that old regulation may be in the way. You cannot hope to develop a market for cultivated meat when it cannot be sold due to regulation drawn up before cultivated meat came about. In such cases, the government is in its own way. Conversely, it is possible for the government to promote products by regulating their use, e.g. a programme with clear dates of always higher requirements for mixing natural gas with biogas or for targets for lower governments to use concrete mixed with biochar, to make it a carbon sink.

The most important change in classical industrial policy a government should make is to realise that the “infant industry” argument does not stop at the point a new product is taken to market, but at the point where the product sales have sufficient scale to realise the price advantages necessary to compete fairly. A good example is subsidies for solar panels. It was once thought they could “never” compete with classical energy sources. Having obtained scale, they are now the cheapest source of energy.

To help push such behaviour through, let’s abandon the name “industrial policy”. How about “economic change policy”? Pension funds can play a key role in the process directly or by using their unlisted equity and debt portfolio managers. As a bonus, providing risk capital to the domestic market while contributing to the fight against climate change would yield a nice number of brownie points, possibly at reduced risk.

Peter Kraneveld is an international pensions adviser at Prime BV