Technological Capabilities and Industrialization

SANJAYA LALL**

Institute of Economics and Statistics, Oxford

Summary This paper reviews the implications for industrial strategy of recent research on technologicalcapabilities at the firm and national levels. After exploring the nature and determinants of microlevel technologicaldevelopment, a simple framework for explaining the growth of national capabilities is set out, based on the interplayof incentives, capabilities and institutions. Each may suffer market failure and so require corrective intervention.The experience of some industrializing countries is described to assess the validity of this framework. It is concludedthat interventions, carefully and selectively applied, are necessary of industrial success.

* The ideas contained in this paper have evolved over an extended period and have benefited fromdiscussions with numerous people. I would like to thank, in particular, Carl Dahlman, Ashoka Mody,Henry Ergas, Farrokh Najmabadi, Ganesh Wignaraja and Simon Teitel. Two anonymous referees madevery useful suggestions, for which I am grateful. The responsibility for the paper, of course, is ultimatelymine.

1. INTRODUO

This paper is a review of the nature oftechnological activity in developingcountries and the case for governmentinterventions to strengthen technolo-gical,and, through it, industrial development.Much of the traditional literature,theoretical and empirical, has neglected theneed for, and production of, technologicalactivity in developing countries. Simpleneoclassical writing assumes the problemaway. In the highly simplified models usedin trade theory, for instance, technology istaken to be freely available to all countriesand, within countries, to all firms.Countries simply settle on appropriate levelof capital / labor intensity in accordance totheir factor price ratios, determined by theirrelative endowments of physical capital andlabor. Firms in a given industry are all onthe same production function and selecttheir techniques with reference to relativefactor price ratio, shifting cost-lessly alongthe function as this ratio changes. To theextent that technological lags are admitted,developing countries are taken to receive allrelevant improvements from developedcountry innovators: there is no problem inassimilating the transferred technology inthe developing country; there are noadaptations required, since alternatives areavailable for all factor prices; all firmsremain equally efficient; firm-specificlearning or technical effort are unnecessaryand irrelevant; and so on (Nelson, 1987).

These traditional approaches totechnology also assume that innovation(movements of the production functionrather than along it) is a completely distinctactivity from gaining mastery of technologyor adapting it to different conditions (sincethe only admissible countrywise differencesin theory are capital/labor ratios,adaptations are necessarily restricted tomovements along the function). Innovativeactivity is an investment in somethingunrelated to production. In theoreticalmodeling, such investment is guided by aknown innovation possibility frontier, withmarginal returns equalized with otherreturns (Nelson, 1981). In the developingcountry context, it is assumed that majorinnovations all occur in the advancedindustrial countries. Developing countriesselect and costlessly apply thoseinnovations that are useful or appropriate.As the general level of capital accumulation(and skills ) rises, more capital intensive(or complex) technologies becomeeconomical these are also bought from theinternational technology shelf.

The general thrust of conventionalapproaches is to minimize, not just the roleof technological activity in developingcountries, but also the need for policies tosupport, protect and induce such activity(Pack and Westphal, 1986). What are nowtermed neoclassical approaches todevelopment (associated with Balassa,Krueger and others) tend to confinethemselves to prescriptions such as get

prices right reduce or eliminateprotection or free international flows ofcapital and technology and cut back ongovernment intervention in industrialactivity. Where more moderateneoclassicals admit the need forinterventions in industry, they favor neutral(or functional) rather than selectiveinterventions (i.e., those that support thefunctioning of markets, such as educationor research and development , rather thanthose that promote some industries ortechnologies over others). Theseapproaches disregard the peculiar natureand costs of technological learning inspecific activities, the externalities itgenerates and the complementarities itenjoys, which may lead to market failuresand may call for a more selective approachto policy than conventional theory admits(Lall, 1991). Yet selective interventionscan be justified within the neoclassicalframework if such sources of market failureare taken into account.

In contrast to the analyses just mentioned,a number of unconventional approachesto the issues of technology in developingcountries have appeared in the past decade.These have assigned a central role toindigenous technological effort in masteringnew technologies, adapting them to localconditions, improving upon them, diffusingthem within the economy and exploitingthem overseas by manufactured exportgrowth and diversification and by exportingtechnologies themselves. They can beframed in neoclassical terms but theiremphasis is often on the reasons thatmarkets are not efficient. This paperprovides a brief review of these approaches.It draws out the industrial policyimplications that arise from the specificcharacteristics of technologicaldevelopment, and illustrates their relevancewith reference to the experience of thenewly industrializing countries (NICs) ofEast Asia and other, less spectacularlysuccessful countries. Section 2 deals withfirm-level technology, Section 3 withnational capabilities and Section 4 with theexperience of selected developingcountries. Section 5 draws someconclusions and policy implications.

2. FIRM-LEVEL TECHNOLOGICALCAPABILITIES (FTC)

The microlevel analysis of technology indeveloping countries has drawn inspirationfrom the evolutionary theories developedby Nelson and Winter (1982), andexplained in Nelson (1981, 1987) and Dosi(1988). The starting point of these theoriesis that firms cannot be taken to operate on acommon production function.Technological knowledge is not sharedequally among firms, nor is it easilyimitated by or transferred across firms.Transfer necessarily requires learningbecause technologies are tacit, and theirunderlying principles are not always clearlyunderstood. Thus, simply to gain mastery ofa new technology requires skills, effort andinvestment by the receiving firm, and theextent of mastery achieved is uncertain andnecessarily varies by firm according totheses inputs. Further more, firms havemore knowledge of their own technology,less about similar technologies of otherfirms and very little about dissimilaralternatives, even in the same industry.They operate, in other words, not on aproduction function but at a point, and theirtechnical progress, building upon their ownefforts, experience and skills, is (to varyingdegrees) localized around that point(Atkinson and Stiglitz, 1969). The extent towhich firm-level differences intechnological effort and mastery occur mayvary by industry, by size of firm or market,by level of development or bytrade/industrial strategies pursued.

There is little doubt that as a descriptionof reality, in developed or less developedcountries, the evolutionary approach is farmore plausible than the productionfunction approach. As Dosi (1988) puts it,evolutionary theories can explain thepermanent existence of asymmetriesamong firms, in terms of their processtechnologies and quality of output(p.1155). Scale economies and vintagedifferences in capital goods explain part ofthis asymmetry, but they are also thedifferent innovative capabilities, that is,different degrees of technologyaccumulation and different efficiencies inthe innovative search process (p.1156).Once firm-level technological change is

understood as a continuous process toabsorb or create technical knowledge,determined partly by external inputs andpartly by past accumulation of skills andknowledge, it is evident that innovationcan be defined much more broadly to coverall types of search and improvement effort.From the firms point of view, there is littletechnological mastery, to adapt technologyto new conditions, to improve it slightly orto improve it very significantly- though interms of detailed strategies, degrees of riskand potential rewards these efforts willcertainly be different.

There are various ways to categorize firm-level technological capabilities (FTC).Drawing upon Katz (1984, 1987),Dahlman, Ross Larson and Westphal(1987) and Lall (1987). Table 1 shows anillustrative matrix of the major technicalfunctions involved. The columns set outthe major FTCs by function, the rows bydegree of complexity or difficulty, asmeasured by the sort of activity from whichthe capability arises. The categorization isnecessarily indicative, since it maybedifficult to judge a priori whether aparticular function is simple or complex(Teitel, 1984). Nor is it menat to show anecessary sequence of learning, though thevery nature of technological learning (i.e.accumulated experience of problemsolving, aided by external inputs or formalresearch effort) would seem to dictate thatmastery would proceed from simpler tomore difficult activities, different firms anddifferent technologies adopt different firmsand different technologies adopt differentsequences. This sequence would depend onvarious factors, described below.

The functions set out in Table 1 may notbe exhaustive, and not all of them have tobe performed for every industrial venture.Evenwhere they are performed, moreover,not all need be undertaken by the firm itself several specialized services can bebrought in from (domestic or foreign)contractors, consultants or othermanufacturing firms. Yet there is a basiccore of functions in each major categorythat have to be internalized by the firm toensure successful commercial operation. Ifa firm is unable by itself to decide on itsinvestment plans or selection of equipmentprocesses, or to reach minimum levels of

operating efficiency, quality control,equipment maintenance or costimprovement, or to adapt its productdesigns to changing market conditions, ortoestablish effective linkages with reliablesuppliers, it is unlikely to be able tocompete effectively in open markets.Moreover, the basic core must grow overtime as the firm undertakes more complextasks. The ability to identify a firms scopefor efficient specialization in technologicalactivities, to extend and deepen these withexperience and effort, and to drawselectively on others to complement its owncapabilities, is the hallmark of atechnologically mature firm. Before fullmaturity is achieved, firms will vary intheir mastery of the various functionsinvolved. While this is true of anyeconomy, it is likely that the typical firm indeveloping countries, with deficiencies inskills and limited experience ofmanufacturing, will use the sametechnology less efficiently than itscounterpart in developed countries.Scattered evidence confirms that this is infact that case, and that such differences

Table 1. Illustrative matrix of technological capabilities

FUNCTIONALINVESTMENT PRODUCTION

PREINVESTMENT

PROJECTEXECUTION

PROCESSENGINEERING

PRODUCTENGINEERING

INDUSTRIALENGINEERING

LINKAGESWITHIN

ECONOMY

BA

SIC SIMPLE,

ROUTINE(Experiencebased)

Prefeasibility andfeasibility studies,Site selection,scheduling ofinvestment

Civil construction,ancillary services,equipment erectioncommissioning

Debugging, balancingquality controlpreventive maintenance,assimilation of processtechnology

Assimilation of productdesign, minor adaptationto market needs

Work flow,scheduling, time-motion studies.Inventory control

Local procurement ofgoods and services,information exchangewith suppliers

INT

ER

ME

D ADAPTIVEDIPLICATIVE

Search fortechnology source.Negotiation ofcontracts.Bargaining suitableterms.Info. systems

Equipmentprocurement, detailedengineering, trainingand recruitment ofskilled personnel

Equipment stretching,process adaptation andcost saving, licensingnew technology

Product qualityimprovement, licensingandAssimilating newimported producttechnology

Monitoringproductivity,improved coordination

Technology transfer oflocal supplies,coordinated design, S&Tlinks

AD

VA

NC

ED

INNOVATIVERISKY(Researchbased)

Basic process design.Equipment design andsupply

In-house processinnovation, basicresearch

In-house productinnovation, basicresearch

Turnkey capability,cooperative R&D,licensing own Technologyto others.D

EG

RE

E O

F C

OM

PLE

XIT

Y

also exist between more and less advanceddeveloping countries.(Pack, 1988)

Investment capabilities are the skillsneeded to identify, prepare, obtaintechnology for, design, construct, equip,staff, and commission a new facility (orexpansion). They determine the capitalcosts of the project, the appropriateness ofthe scale, product mix, technology andequipment selected, and the understandinggained by the operating firm of the basictechnologies involved (which, in turn,affect the efficiency whit which it lateroperates the facility). Productioncapabilities range from basic skills such asquality control, operation, and maintenance,to more advanced ones such as adaptation,improvement or equipment stretching, tothe most demanding ones of research,design, and innovation. They cover bothprocess and product technologies as well asthe monitoring and control functionsincluded under industrial engineering. Theskills involved determine not only how wellgiven technologies are operated andimproved, but also how well in-houseefforts are utilized to absorb technologiesbought or imitated from other firms (on thesignificance of research and developmentfor assimilating external innovations seeCohen and Levinthal, 1989). Linkagecapabilities are the skills needed to transmitinformation, skills and technology to andreceive them from, component or rawmaterial suppliers, subcontractors,consultants, service firms, and technologyinstitutions. Such linkages affect not onlythe productive efficiency of the enterprise(allowing it to specialize more fully) butalso the diffusion of technology through theeconomy and the deepening of theindustrial structure, both essential toindustrial development. The signifi-canceof extramarket linkages in promotingproductivity increase is countries. (Forreferences see the survey by Cohen andLevin, 1989, and for an empirical test,Cohen and Levinthal, 1989. The lastchapter of Lall, 1985, develops and appliesthe linkage concept in a developmentsetting)

The emerging empirical literature ofFTC in developing countries (apart from thereferences, above, see Dahlman andWestphal, 1982, Enos, forthcoming;

Fransman, 1986: Herbert-Copley, 1990;Rath, 1990; Teitel, 1984;Vernon, 1989;Westphal, 1982) has touched on variousaspects of the development of FTCs. Theseneed not be reviewed at any length here, butit is worth noting the main influences on thedemand for and supply of FTCs. On thedemand for and supply of FTCs. On thedemand for efforts to built FTCs, the mostimportant factors are threefold. First, thereis an inherent need for the development ofnew skills and information simply to get anew technology into production. Thisnecessity operates regardless of policyregime and provides the elemental drive forfirms to invest in capability building; theform that capability building takes dependson the nature of the technology (process orbatch, simple or complex, large to smallscale).

Second, apart from this inherent pressurefor capability acquisition, external factorsstrongly influence the process. As withany investment decision, themacroeconomic environment, competitivepressures, and the trade regime all affect theperceived returns to FTC developmentefforts. A stable, high-growth environmentis conducive to higher investments in FTC.So is competition, with internationalcompetition probably the most potentinducement to skill and technologyupgrading. Competition is, however, adouble-edged sword, and given thenecessary costs of learning, can stiflecapability building in newcomers whencertain market failures exist. This type ofinfant industry argument is taken up inthe next section. Trade orientation alsoaffects the content and pace of FTCdevelopment. The evidence (see Lall,1987; Amsden, 1989; Kim, 1988) suggeststhat inward-oriented regimes foster learningto make do with local materials, stretchavailable equipment, and down-scale plants,while export-oriented regimes foster effortsto reduce production costs, raise quality,introduce new products for world marketsand often reduce dependence on(expensive) imported technology.

Third, technological change itself, whichproceeds continuously in almost allindustries in the developed world,stimulates developing country firms to tryto keep up. Exposure to competition

mediates this incentive, and highlyprotected firms can delay their upgradingfor long periods. Nevertheless, theexistence and potential availability of moreefficient technologies can create their ownincentives to invest in FTC.

On the supply side, the ability of firms toproduce new capabilities depends on: thesize of firm (where technologies arecomplex and call for large-scale production,large amounts of skilled labor or intensetechnological effort and particularly wherecapital markets are deficient); access toskills from the market; organizational andmanagerial skills in the firm and its abilityto change structures to absorb new methodsand technologies (Hoffman,1989; Katz,1987); acess to external technicalinformation and support (from foreigntechnology sources, local firms andconsultants, and the technologyinfrastructure of laboratories, testingfacilities, standards institutions and so on);and access to appropriate embodiedtechnology, in the form of capital goods,from the best available sources, domestic orforeign.

In sum, FTC development is the outcomeof investments undertaken by the firm inresponse to external and internal stimuli,and interaction with other economic agents,both private and public, local and foreign.Thus, there are factors that are firm-specific(leading to microlevel differences in FTCdevelopment and to idiosyncratic results)and those that are comom to given countries(depending on their policy regimes, skillendownments and institutional structures).It is these common factors to which we nowturn.

3. NATIONAL TECHNOLOGICALCAPABILITIES (NTC)

Let us now consider nationaltechnological capabilities (NTC) indeveloping countries. National capabilitiesare not simply the sum of thousands ofindividual firm-level capabilities developedin isolation. Because of externalities andinterlinkages, there is likely to be synergybetween individual FTCs. Despiteindividual idiosyncrasies, there is acommon element of response of firms to thepolicy, market and institutional framework.

It makes sense, in other words, to conceiveof national differences in technologicalcapabilities. Clearly, countries developingor developed differ in their ability toutilize or innovate technologies, whichmanifests itself in their productivity, growthor trade performance. There is little by wayof theory which brings together all thefactors that may influence these variables(see OECD, 1987; Ergas, 1984, 1986;OTA, 1990; and Fagerberg, 1987, 1988).The analysis of NTC is neverthelessimportant because of the current dominanceof some partial explanations of industrialsuccess, which may lead to misleadingpolicy conclusions (Lall, 1990, 1991). Inparticular, it is necessary to look again atapproaches that, as mentioned in theintroduction, trace success to getting pricesright and noninterventionist strategies,treating them as both necessary andsufficient conditions. These approaches arebased on particular readings oftechnological capability and the efficiencyof markets in developing countries. Thissection analyzes their validity.

The OECD explains long-term differencesin the performance of advanced industrialeconomies thus: Over the longer term,economic growth arises from the interplayof incentives and capabilities. Thecapabilities define the best that can beachieved; while the incentives guide the useof the capabilities and, indeed stimulatetheir expansion, renewal or disappearance.In the advanced economies, the capabilitiesrefer primarily to the supplies of humancapital, of savings and of the existingcapital stock, as well as to the technical andorganizational skills required for their use;the incentives originate largely in productmarkets and are then more or less reflectedin markets for factor supplies therebydetermining the efficiency with whichcapabilities are used. Both incentives andcapabilities operate within an institutionalframework: institutions set rules of thegame, as well as directly intervening in theplay; they act to alter capabilities andchange incentives; and they can modifybehaviour by changing attitudes andexpectations(OECD, 1987, p.18). Thisthree-pronged approach, involving theinterplay of capabilities, incentives andinstitutions, is a useful way of organizing

the numerous factors that influence NTC indeveloping countries (see Lall, 1990 for amore detailed exposition).

(a) Capabilities

At the country level, capabilities can begrouped under three broad headings:physical investment, human capital andtechnological effort. These three arestrongly interlinked in ways that make itdifficult to identify their separatecontributions to national performance(Nelson, 1981),but they do not always gotogether. If physical capital is accumulatedwithout the skills or technology needed tooperate it efficiently, NTC will not developadequately; or if format skills are createdbut not combined with technological effort,efficiency will not increase dynamically(see Romer, 1990, for a theoreticalanalysis). Physical investment is in somesense a basic capability, in that plant andequipment are clearly necessary forindustry to exist, but it is the efficiency withwhich capital is utilized that is of greaterinterest. The ability to muster the financialresources and the embodied technology thatmake up physical investment (and the needfor an efficient financial system to supportthis) need not be spelled out at nay length inthis paper.

The term human capital is used broadlyhere to include not just the skills generatedby formal education and training, but alsothose created by on-the-job training andexperience of technological activity, and thelegacy of inherited skills, attitudes andabilities that aid industrial development.Literacy and primary education areessential for all forms of efficientindustrialization, and may be largelysufficient for early industrial effortsutilizing simple technologies (McMahon,1987). As more sophisticated technologiesare adopted, however, the need for moreadvanced, specialized skills on the part ofboth workforce and managers emerges(Teitel, 1982). Moreover, the gap betweenthe work force and engineers has to bereduced to facilitate skill transfer (Mody,1989 a). the quality of formal education,especially of technical training, and therelevance of the curriculum to changingtechnical needs, are clearly very important.

To the extent that public or private trainingfacilities do not meet the need for suchskills, firms have to invest in their owntraining facilities, but will do so only ifmobility is low and their investments yieldappropriate benefits (King, 1984);lowmobility thus has this benefit, but is offsetby the restraint it places on the diffusion ofknowledge. Ergas (1984) and OECD(1987) outline the very different systemsdealing with these problems in the UnitedStates, Germany and Japan, each with itsown strengths and weaknesses.

The final capability relates to nationaltechnological effort. Trained labor andphysical capital are only fully productivewhen combined with efforts by productiveenterprises to assimilate and improve uponthe relevant technology. As discussedearlier, such effort comprises a broadspectrum of production, design andrelogical infrastructure that providesinformation, standards, basic scientificknowledge and various facilities too largeto be owned by private firms. It isimpossible to measure properly suchtechnological effort, but rough proxies areavailable for technical tasks, orexpenditures on formal research anddevelopment (input measures), orinnovations, patents and other indicators oftechnological success (output measures).The interpretation of all such measures isfraught with difficulties (Cohen and Levin,1989), since not all effort is equallyefficiently made, and no measure capturesfully the routine engineering work devotedto minor innovation or mastery.Nevertheless, it is evident that differentcountries devote different levels of effort totechnology (on developed countries seeOECD,1987; Ergas, 1984; OTA,1990;Dertouzos, Lester and Solow; 1989.On developing countries see Teitel, 1987;Lall, 1990; IDB, 1988) Even a crudemeasure is of some use.

Apart from domestic technological effort,the extent and nature of a countrys relianceon foreign technology is also directylyrelevant to NTC. All countries need toimport technology, but different modes ofimport have different impacts on localtechnological development. In semi-industrial countries, for instance, a heavyreliance on foreign direct investment (FDI)

may become a substitute for domestic effortat the advanced levels shown in Table 1,because FDI is an efficient means totransfer the results of innovation rather thanthe innovative process itself. Thealternative strategy, la Japan, of building astrong domestic technological base maytherefore entail a selective curtailment ofFDI entry, at least at certain stages of thedevelopment process (see below).

(b) Incentives

While both physical and human capitalare necessary for industrial development,they will not be utilized effectively if thestructure of incentives for investment andproduction is inappropriate. Incentives,arising from market forces, institutionalfunctioning and government policies, affectthe pace of accumulation of capital andskills; the types of capital purchased and thekinds of skills learned; and the extent towhich existing endowments are exploited inproduction. In most developing countries,the role of policies assumes greatimportance, in both positive and negativeways: positive because structural andmarket failures call for remedial action,negative because interventions can beexcessive or misjudged, and even justifiableinterventions can be poorly administered.

Three broad sets of incentives affect thedevelopment of NTC:

(i) Macroeconomic incentives

Under this heading, we include signalsthat emanate from GNP growth (rate andstability), price changes, interest rates,exchange rates, credit and foreign exchangeavailability and similar economic variables,as well as political stability or exogenousshocks (e.g. terms of trade). The impact ofgrowth, stability, sensible balance-of payments, monetary or fiscal policies,favorable external circumstances, etc. oninvestment and capability building areobvious and need not be discussed in detailhere.

(ii) Incentives from competition

Competition is, as discussed earlier, themost basic of incentives affecting capability

development. Domestic competition isinfluenced by the size of the industrialsector, its level of development anddiversification, and government policies onfirm entry, exit, expansion, prices,ownership, small-scale industry and so on.Most developing countries imposeconstraints on internal competition, toprevent excessive entry (and thusfragmentation) in protected markets, topreserve employment, to promote smallfirms or public enterprises, to hold downprices, to force industry to locate inbackward areas, or to prevent the growth oflarge firms or the concentration ofeconomic power. Some industrialregulation is clearly necessary in everyeconomy, but high levels of interventioncan frustrate or dissipate the developmentof healthy capabilities, and prop upunviable enterprises that should die out(see World Bank, 1989, for a brief reviewof the most common types of competition-retarding policies).

International competition from imports,entry of foreign investors or export activitycan be an even greater stimulant to healthytechnological development than domesticcompetition, in small or large countries(size of economy does not affect whetherenterprises in the country are exposed tosuch competition). Yet governments placemany barriers to such competition, often ina sweeping, irrational and prolonged waythat a sweeping, irrational and prolongedway that retards technological development,efficiency, export growth and structuralchange. The recent development literaturehas analyzed the costs of inward-orientedtrade strategies at great length (for a usefulreview, see the World Bank, 1987b). Mostof the conventional arguments are notcouched in terms of the impact of tradestrategies on technological capabilities, butthe implicit assumptions made abouttechnological capability (TC) developmentare very relevant to the issue.

The debate over intervention in tradeflows is of long standing (Bhagwati, 1989,has a lucid review). While acknowledgingthe benefits of market competition,economic theory accepts that interventionsin the incentive frqamework of free trade inthe form of infant industry protection orpromotion are needed to overcome many

(but not all) market failures affectingresource allocation (Westphal, 1982, 1990;Pack and Wetphal, 1986, Lall, 1990). It isimportant to be clear about the correct casefor such intervention. Some arguments forprotection are msiplaced: if the source ofmarket failure lies outside the firm, (e.g.lack of skills, infrastructure, institutions)intervention to protect the firm will donothing to ensure that costs come downover time. To the extent, however, thatfailures arise from the firms own lack ofinvestment in capability building, due toexternalities (loss of skills or technology, orinterdependencies between firms; Pack andWestphal, 1986), risk aversion, or lack ofinformation (due to missing informationmarkets or "learning to learn" phenomena;Stiglitz, 1987), intervention may have ajustifiable role to play in restoring efficientresource allocation. The intervention maynot necessarily take the form of importprotection. Theory suggests that subsidiesare preferable because they involve lowerconsumption costs than import restrictions.But protection is easier (and cheaper) forthe government to administer, and historicevidence suggest that tariffs have been usedby every developed country in criticalstages of industrialization (Vernon, 1989).While protection has often been misused, asthe trade strategy debate shows, it has alsoaccompanied entry into difficult andcomplex activities with high learning costs.In fact, the existence of such costs indeveloping countries (with imperfect capitaland information markets and stronglinkages and externalities) suggests thatprotection is a necessary condition fordevelopment beyond technologically simpleactivities. It may not usually, however, besufficient, because market failures in factormarkets and institutions can hold back fullgains in efficiency.

Such interventions have to be selective,requiring that policy makers identifyspecific sectors, activities or even firms forpromotion over others to exploit theirsuperior growth potential, linkages orexternalities. There are two basicrequirements for such intervention to beeffective. First, in FTC, it should not be toowidespread, indiscriminate or prolonged,and should be offset by other incentives forincreased efficiency. The best combination

may be the selective and temporaryprotection of domestic markets, togetherwith strong incentives for export activityand domestic competition. Second, policymakers should be able to identify suitableactivities for protection, and have theauthority to correct mistakes and modifychoices over time (i. e. shut downinefficient operations). This option requiresconsiderable informational andorganizational resources, as well as politicalstrength, on the part of the government.Some countries can provide such resources,but many cannot; we return to this below.

(iii) Incentives from factor markets

Theory suggests that well-functioning,flexible factor markets and correct relativefactor prices are necessary to achieveefficient production and resource allocation.Efficiency production and resourceallocation. Efficiency in capital marketsrequires that long-term financing be available, especially for risky projectsinvolving new technologies, and that pricesignals achieve proper interfirm andinterindustry resource allocation. Efficientlabor markets should be responsive tochanging needs, not hampered by restrictivepractices, and be equipped with requisiteskills. Similarly, efficient technologymarkets should provide both adequate flowsof information to enterprises, and publicgoods such as standards, testing facilitiesand basic research. In general, incentivesshould be sufficient to ensure that privatefirms do not underinvest in their owntechnological development. Where marketfailures occur and firms invest less than issocially desirable, governments must beable to step in, to enable firms to internalizemarkets (e.g., provide self-financing orsubsidize training of workers) and toremedy the failures directly by providingfinance (loans, venture capital financing,R&D subsidies, etc.) to firms or activitieswhere social returns exceed private returns.Such interventions are often regarded asfunctional rather than selective, and so areconsidered with greater favor by those whomistrust selectivity (picking winners) bygovernments. The distinction, however, isoften spurious. Interventions in finance,education, research, information or

retraining are generally selective above acertain (fairly low)level: for instance, afterproviding for general levels of secondaryeducation, the training of university-levelengineers may need to be guided towardspecific industrial needs. Given resourcelimitations, selectivity in industrial supportis inevitable. But there is a stronger case forselectivity in factor market interventions:some activities have greater linkages andexternalities than others. As Grossman(1990) argues, When market activity is toolow relative to an efficient outcome, it isbecause the active and potentially activefirms fail to appropriate all the benefitsfrom some aspect of their operation.Corrective government policy should betargeted to the particular activity thatgenerates positive spillovers, and notmerely encourage firms to produce moreoutput (p.118)

(c) Institutions

The development of capabilities and theplay of incentives express themselves onlythrough specific market and nonmarketinstitutions. If markets create the necessaryinstitutions naturally, there is no need toconsider them separately. If they do not,however, the development of a properinstitutional framework becomes an area ofconcern. Since underdevelopment is almostdefined by the deficiency of institutions,clearly the subject requires consideration.Of the vast array of institutions that affecteconomic life, we note only those that areexternal to firms and that most directlyaffect industrial capabilities. In addition tothe legal framework supporting industrialactivity and property rights, these are:industrial institutions (those that promoteinterfirm linkages in production, technologyor training, or provide support to smallerenterprises, or help firms to restructure andupgrade); training institutions (where firmsunderinvest in training or fail to provide theright kind or quality of training); andtechnology institutions (on the UnitedStates, see Nelson, 1988; Tassey, 1982,1986; on Japan, freeman, 1988; OTA, 1990;Nagaoka, 1989; and Ergas, 1984; OECD,1987 on developed countries in general).

4. NATIONAL TECHNOLOGICALCAPABILITIES: SOME

EVIDENCE FROM DEVELOPINGCOUNTRIES

This section applies the above frameworkto a selection of eight industrializingcountries: the four East Asian NICs (SouthKorea, Taiwan, Hong Kong and Singapore),India, the two dominant Latin Americanindustrial economies (Brazil and Mexico),and one second-tier NIC, Thailand. Thissample gives a fair coverage of the differenttypes of countries that have achieved ameasure of success with industrialdevelopment. There is also some consensusabout their strategies and achievements,which makes possible a classification thatincorporates relevant elements that cannotbe easily quantified.

Table 2 sets out some relevant data onindustrial structure and performance andtwo sets of determinants of NTC on whichfigures could be obtained: education andscience and technology (see Lall, 1990).The top section of the table is intended toprovide background information, andillustrates some features of the samplecountries. The four East Asian NICs arethe most dynamic and efficient (in terms ofinternational competitiveness) of the group.There are, however, significant differencesbetween their industrial structure, exportspecialization and reliance on overseasinvestment. Of the larger countries, Brazilhas the biggest industrial sector with anadvanced technology in many areas ofheavy industry; however, it has large areasof uncompetitiveness (Dahlman andFrischtak, 1990), a high foreign presence inmodern industry and a large public sector.Mexico is similar in many ways, but has asmaller capital goods capability, a ways, buthas a smaller capital goods capability, ahigher foreign presence and a lowermanufactured export base. Indiasindustrial sector is very diverse, but riddledwith inefficiency and technologicalobsolescence; it has suffered low rates ofgrowth of exports and value added (untilvery recently), but has the distinction ofhaving a very low level of reliance onforeign investment and technology importsin other forms (Lall, 1987; 1985, chapter10). Finally, Thailand is a relative

newcomer, with a shallow industrial basebut very dynamic export growth based onthe relocation of labor-intensive activitiesaway from Japan and the older NICs.

The pattern is well known such diversityof industrial performance, as typified by therelative success of the East Asian NICs(and the emergence of new NICs in theregion), has prompted much theorizing onthe virtues of liberal trade strategies (WorldBank, 1987). Our framework suggests thatsimple incentive-based explanations may bepartial and misleading, but let us look at theavailable evidence.

The first issue is incentives.Macroeconomic management has, with oneanomaly in South Korea during 1979-80,been excellent in the four East Asian NICsand Thailand, moderately good in India andpoor in the two Latin American NICs.Their trade strategies are well known;consistently highly export-oriented (i.e.with incentives that were neutral betweendomestic and export markets, or biased infavor of the latter) over a long period forthe East Asian NICs, with little or noprotection in Hong Kong and Singapore butwith selective, variable and often highprotection for several industries in SouthKorea and Taiwan; more inward-orientedfor Brazil and Mexico, with large areas ofhigh effective protection, but with exportincentives to partially offset the bias; highlyand consistently

Table 2. Indicators of national technological capability in selected NICs

South Korea Taiwan Hong Kong Singapore India Brazil Mexico ThailandA - STRUCTURE AND PERFORMANCE 24.5 22.2 6.7 4.3 35.6 58.1 43.6 7.71. Mfg. Value Added $b. (1985) Mfg. Growth 1965-80/1980-86

18.7/9.8 16.4/12.9 17.0/7.0 13.3/2.2 4.3/8.2 9.6/8.2 7.4/0.0 10.9/5.2

2. Mfd Exports (1986) $b. (1986) Growth of Merchandise Exports: 1965-/ 801980-86

31.927.3/13.1

35.919.0/12.7

32.69.5/10.7

14.74.7/6.1

7.23.7/3.8

9.19.4/4.3

4.97.7/7.7

3.98.5/9.2

3. Gross Domestic Investment as % GDP (1986) 29 19 23 40 23 21 21 21

4. Capital Goods Prod. As % of Total MFG. (1985) 23 24 21 49 26 24 14 13

5. Capital Goods Imports $b. (1985) (as % MVA)

10.6(43.3)

5.6(25.2)

7.1(106.0)

8.1(188.4)

3.7(10.4)

2.2(3.8)

6.1(14.0)

2.7(35.1)

6. Stock of Foreing Direct Investment $b. (1984-86) 2.8 8.5 6.8-8.0 9.4 1.5 28.8 19.3 4.0/5.0

7. FDI Stock as % GPD 2.8 8.1 20-26 53.8 0.7 9.6 13.6 10.5-13.1

B - EDUCATION

1. (a) Education Expenditure as % household consumption (1980-85) (b) Public Expenditure % GNP

64.9

(1985)

n.a.5.1

(1986)

52.7

(1978)

122.9

(1980)

43.7

(1985)

52.9

(1984)

52.6

(1985)

63.9

(1984)2. Central Government Expentiture on education % Total Government Expenditure (1986) 18.1 20.4 n.a. 21.6 2.1 3.0 11.5 19.53. % Age Group enrolled (1985) - Primary - Secondary - Tertiary Education

969432

1009113

1056913

1157112

92359

1043511

1155516

973020

4. Vocational Ed. Enrol. (1984) NOS (000) as % population working age

8153.06

4053.25

320.86

90.5

3980.07

1.4811.83

8542.0

288.00.96

5. No of tertiary level students - in S/E fields (000) % population

5851.39

2071.06

360.67

220.89

1.4430.21

5350.40

5630.70

3600.70

(Year) - in engineering (000) % population

(1987)2280.54

(1984)1290.68

(1984)21

0.41

(1984)15

0.61

(1980)3970.06

(1983)1650.13

(1986)2820.35

(1985)n.a.

C - SCIENCE AND TECHNOLOGY

1. Patents Granted: Total (1986) of which % local

3.74169

10.61556

n.a.n.a.

5988

2.50020

3.8439

2.0059

n.a.n.a.

2. R&D % GNP of which % local

2.3(1987)

1.1(1986)

n.a. 0.5(1984)

0.9(1984)

0.7(1982)

0.6(1984)

0.3(1985)

3. R&D in Productive Sector % GNP 1.5 0.7 n.a. 0.2 0.2 0.2 0.2 n.a.

4. R&D financed by Productive Enterprises % GNP 1.9 0.6 n.a. 0.2 0.1 0.1 0.01 0.04

5. Scientists/Engineers in R&D Per million population 1.283 1.426 n.a. 960 132 256 217 1506. All scientists/engineers (a) Total nos. (000) (b) Per million population (Year)

361.38.706(1986)

n.a.n.a.

145.526.459(1986)

38.315.304(1980)

1000-20001282-2564

(1985)

1.362.211.475(1980)

565.610.720(1970)

20.3472

(1975)Sources: Asian Development Bank (1988)

Everson ( 1990)Republic of China (1985, 1987, 1989)UNESCAP ( 1988)UNESCO (1989)Eorld Bank (1987, 1989)

inward-oriented for India; and increasinglyexport-oriented for Thailand, but still withremnants of protected import substitution.At the trade strategy level, therefore,export-oriented strategies seem to bepositively correlated with industrialsuccess, supporting the arguments of theliberal school that competition ininternational markets stimulates efficientspecialization and healthy FTCdevelopment; in addition, it is suggested,export orientation provides free inflows ofinformation from world markets, givesgreater and more stable access to foreigntechnology and equipment and is associatedwith less rent-seeking behavior (Balassa etal., 1982; Nishimuzu and Robinson, 1984).

These simple categorizations ofexport orientation however, any bemisleading depictions of strategies that aremuch more complex in their impact ofNTC. There are several varieties or exportorientation (Edwards, 1989), Hong Kong isat one extreme with fully laisse7z faireeconomic policies combined with stableadministration, a strong presence of Britishtrading and financial enterprises (withconsiderable spillover benefits), aconcentration of textile-related skills andtechnology (from Shanghai), and a longtradition of entrepot trade which created avariety of contacts and skills. Singaporeoffers no protection, but intervenes heavilyin several ways, in guiding investment,setting up public enterprises (these accountfor 10% of value added in manufacturing),directing wages, and encouraging savings(Krause, 1988). It permits only veryselective immigration (of skilled personnel)and is generally highly involved in guidingthe economys development, especially byinducing foreign investors to upgrade theskill and capital intensities of the projectsthey undertake. As a result, the industrialstructures of the two island economiesdiffer quite sharply (Krause, 1988). HongKong has remained specialized in lightconsumer goods, essentially assemblingimported components, while moving up thequlity scale its industry does not havegreat technological depth or high verticallinkages (Chen, 1989), and competitivepressures are forcing it to relocate in cheap-labor areas (chiefly China)rather thandeepening domestic industrial activity.

Singapore has a much heavier industrialstructure, with strong emphasis on producergoods, and very high requirements oftechnical skills.

South Korea and Taiwan have beenmuch more interventionist, with the formertraditionally far more so than the latter(Kuznets, 1988; Wade, 1988). Until the1980s, the South Korean governmenthighly protected and promoted selected(strategic) industries, sometimes set uppublic enterprises (such as its highlyefficient Pohang steel plant), directedinvestment at the sectoral and often the firmlevel, promoted exports by several directmeasures, intervened in technology transferagreements and technology development(as in petrochemicals; see Enos and Park,1987), restructured industries, and enforcedlabor training (see Amsden, 1989; Pack andWestphal, 1986; Westphal, 1990; WorldBank, 1987 a ). Even today, despiteconsiderable liberalization, a strong elementof guidance remains in South Korea.Taiwan also protected emerging industries,guided expansion along particular lines andhad a very active technology developmentpolicy (Hou, 1989; Wade, 1988). TheSouth Korean strategy, however, was morespecifically directed at creating andsupporting giant firms (the chaebol) thatcould internalize many inefficient markets,though at the risk of a high level ofgovernment direction and the rigiditiesassociated with size. Taiwanese strategyconcentrated on providing support to smalland medium-sized firms, providing greatflexibility but holding back large, riskyinvestments in technology by the firmsthemselves. It was perhaps a l safer, moreincremental strategy, while the SouthKoean one was more risky but permittedlarger leaps into high-technology activities.In the production of semiconductor(DRAM) CHIPS, FOR INSTANCE, SouthKorean chaebol were able to cross-subsidize, enter into production and exportin a major way with little explicitgovernment support (Kim, Lee and Lee,1987; Mody, 1989b); an electronicsresearch institute set up to launchsemiconductor technology was quicklybypassed as the chaebol went directly intoproduction with massive facilities. TheTaiwanese government, on the other hand,

had to adopt a far more interventioniststrategy because of its earlier hands offstand on promoting firm size. Its DRAMproduction facility was set up by a publicsector firm, and the Taiwanese governmenthad to coordinate related technologyimport, design, manufacture and marketingby several private firms. In effect, thegovernment is doing in Taiwan whatforward and backward integration does forcompanies (Saghafi and Davidson, 1990,p.67).

The large countries were also veryinterventionist in their industrial andtechnology policies. Brazil promotedseveral large public research organizations,and its giant public enterprises invested inresearch and development. It intervened intechno-logy imports to support thedevelopment of local capabilities in theselected industries (the best-known casebeing minicomputers). Despite its heavyinvestments and major successes in somespecifically targeted areas (aircraft,minicomputers, special steels, armaments),however, Brazilian strategy in technologydevelopment was to a large extentineffective in achieving competitivenes forlarge parts of industry (Dahlman andFrischtak, 1990). Mexico also pursuedpolicies to build up domestic industrybehind import protection, but did not adaptBrazilian-style interventions to developspecific technologies; it also lagged in thedevelopment of local capital goods. As aresult Mexican technological prowess isgenerally considered to be behind Brazils.

Indias industrial strategy has remainedhighly interventionist within its importsubstitution orientation. The Indiangovernment was suspicious of privateenterprise in general, and large privatefirms and foreign investors in particular;and barriers to entry, exit, growth anddiversification were rife. It set up a largenetwork of science and technology (S&T)institutions, but these were divorced frommanufacturing enterprises and excessivelybureaucratic. The administration of Indianpolicies was slow, complex and prone tocorruption.

Another issue is capabilities, inparticular human capital. Based on 1958-59 data, Harbison and Myers (1964)developed their famous composite index of

human resource development in a largeinternational sample of countries. At thattime Argentina emerged with the highestrank in the developing world, followed bySouth Korea and Taiwan. Then (of oursample) came India, Mexico and Brazil(others in our sample were not included).In 1965, enrollment in secondary schools(as a percentage of the relevant age group)was distinctly higher in East Asia (SouthKorea 35%, Taiwan 38%, Hong Kong29%, Singapore, 45%) than in othercountries (Brazil 16%, Mexico 17%, India27%, or Thailand 14%). Enrollment intertiary education was also ahead (6%, 7%,5%, 10% respectively in East Asia, 2% and4% in Latina America, 2% in India andThailand).

By 1985, the East Asian lead insecondary education had been maintainedor widened, while that in tertiary educationhad been narrowed or eroded with theexception of South Korea. Mexico andThailand had made particularly large gainsin tertiary education. (It should be notedthat, according to UNESCO data, HongKong and Singapore have large proportionsof students in higher education overseas,32% and 25% respectively, so the figures inTable 2 are underestimates). India has thesmallest stock. In Latin America, Mexicois ahead of Brazil, Thailand is expandingvery rapidly from a low base.

Enrollment figures for education bythemselves may be misleading. The trueimpact on technological capabilitydevelopment also depends on the drop-outrates are exceptionally low in East AsianNICs (Oshima, 1988; Kim, 1988). Thetechnical orientation of education is highestin Singapore (60% of tertiary students arein S&T subjects), followed by Mexico(48%), Hong Kong (46%), South Korea(42%), Brazil (36%), India (27%) andThailand (21%). There is no informationon Taiwan, but we can safely assume thefigure to be high. More important is theproportion of each countrys populationenrolled in science and engineering. Thisbroad measure of technological capacity isled by South Korea (1.39), followed byTaiwan (1.06), Singapore (0,89), Mexico(0,7), Hong Kong (0,67), Brazil(0,4) andIndia (0,21). Allowing for students abroad(and taking the proportion in science and

engineering to be the same as at home), thefigures for Singapore and Hong Kong riseto 1.01 and 0,81.South Korea s rises to1.41, while those of others (Taiwan data aremissing) are not affected. Takingengineering on its own. Taiwan leads thesample, followed by Singapore and SouthKorea. These three NICs have figures some10 times higher than Indias, or 4-5 timeshigher than Brazils.

The only relevant indicators of thequality of education are scores of primaryand secondary school students on theInternational Education Reviews tests inscience and mathematics. In one test,administered in 19 mostly developedcountries, with only South Korea and Indiaincluded from our sample (quoted in WorldBank, 1981). South Korea came secondonly to Japan in nearly all tests, and inone it beat Japan, It consistentlyoutperformed countries such as the UnitedStates, The United Kingdom, Germany,Sweden and Austria, South Koreasprimary school students and Austria. SouthKoreas primary school students did 2.5times better than India; its secondary schoolstudents 3.8 times better. In another test,reported in OTA (1990), two other samplecountries, Hong Kong and Thailand, wereincluded in a sample of 14, again mostlydeveloped countries. Twelfth graders weretested in geometry and algebra in the mid -1980s. The top performer in both was HongKong, followed by Japan. The UnitedStates came 12th in geometry and 13th inalgebra. Thailand came last in both tests.These tests should, however, be treated withcaution, because they may not be robustindicators of educational standards acrossthe board.

The technical competence of anindustrial workforce is improved byeducation imparted by various formaltraining systems and by in-firm training.While the precise nature of the benefits ofvocational as opposed to general training,and preemployment as opposed topostemployment training, is still the subjectof debate (Dougherty, 1989), it isindisputable that the speed of technicalchange in modern industry necessitatesincreasing inputs of training retraining.Data are most readily available onvocational training (From UNESCO); these

are shown in Table 2, in total and in relationto the size of the population. South Koreaand Taiwan are far in the lead (over 3% ofthe population of working age is enrolled invocational training), exceeding relativelevels in latin America (about 2%) andother East Asian NICs. Singapore is alsorelatively low (0.5%), but this figure ismisleading because of the large size of itsemployee training program the large size ofits employee training program run on acooperative basis by government andindustry. Hong Kong has a relatively poorshowing (0,86%) behind that of Thailand,reflecting the specialized andtechnologically undemanding nature of itsindustrial structure. India has very smallenrollments, suggesting widespread skilldeficiencies.

In-firm training figures are not widelyavailable, but McMahon (1987) singles outSouth Korea as an exceptional case in thatSince 1960 South Korea has insisted thatcompanies spend at least 5-6% of their totalbudget on education and training programs,involving the private sector in the educationprocess in a meaningful way(p.19) It isdoubtful whether any other country in thesample has a training effort comparable tothis. Presumably, this effort has providedthe basis for efficient production in SouthKoreas rapid drive into new, demandingindustries.

The impressions that emerge from thesedata are: (a) the East Asian NICs have thelargest stock of human capital in a broadsense (formal education at secondary andtertiary levels ). They are followed byMexico, then Brazil and Thailand, withIndia clearly at the bottom. (b) In terms oftechnical education and vocational training,South Korea and Taiwan are clear leaders(with South Korea pulling ahead at agenerally high level, and Taiwan ahead inengineering education), with Singaporeclose behind. Hong Kong comes next,followed by Mexico, then Brazil orThailand (depending on the measure), withIndia again lagging well behind (c) In termsof teh quality of education, patchy evidencesuggests that the East Asian NICs, withtheir strong cultural emphasis on education,are ahead of the others. (d) In firm-leveltraining. South Korea is likely to be the

leader. Singapore leads in employeetraining provided externally.

These impressions conform broadly tothe patterns of revealed NTC discussedearlier. While the most successful countrieshave the largest investments in humancapital formation, preceding andaccompanying their industrial growth.South Korea and Taiwan are in a differentclass from Hong Kong and Singapore.South Korea and Taiwans larger relativetechnical skill endowments explain theirgreater ability to tackle more complex,demanding industrial technologies. HongKong is distinctly behind Singapore, whichconforms to the observed differences intheir industrial structures and technologicalprocess. Interestingly, Singapores heavyreliance on foreign investors in its high-technology industries does not relieve it ofthe need to provide educated and trainedtechnical labor; multinational corporations(MNCs)are able to set up such industriesthere only because of the availability ofappropriate personnel (and Singapore iswidely regarded as having one of theworlds best employee training systems).

Mexico seems to have a better trainedworkforce than Brazil by every measure.Its apparent lag in NTC must then beattributed to specific industrial andtechnological policies, which have failed todevelop technological capabilities (at leastin selected areas) as forcefully as Brazil.Indias substantial lag in human resourcesmay appear surprising, because of thegeneral aura it has of a country with anoversupply of technical and educated labor.There is certainly a large absolute supply(although of highly variable quality), andgraduate unemployment and emigration arereal problems. In relation to the size of theeconomy, however, the stock is poor, andwhat there is seems to be concentrated inthe larger esta-blishments. The apparentoversupply is more a reflection of theeconomys poor performance than anythingelse: wrong policies have held back eventhe absorption and effective utilization of itsmeagre human resources.

The most common measure of nationaltechnological effort is total spending onresearch and development (R&D) inrelation to GNP. By this measure, sampledata (not available for Hong Kong) show

that South Korea, with 2,3% in 1987, isnow well ahead of the others (more thandouble that of Taiwan, its nearest rival) andplanning to reach 5% by the year 2000.Taiwan and India are close to each other,around 1%, followed by brazil and Mexico,Singapore and Thailand.

Total R&D expenditures may be lessrelevant a measure of industrial technicaleffort than R&D performed or financed byproductive enterprises. Total R&D includeslarge elements of nonindustrial R&D, orindustrial R&D performed in governmentlaboratories, or performed and financed byproductive enterprises (Griliches, 1986,finds, for instance, that privately financedR&D in the United States yields muchhigher returns from R&D financed by thefederal government and performed by thesame enterprises). On this criterion, rowsC.3 and C.4 of Table 2 show again thatSouth Korea is far in the lead, with Taiwansome distance and other countries muchfurther behind. The bulk of South Koreanprivate R&D is performed by its gianchaebols, themselves the products of earlierpolicies to select, protect and subsidizelarge firms to lead the industrializationdrive. In this sense, even the private R&Dof South Korea can be traced to theselective intervention, which createdchaebols, directed them into heavy andcomplex activities and forced them tocompete internationally.

Patent data are also available but arenotoriously difficult to comparemeaningfully. Nevertheless, the figures onthe proportion of patents taken out byresidents (which may include foreigners)are suggestive (Evenson, 1990). SouthKorea and Taiwan (69% and 56%) are farahead of India (20%) Brazil and Mexico(9% each), or Singapore (85) Thecommercial value of these patents may bequestionable, but it is instructive in thiscontext to refer to Fagerbergs (1988)growth accounting exercise. Fagerberg usedpatents taken out internationally as ameasure of innovative activity, andincluded Asian NICs (Hong Kong, southKorea, Taiwan) and Latin American NICs(Argentina, brazil, Mexico ) as subsamples.

Fagerbergs calculations showed thatboth groups of NICs grew faster than thefrontier countries (United States,

Switzerland, Germany, Japan, Sweden)East Asia 6% faster and Latin America1.9% faster. The difference between thetwo subgroups was primarily due to theirinnovative efforts. For Asian NICs, theseefforts contributed 2.9% of their relativegrowth performance; for Latin America thefigure was 0,1%. Such exercises sufferfrom well-known limitations andinterpretation problems, but the generalresults are plausible and in conformancewith other sorts of evidence. Innovativeeffort is important for growth even amongNICs, and East Asia performs far betterthan Latin America.

The employment of scientists andengineers in R&D in relation to populationis another common measure oftechnological effort. The figures for thismeasure (row C.5) show Taiwan ahead ofothers (1,426 per million population in1986, higher than Frances 1,365 in 1984).South Korea is a close second with 1,283,followed by Singapore with 960. There isthen a large gap, with Brazil and Mexicohaving 256 and 217 respectively. Thailandhas 150 and India 132. The quality of R&Dscientists and engineers my differ bycountry, and their economic value maydepend on the type of R&D they areengaged in, but there is no reason to believethat, as far as NICs are concerned, thesefactors would reduce the apparent lead ofEast Asia. If anything, they wouldstrengthen it.

A similar measure of the total potentialstock of scientists and engineers is shownin row C.6 of Table 2. The data (takenfrom UNESCO, which collects the figuresby questionnaire) are sometimes dubious(especially for Hong Kong, where theyappear to be overestimates), but they showthe two island NICs of Asia with thehighest stocks of scientists and engineers,followed by Brazil, Mexico and SouthKorea. India comes out ahead of Thailandon this measure, but well behind the others.

The technological data broadly supportthe trends revealed by the figures oneducation. The Asian NICs, in particularSouth Korea and Taiwan, have invested notonly in educating and training theirpopulations, but also in technologicalinnovation. This investment was primarilyoriented to the commercial needs of

productive enterprises, and has drawn upona large pool of scientists and engineers.Combined with a highly skilled workforcethese investments yielded thecompetitiveness and dynamism thatrevealed themselves in growth and exportperformance. Export orientation playes apermissive and stimulative role, and as suchwas necessary but it was not sufficient.

Turning now to technology imports, allsample countries import large amounts oftechnology, but their import patterns differgreatly. In part this disparity is due todiffering rules and controls on buyingKnow-How and services abroad: theinternational technology market is subjectto a spectrum of failures caused byasymmetric information, opportunism,missing markets and so on, and differentgovernments have adopted differentmeasures to overcome such failures andhelp national enterprises to purchasetechnology on fair terms. In part, however,it is due to more fundamental difference, ontechnological strategy. This concerns therelative roles of foreign and local enterprisein building indigenous capabilities. Thereare striking variations across the leadingsemi-industrial countries in the extent towhich they have drawn on foreign directinvestment (FDI) to provide technology andskills.

FDI can, in appropriate conditions, be avery efficient means of transferring apackage of capital, skills, technology, brandnames and access to establishedinternational networks. It can also providebeneficial spillovers to local skill creationand, by demonstration and competition, tolocal firms. Where local skills andcapabilities are inadequate. FDI cansometimes be the only means to upgradetechnologies and enter hig-technologyactivities. The very fact however, that FDIis such an efficient transmitter of packagedtechnology based on innovative activityperformed inadvanced countries has seriousimplications. With few exceptions, thedeveloping country affiliate, receives theresults of innovation, not the innovativeprocess itself: it is not efficient for theenterprise concerned to invest in the skilland linkage creation in a new location. Theaffiliate, inconsequence, develops efficientcapabilities up to a certain level, but not

beyond: in the literature this process iscalled the truncation of technologytransfer. Such truncation can diminish notonly the affiliate own technologicaldevelopment, but also its linkages with thehost country s technological andproduction infrastructure, and thus limitbeneficial externalities. Moreover, a strongforeign presence with advanced technologycan prevent local competitors frominvesting in deepening their owncapabilities (as opposed to be comingdependent on imported technology or,where the technology is not available atreasonable prices, with drawing from theactivity altogether).

For these reasons, countries withtechnological potential may find itbeneficial to restrict FDI and importtechnology in unpackaged form(including foreign minority owned jointventures). The choice of modes oftechnology imports is thus not neutral some are more beneficial than others forcertain strategies and at certain stages ofdevelopment. The sample countries coverthe whole range of FDI strategies. Rows A6-7 of Table 2 set out data on stocks offoreign investment in each country and onFDI as a percentage of GDP in the relevantyear. It shows, at one extreme, low levelsof reliance on FDI by India and SouthKorea, and, at the other, very high levels bySingapore and Hong Kong, and fairly highlevels, among large countries, by Mexico,Thailand and Brazil. The interesting casesare those of South Korea, and, at the other,very high levels by Singapore andHongKong,and fairly high levels, amonglarge countries, by Mexico, Thailand andBrazil. The interesting cases are those ofSouth Korea and Singapore, both successfulNICs which have opted for opposingstrategies on foreign capital.

South Korea has developed arguably themost advanced and competitive base oftechnological capabilities in the developingworld, drawing on foreign technologymainly in nonequity forms (i.e. by capitalgoods imports, licensing and minorityforeign ventures; Wetsphal, Rhee andPusell, 1979; Westphal, 1990). In order tonurture this massive effort it followed theJapanese example of some decades earlier protection against imports and selective

exclusion of foreign investment,accompanied by the upgrading of skills,hug investments in R&D and thesponsoring of the giant chaebols tointernalize various markets and so copewith the rigors of international competition.The strategy may be characterized as one ofprotecting domestic technologicallearning at a stage of development whenexternalities and uncertainties abound,information linkages are imperfect andbasic capacibilities are in the preliminarystages of development. This stage issimilar in many respects to the microlevelprocess of developing a new innovation bya developed country firm, when (asGrossman, 1990, argues) the strongestcasse for government intervention mayarise... (because this would) involvesubstantial research outlays and costlylearning-by-doing [and] private firms oftenare unable to capture more than a fractionof the benefits they create for consumersand for other firms in the industry (p.119)

The South Korean strategy went wellbeyond supporting R&D to restrictingimports and direct investment.Technological development by anindustrializing LDC is different in a criticalsense from a firm innovating a newtechnology: the LDC faces an externalenvironment where several competitorshave already undergone the learningprocess and have developed the necessaryinstitutional structures. The need forintervention in LDCs is concomitantlygreater. South Korea demonstrates thatprotection of the learning process can behighly effective when complex, large-scales, fast-moving technologies areinvolved (Westphal, 1990). Singapore, incontrast, relied entirely on technologygenerated elsewhere, butintervened(selectively) to induce investorsto move up the technological scale and(functionally) to provide a well-trainedworkforce. The strategy worked well forSingapore- but whether it can be emulatedby larger economics, and whether it willlead to a broad base for sustained industrialdevelopment ( la Japan or South Korea) isopen to question. The Latin Americaneconomies have come somewhere inbetween, Brazil has set up large publicenterprises and restricted foreign entry in

certain setors toprotect indigenous learnin;Mexico is also doing so on a much smallerscale. The heavy reliance of these countrieson MNCs for a great deal of advancedtechnology may well have premptedindigenous capability development in thesectors concerned. India has had a verydifferent experience, excluding MNCs inmuch of manufacturing, but also sufferingtechnologicallags and inefficiency as aresult of its trade and industrial policies andpoor human capital endowments.

Institutions are not considered herebecause it is practically impossible tocompare institutional structures andperformance across countries. This is not todeny their importance institutionalsupport is clearly an integral part ofcapability development but to leave theirconsideration to a different venue.

5. CONCLUSIONS ANDIMPLICATIONS

The analysis presented above onthedeterminants of NTC provides a broad,suggestive framework rather than a preciseset of causal connections. It has beensuggested in this paper that thedevelopment of capabilities is the outcomeof a complex interaction of incentivestructures (mediated by governmentinterventions to overcome market failures)with human resources, technological effortand institutional factors (each also stronglyaffected by market failures and so needingcorrective interventions). Partialexplanations of NTC development, whichconcentrate exclusively on market-drivenincentives, on the one hand, or oncapability-building measures, on the other,are apt to be misleading for analytical andpolicy purposes. It is the interplay of allthese factors in particular country settingsthat determines at the firm level how wellproducers learn the skills and master theinformation needed to cope with industrialtechnologies and, at the national level, howwell countries employ their factorendowments, raise those endowments overtime, and grow dynamically in the contextof rapidly changing technologies.

With the current prevalence ofnoninterventionist views on economicdevelopment strategy, it is important to be

clear about the implications of theframework of NTC presented here. One setof determinants cannot by itself producedynamic, broad-based, sustained industrialdevelopment. Just getting proper incentivesin place will be better, ceteris paribus, thangiving the wrong signals, but just gettingprices right may lead to specialization inactivities with static comparative advantageif the skills, technology, or institutions arenot present to permit efficientdiversification. Similarly, generating skillsalone would achieve little if incentives forefficient industrial activity were lacking.Given skills and incentives, performancewould still differ (as it does amongdeveloped countries), depending on theability of institutions and governmentpolicies to over come market failures andprotect activities with genuine dynamicpotential. The existence of market failuresconsiderably modifies what are regarded asneoclassical prescriptions for development,even within the strict rules of neoclassicalanalysis.

Government policy affects all threecomponents of technological development.Let us reiterate, starting with incentives. Aconsensus is emerging on the trade andindustry policies that promote healthy NTCdevelopment. These are largely taken tobemarket-oriented policies that promotecompetition, specialization by comparativeadvantage, and free international flows oftechnology and capital. It is recognized,however, that there can be serious failuresin the provision of correct signals from freemarkets. The existing configuration ofprices and costs may not be a reliable guideto resource allocation (includinginvestments in capability building) wherethere are externalities, complementarities,uncertain learning gains or capital marketfailures (Stiglitz, 1987, 1989). There maythen be little theoretical or empiricaljustification for some fashionable policyprescriptions, e.g., free trade, or giving lowand uniform effective protection to differentactivities. There may be a valid case forintervening in free trade on infant industrygrounds. There may also be a valid case forselectivity: some activities may well needmuch higher protection (and capability-building support)than others, depending ontheir technical requirements, externalities

and the cost and risk involved in developingthe necessary capabilities. By the samereasoning, there maybe justifiable reasonsfor promoting strategic industries(because of extensive linkages) or selectedindividual firms (to realize economies ofsize and scope by internalizing defici8entmarkets) (Wetpah. 1990).

As far as capabilities are concerned,there is perhaps more agreement on theneed for policy interventions to promotephysical and human capital developmentand technological effort. The interventionsneeded, however, may be selective as wellas functional if education and technologystrategies are to be geared to realizingspecific forms of dynamic comparativeadvantage. In the early stages, industrialdevelopment needs basic human capital(literacy and numeracy, with somevocational skills); the period needed toabsorb simple industrial technologies isshort and needs little protection or externalsupport. At this stage, relativelynonselective educational interventions maybe appropriate. As development proceeds,more difficult technologies are used and theneed for more sophisticated and specializededucation/training grow. To the extent thatthe education market lack information onthese specialized needs, or under invests inproviding facilities of the right kind andquality, there arises the need for selectiveintervention. Moreover, since there is aserious risk of private under investment intraining at the firm level when labor ismobile, human capital developmentrequires measures to induce moreinvestment to support employee training, byfirms individually or cooperatively, or bygovernments where private agentsconsistently under-invest. These measuresmaybe functional, applied to all activities,or they may be selective, targetingemerging sectors.

The need for specific technologicaleffort to acquire technological capabilitiesalso rises with industrial development.Easy capabilities may be acquire by brieftraining combined with learning-by-doing(i.e. repetition without technical search,investment or experimentation). Moredifficult capa-bilities necessarily requiremore training and technological effort tomaster, with concomitant risk and

uncertainty. As technologies grow morecomplex, the development of capabilitiesruns into problems of appropriability,externa-lities, lumpiness and requirementsof very specialized skills (Teece, 1989);policies maybe needed to overcome theseproblems in firm level efforts. The policiesmust also cover the development ofinstitutions external to firms, to and othersimilar public goods relevant tocapability development (Grossman, 1990).As development proceeds, moreover,institutional interventions may grow moreselective as the initial basic needs are metand markets function more efficiently.

Technological development alwaysneeds technology imports from advancedcountries. The extent of dependence onimported technology and the form thattechnology imports take, however, affectNTCdevelopment. A passive reliane onforeign skills, knowledge and technologyany lead to NTC stagnation at a low level,while selective inputs of foreign technologyinto an active domestic process oftechnology development can lead todynamic NTC growth. Imports oftechnology must there fore be directed toforms that feed into local efforts rather thansuppress them. Adverse effects can arisefrom a massive foreign presence in the formof MNCs that keep their main R&Dfunctions overseas. They can, however,also arise form licensing or use of foreignconsultants in ways that do not transferknow why to local agents, and thattransfer all the benefits of learning abroad.Licensing can be deep or shallow, astimulus to local learning or a drain on it:NTC development requires appropriateinformation selection and negotiation.Thus specific interventions are needed topromote NTC development, and these willhave both selective and functional aspects.

The above is not meant to suggest thatthere is a single optimal path to industrialdevelopment for all developing countries.The experience of NICs shows clearly thatthere are many roads to success. Somedifferences in viable strategies are given bythe state of nature viz, size, resourceendowment or location. Small countries arenot, other things being equal, hanicapped bytheir size, but the sorts of industries theycan set up and the technological options

they can pursue differ from those for largecountries. But there are other differences inpossible strategies which depend more onthe strategic choices of policy makers thanon the state of nature. The extent andpace of industrial deepening, for example,is a strategic variable for the policymaker;this determines, in turn, the pace andcontent of human resource development,incentives needed via protection or creditallocation, requirements fortechniclasupport or infrastructure, and soon. A country which (like Hong Kong) iscontent tospecialize in light industry needsto invest heavily in (generic) human capital,infrastructure and some (selecitve) supportfor likely export activities, but it needs tointervene less (and less selectively) in otherways than one which aims for heavyindustry of particular types. Similarly, thedesired extent of national ownership ordepth of indigenous technologicalcapability (the two may be closely linked)determines the need for efforts on local skillcreation and investments in R&D.

Each of the NICs represents a differentmodel of industrial development because ofits choice among strategic variables: thepromotion of selected industries or ofselected enterprises, fostering of particulartypes of industrial structures, reliance ondomestic as opposed to foreign ownershipof industry, and development of anindigenous base of technology and skills.These choices dictate, in turn, differentdegrees and combinations of selective andfunctional interventions. It is an openquestion which set of choices constitutes anideal long-term development strategy.What is evident is that many strategies areviable, that each is based on a differentcombination of incentives, capabilities andinstitutions, and that each carries its own setof concomitant interventions.

The choice of a less selective set ofinterventions ( la Hong Kong) reduces therisks of backing expensive losers, but it hasits own demands and drawbacks. Toachieve something approximating theindustrial success of Hong Kong, agovernment would need to interveneinitially to build up a comparable base ofskills, entrepreneurship, trading know-howand infrastructure. To enable competitivenew activities to emerge without selective

promotion, further-more, the governmentwould have to intervene over time to createnew skills, technologies and institutions. Ifthe objective is to establish a deep anddiverse industrial structure (as it should bein larger economies), such functionalmeasures would have to be very extensiveindeed. It may even be the case thatdynamic industrial development withnonselective interventions would placegreater demands on administrativecapabilities (to mount functionalinterventions) rather than less. If suchcapabilities were lacking, the process ofdevelopment maybe slower or more uneventhan with a package that included carefulselective interventions. In any case, it is notclear that, in the absence of selectiveinterventions (in factor or product markets),such a country would be able to diversifyinto more complex, demanding industrieswith heavy learning costs. Certainlyindustrialization experience does notsuggest that it would.

In the final analysis, therefore, a largerole remains for government policies inpromoting each of the three determinants oftechnological development. Butgovernments face information andincentive problems no less than does theprivate market ... Good policy requiresidentifying them [market failures] , askingwhich can be directly attacked by makingmarkets work more directly attacked bymaking markets work more effectively (andin particular reducing government imposedbarriers to the effective working of markets)and which cannot. We need to identifywhich market failures can be amelioratedthrough nonmarket institutions (withperhaps the government taking aninstrumental role in establishing thesenonmarket institutions). We need torecognize both the limits and strengths ofmarkets, as well as the strengths, and limits,of government interventions aimed atcorrecting market failures(Stiglitz, 1989,p.202).

The experience fo developing countriesis replete with instances of misguidedintervention. It has been suggested herethat many of these failed interventions wereneither economic nor truly selective. Therelatively fwe cases of successful selectiveintervention that exist suggest that

interventions are necessary in thepresenceof widespread market failures.Cosnequently, improved methods ofintervening are worth striving for. Muchdepends on the competence, honesty andpolitical strength of the policy markers:where governments are so weak or corruptthat selective interventions inevitably leadto the hijacking of policy by entrenchedinterests, it may be better to suffer marketfailure than pervasive governmentfailure(Biggs and Levy, 1990). In suchcases, however, it is not evident thatnonintervention would lead to industrialsuccess. It should be feasible to strengthenthe administrative capabilities and power ofgovernments by providing betterinformation and building in measures tosafeguard sensible economic policies, andto limit interventions in scope to prevent theworse abuses. But this takes us beyond thescope of the present discussion, into therealms of political economy proper, whereagain fears of government failure mayhave been too sharply drawn (Shapiro andTaylor, 1990).

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