ANTECEDENTES

To recap, the first two points of Milberg et. al. (2014) were: 1) industrial policy must shift from the traditional stance aimed at developing fully integrated production structures (i.e. the entire industry domestically), to a stance focusing on moving into higher-valued tasks associated with a certain industry; and 2) while traditional industrial policy may have included protection of domestic industry, success in the era of GVC expansion requires easy and cheap access to imports, in particular for necessary intermediates.

These two points are interrelated—specialising in a segment of an industry rather than developing fully integrated production structures largely means being more liberal with imported inputs. Engaging in this type of vertical specialisation, rather than hosting a fully integrated chain, can indeed bring about economic benefits. Many East Asian countries, as we have seen previously in this chapter from the examples of South Korea, Taiwan and in particular China, have achieved some success from principally manufacturing assembly activities. Taking advantage of its large pool of low-wage English-speaking workforce, India has also reaped benefits from specialising in particular segments of global service industries (e.g., call centres for IT companies or banks and back offices of airlines).

Particularly in the GVC era, FDI attraction for developing countries has almost become synonymous with niche specialisation (mainly in manufacturing industries). When doing so, if a liberal stance towards importing intermediate inputs is not already a requirement by foreign companies, failing to have it makes it almost impossible to attract FDI, as foreign buyers can largely ‘pick and choose’ which country to outsource to in a world where cheap labour is more easily accessible and plentiful than before. Even 60 years ago, when this was not the case, we saw how Taiwan made a strenuous effort to woo foreign investors by offering 100 per cent foreign ownership, guarantees against expropriation and five-year tax holidays.

Staritz et. al. (2016) provide the example of the apparel industry and shows that, first of all, it is difficult for one country to produce all the types of fabric and yarn that that country needs in its apparel production, especially if there is a contract with a huge Western buyer that demands a large variety of clothes. Second, lead firms in the industry tend to have a range of suppliers that do different things, and often prefer to have a range of designated textile suppliers that export their products to apparel suppliers in other countries.

Furthermore, a strategy focusing on niche specialisation is far easier for countries with lower levels of technology and skills and provides a quick route to creating jobs and earning

foreign exchange. As we have seen through various examples in this chapter, almost all the cases of niche-specialisation, regardless of the long-term result on the development of domestic productive capabilities, have been successful in generating export earnings and local employment, especially those doing so through the set-up of EPZs.

However, the benefits of specialising in segments of GVCs are limited, especially those which use cheap labour and low levels of technology. As Milberg et. al. (2014) actually emphasise, call-centres and other service activities that India has come to specialise in are low- skill-based and have not brought about much technological upgrading. In countries like South Korea, Taiwan, and Singapore, vertical specialisation only brought about benefits because they used it as a basis for building higher-level productive capabilities, including especially nationally-controlled GVCs (e.g., electronics in South Korea or Taiwan) and at that as a part of ambitious industrial policy strategies. Malaysia is said to be in a ‘middle-income trap’ because it has not been able to use its GVC participation for productive-capability upgrading as much as South Korea, Taiwan or Singapore have done (Cherif and Hasanov, 2015). China is still struggling to achieve high domestic content in high-technology manufacturing, even though it is close to acquiring control over full-fledged GVCs in textiles, apparel, and consumer electronics. We also saw the examples of many Latin American countries that became stuck in low value added activities because of GVC participation.

The key point here is that a careful balance needs to be struck between the benefits that vertical specialisation and a liberal trading regime can bring about, and the need to develop domestic productive capabilities. We saw how in the case of South Korea and Taiwan, they carefully balanced the need to import intermediate inputs and capital goods with the strategy of developing a domestic supplier industry. But too many of today’s low income countries are failing to strike this balance, particularly neglecting the need to create backward linkages to the domestic production of inputs needed for manufacturing activities. Unconditional FDI attraction policies may lead to employment creation and export earnings, but are not sufficient to ensure a domestic supplier industry. Kaplinsky and Morris (2016) distinguish between the two different strategies as ‘thinning’ (vertical specialisation) and ‘thickening’ (creating domestic linkages). They argue that for low and middle-income countries, the thickening strategy is relatively more important.

Coming back to the example of the apparel industry, Staritz et. al. (2016) argue that for a host country to transform its domestic industry through FDI attraction, it is crucial to build linkages to input industries. While it is difficult, and not necessary, to produce all inputs domestically, there are possibilities to produce at least some, such as cotton. This is important

not only for the linkage perspective, but it also benefits the foreign company in that it reduces lead times when certain inputs can be sourced domestically.

From this point of view, Ethiopia—arguably the most successful African country in nascent stages of industrial transformation—is going in the right direction when it declares that a central goal of its industrial policy is to reduce its dependence on imported inputs in the highly prioritised manufacturing industries, textiles and leather products. Such a policy stance is taken, among other things, in order to create better linkages to the supplier industries (Ethiopia has Africa’s largest livestock population and good opportunities for cotton cultivation), to avoid using scarce foreign exchange reserves on importing inputs, and to reduce the risk of foreign firms relocating their production activities to other countries, as frequently happens in these type of labour intensive manufacturing-industries.

Clearly, for this to happen, industrial policy must play a role, examples being tariffs on imported inputs and local content requirements. The latter is now prohibited by the WTO,47 but to some degree remains a policy option for LDCs. And not all African countries are members of the WTO (such as Ethiopia), and can therefore legally use them. However, as mentioned, putting requirements on foreign investors to use local inputs is not easy in a global context where possible sourcing locations are abundant, and would be less contested if introduced more informally through negotiations with foreign investors. UNECA (2013) suggests that the host country puts requirements on the foreign firm to report regularly on local sourcing and the degree of local value added, including a clear ‘roll-out’ plan for future local sourcing. “Such a mechanism is likely to focus the minds of their chief executives, engender a climate of moral enforceability and help to encourage local linkages” (UNECA, 2013, p.244).

But it is not as if the wheel has to be reinvented. A current example to draw inspiration from could be Brazil’s ‘Inovar Auto’ program, which aims to develop a domestic automotive industrial base by incentivising foreign automotive firms to use inputs from local suppliers by granting tax exemptions depending on the degree of local sourcing (Pascoal et al. 2014). Another example would be Bangladesh, which has achieved considerable success in creating backward linkages in the manufacturing of knit apparel by granting firms cash subsidies for exports made from locally produced yarn and fabrics (Staritz and Frederick, 2012).

47 _{The regulations on tariffs for WTO members are somewhat more complicated than that of local content} requirements. The WTO works towards lowering tariffs worldwide, and all WTO members are required to bind (that is, set the upper limit on) at least some of their tariffs. But some countries (many of them in Africa) have yet to bind their tariffs. This means that there is some ’water’ in the tariff profiles of African countries - the difference between bound and applied tariffs. Additionally, many of the countries that have bound their tariffs have done so at quite high levels.

Furthermore, the cases of both South Korea and Taiwan that I provided earlier in this chapter serve as useful examples for how to bargain with foreign investors by striking a balance with handing out financial incentives to attract them, but at the same time inducing them to source inputs locally.