Post No.: 0547
Urbanisation and land rights were explored in Post No.: 0487 in this multi-post analysis on how countries tend to economically develop. Here we’ll continue to examine industrialisation a little further, with a focus on pioneering investment and the challenges a country might face when trying to break out of poverty.
Industrialisation naturally develops into a state of (global) interdependence (e.g. a modern car manufacturer depends on tyre manufacturers, brake system manufacturers, electronic component makers, the supply of steel and other raw materials, etc.) – everyone exploiting the scale and specialisations of everyone else doing what they do best in a complex modern economy.
In Britain, at first, muscle power (from humans and work animals) was alone used to produce things. Small factories were then enabled by exploiting the power of water, but these tended to be in the middle of nowhere. Coal was a massive game-changer, but needed the invention of steam power to pump water out from the mines, and coal was heavy to transport to where the workers and factories were located hence canals were built and used. Factories then clustered and cities grew, each with scale and certain specialisations, like cotton (Lancashire), pottery (Stoke-on-Trent) and steel (Sheffield).
We must therefore realise that science and invention go paw-in-paw. Bright scientists and inventors need the right tools and opportunities to make their experiments possible or visions and inventions realisable and commercially successful. No one ever makes it alone. Inventions must follow a sequence – one person discovers or invents something and that allows someone else to do something else, and so forth. We build upon the successes or lessons of others before us.
This means that it’s a slow process. We didn’t leap suddenly to modernity. And small economies today must do the same and grow step-by-step even though they don’t need to invent what has now been invented. They must produce what they can with what they’ve got (such as make and use candles before moving onto gas lights, before moving onto mains electrical light sources). Such a place must solve the scale and interdependence issues simultaneously in order to economically prosper – preferably by making and outputting things that become wanted and are productive inputs elsewhere i.e. be part of a value chain. Meow.
There’ll also be a shortage of pioneering investment from the public and private sectors because of the huge risks of not knowing whether such investments will work in that particular market or not. All economies invest in innovations or need pioneering businesses to some degree and the risks are the same – but in small economies, lots of things are going to be pioneering and speculative because no one will quite know what will sell or work in the local market (e.g. in a new market where no one wears hats, will hats sell well there because ‘obviously’ there’s a huge untapped market there with all those bare heads, or will hats not sell well there because ‘obviously’ no one wants hats there and that’s why no one there wears them?(!))
In higher-income countries, pioneering R&D, or research and development, is – or should be – recognised as vital to the economy, and their governments can afford to subsidise such projects to reduce that risk for universities and entrepreneurs. Grants, subsidies and/or tax breaks are partly the reason why there are certain geographical hotspots in the biotech or film industries, for instance. But the poorest societies need an awful lot of pioneering investment (e.g. the first textile manufacturer there, to test if textile manufacturing will work there), yet their governments are least able to afford to subsidise such endeavours.
Externalities include knowledge externalities. For example, if you set up a café in a village and it fails then that benefits other businesspeople too because they will have learnt to not set up a café in that village too, thus saving them time and money while you have wasted yours. Or if your café is successful then others will imitate your business and compete with you, thus eroding your profits. This highlights the risk of being a pioneer, of being the first in anything – being a first-mover can be rewarding, or alternatively enormously costly even if one reveals that there’s a market for a particular product (the most popular social media platforms or search engines today, for instance, weren’t the first). And such positive externalities (passing benefits onto those who didn’t earn or deserve those benefits through their own efforts) tend to be undersupplied in a free market.
Economic growth depends on increasing productivity. The clustering of firms in the same area improves productivity via scale and specialisation, as mentioned before. In a city that has lots of individual firms that produces buttons, for instance – that’ll become the place where buyers across the world will go to in order to source buttons, that’ll be the place where skilled button makers will also cluster around hence finding staff for these firms becomes easier, that’ll be the place where buttonhole machine repairers will also cluster around hence finding people who can repair your machines becomes easier too, etc.. (Qiaotou in China is currently known as the ‘button capital’ of the world!) Countries with leaderships that are able to support the establishment of clusters can successfully break into the global market. And once the ball is rolling, entrepreneurs acting on their own individual interests are then able to build and sustain something that collectively benefits them all.
What usually eventually dismantles a cluster over time though is rising wage costs – as a place becomes more economically affluent, employees will demand higher wages, and there may be a point when somewhere else in the world will provide cheaper labour and cheaper costs overall when everything else is accounted for, and a cluster of firms might build up there, and so forth in explosive processes of relocation.
Other potential solutions are to cease to be small as a country, such as by forming a federation (like what the United States of America is today) or a confederation (like the European Union) with some neighbouring states if possible. But some will view this as a threat to their own sovereignty. (Note that membership in a federation isn’t voluntary and the federal government holds ultimate authority over its member states, whilst membership in a confederation is voluntary (members can leave if they want) and the confederate government is accountable to its member states, who remain sovereign.)
An alternative is to cease to be isolated. Build transport infrastructure and services that integrate the country with the global economy. But this highlights that small and isolated (from the rest of the world) economies face challenges – they need major infrastructure like seaports and/or airports but these are expensive to build. These projects cost a lot of money that poor countries won’t have and cannot borrow, unless it’s from foreign aid or from a fluffy international community body like the World Bank Group. Private investors will likely stay away because they would want to confidently see a return on their investments (e.g. will building a bridge that connects two small economies together bring a decent ROI?)
There might be geopolitical, financial and sociological challenges that can hamper the integration process. Landlocked countries need to politically depend upon the cooperation of their coastal neighbours if they want a railway route to/from the sea to improve their trade situation. But this sets up a power asymmetry because these neighbouring countries don’t need the landlocked country as much as the other way around. This creates a ‘hold-up problem’ and these neighbouring countries can place extortionate fees on any goods that travel through their country to the landlocked country. Customs officials at ports or road checkpoints can behave corruptly and extort money or delay goods from passing to the landlocked country. They can basically extract economic rents from their advantaged position.
Breaking out of poverty and growing into an economically-developed country is therefore not an automatic or guaranteed process that merely needs time to pass. Political and sociological constraints mean that small and isolated countries in particular need cooperation, particularly from their neighbours, to economically succeed. Idiosyncratic world events or trends can pose opportunities or threats too. Automation may mean that cheap, low-skilled labour might not be an advantage in some industries anymore.
There is a sequence and it needs coordination, but – like with most things – it’s easier to say what needs to be done than to put it into practice. These countries need rules (e.g. appropriate laws or changes in laws), tailored and locally-appropriate institutions or motivated teams that plan and enact public policy visions for growth (e.g. honest and efficient tax collectors and public investment bodies), and a critical mass of well-informed and supportive citizens who will not be fooled by the misinformation forwarded by the corrupt or by narrow-interest lobbyists, or will not be too personally short-sighted and individualist instead of thinking about the collective outcomes (the most difficult ingredient perhaps). It also importantly needs the right authorising political leadership that’ll take responsibility for making it all happen and make it happen – as in the rules, institutions and communicating with citizens so that they understand the struggle and which side of that struggle they need to be on.
Pioneering investment and investing in pioneering R&D will lead us to the next post in this thread, where we’ll take a look at the potency, and problems, of intellectual property, and also the exploitation of natural mineral resources, when it comes to nurturing global economic prosperity.