7. Drafting Industrial Master Plans
in the East Asian Context

1. East Asian dynamism driven by trade and investment

During the last half century, economic performance of the developing world has been far from uniform. Developing countries were polarized into those that made great progress in catching up and those that were mired in stagnation. The majority of the East Asian countries belong to the first group. Economic development in East Asia has followed a remarkable pattern, unlike any other developing regions in the world.

There is a long-lasting debate between the West and the East regarding what constitutes a good development strategy. The West, especially European donors, thinks that the ultimate goal of development is poverty reduction and emphasizes health, education and other programs that directly help the poor. They also stress good governance--efficiency, participation, transparency, accountability, etc--as the prerequisite for receiving aid. By contrast, East Asia is much more growth contents-oriented. Setting concrete industrial goals, identifying necessary actions and organizations to achieve them, and executing them under effective leadership, have been the prime concern for development.

East Asia's success has not been uniform across time and countries. There were failures, instabilities and periods of trouble. East Asia was the region where the Cold War turned into two hot wars, in Korea and Vietnam. Domestic political and social problems also abounded. The most recent severe economic shock East Asia had to face was the Asian financial crisis of 1997-98. It is therefore hardly possible to argue that East Asia succeeded because of regional stability. Despite many problems, however, growth was sustained in most countries and over the long run. It is in this average sense that East Asian growth was remarkable compared with other developing regions.

The secret of East Asian growth is not in the particular policies adopted by individual countries but in their collective determination to join and compete in the regional economy. East Asian growth has been attained through the very existence of East Asia as a powerful arena for economic interaction among its members, and not merely by "market-friendly" policies or good governance of individual countries alone.

One by one, countries in different development stages realized economic growth by participating in the dynamic production network spanned by multi-national corporations (MNCs). Linked by trade and investment, international division of labor with clear order and structure has emerged in the region. Under this system, industrialization has proceeded through geographic spreading on the one hand and structural deepening within each country on the other. The term flying geese refers to these supply-side developments, which we prefer to call Asian dynamism. To understand this mechanism, we must analyze production structure, intra-regional trade, and investment flows of East Asia as a whole.

For developing countries in East Asia, economic development is tantamount to becoming one crucial link in this production network under competitive pressure from and cooperative relations with neighboring countries and, through it, upgrading their industrial capabilities from low-tech to high-tech. To initiate development, they had no choice but to undertake regional integration via trade and investment.

East Asia as a region has offered a political, economic and social model and an enabling environment for the catching up of latecomer countries. What drove them were national desire for material well-being and the demonstration of excellence by neighboring countries, not conditionalities or MDG matrices introduced by international organizations. No other developing region has formed such an organic structure of interdependence as East Asia.

The diagram below shows how the East Asian geese are flying as measured by the ratio of manufactured goods in total exports. The top countries including Japan, Taiwan and Korea have long been exporters of manufactured products. The second tier of countries such as Singapore, Malaysia, Thailand, and especially China, are catching up very fast. They are followed by the third group of countries like Indonesia, Philippines and Vietnam that are coming up more slowly. Myanmar, at present, has not entered the race yet. 

The following schematic diagram shows how industries are passed from the first tier countries to the next tier and down the line. This industrial passing occurs through foreign direct investment (FDI) of private companies, especially MNCs. Thus, FDI is the crucial agent of change for a country wishing to participate in this staggered industrialization game.

Japanese MNCs are the chief architect of the East Asian production network. Asian dynamism has also been supported by the trade and investment relationship with the EU, US and Korea, as well as the extensive business networks of Taiwan, Hong Kong, and the overseas Chinese. During the last decade, the emergence of China as the factory of the world added a new important factor. There is a large volume of intra-regional trade in industrial intermediate inputs (materials, parts and components) in East Asia which reflect the fact that the region is like a one big factory with each country playing its part in the division of labor in production.

2. East Asia's industrial issues

Since East Asia is a very dynamic economic region, issues that East Asian economies must tackle are quite different from those that plague developing countries in other regions. In many senses, East Asian problems are much more "advanced" than the problems faced by others. In this section, five such issues are explained.

<The "glass ceiling" problem>

East Asian countries must make a constant effort to move up the ladder or stagnate. Starting from a low base, they start on the road of industrialization one by one and face a series of challenges. When one challenge is overcome, another environment emerges which presents new challenges. There are countries above and below any one country. In this configuration, all countries try to collectively move up in mutual competition. This situation is quite different from other high performing countries, such as Chile and South Africa, whose developments are more independent from neighboring countries.

The diagram above depicts a typical sequence of challenges that East Asian countries face in the industrialization process.

In Stage One, a country starts as a simple assembler of electronic goods or a sewer of garments, using only unskilled labor and depending totally on foreign design, technology, materials and markets. Factory managers and buyers are also foreign. This is the stage of contract manufacturing, where little value is created domestically (Vietnam, Bangladesh).

In Stage Two, as FDI accumulates and an industrial base begins to form, the size of assembly operation grows and some parts and components are now produced domestically (often by FDI suppliers, with local firms also participating in the production of relatively easy parts). This is the stage of supporting industry creation. However, factory managers and engineers still remain foreign. Industry has expanded quantitatively, but not qualitatively. Machinery and equipment exist in the country, but industrial human resources are still primitive (Malaysia, Thailand).

In Stage Three, capabilities in production, management, logistics, marketing etc. are internalized and strengthened. Skill and technology have been absorbed, all managers and engineers are local, and foreigners are no longer needed for daily operation. With acquired expertise, the country can produce high-quality products at reasonable cost, export them to the global market, and expand its production network through outward FDI (Taiwan, Korea).

In Stage Four, the country not only produces high-quality products by imitation but also can create entirely new industries and products through innovation. It is a global industrial leader as well as top competitors in all aspects of the global value chain and supply chain (Japan, US, EU).

The term "glass ceiling" refers to the fact that no ASEAN countries have broken through the invisible wall between the second and third stage, at least up to now. They cannot reach the levels attained by Taiwan and Korea. ASEAN4 countries have achieved FDI-led industrialization, but they are still heavily dependent on Japanese, Korean, US and EU managers and engineers. As their wages rise and China emerges as a formidable competitor, there is a risk that their production base shifts to China, Vietnam or other low-wage countries. The only solution for them is to improve internal capability and create greater value which can support high wages. But value internalization in these countries seems to proceed very slowly.

<Integration before agglomeration>

What industrialization strategy should be adopted by latest comers in the 21st century? The international environment surrounding them is quite different from that faced by early industrializers.

Clearly, they cannot adopt economic planning. The days of socialism are over.

Equally clearly (at least in East Asia), the free market doctrine that favors opening up completely and regulating as little as possible is unrealistic and even highly damaging for latest comers. There are important roles that must be played by the government.

Infant industry promotion, adopted successfully by Japan and Korea in the past, of protecting domestic firms until they become competitive, is no longer possible. The World Bank, IMF, WTO and a web of FTAs will not tolerate such a strategy. Besides, this strategy requires a very wise and coherent government that does not succumb to political pressure, which is rare in today's developing world.

How about FDI-led industrialization of ASEAN4? This strategy, adopted vigorously since the late 1980s, is also unavailable for latest comers for the following reason. Malaysia and Thailand (and to a lesser extent, Indonesia and the Philippines) received large amounts of FDI but they at the same time adopted protective measures, such as import bans, entry restriction, high tariffs and localization requirements, for a few decades until their industrial base became well established quantitatively. Removal of protective measures was fairly slow. Thailand abolished local content requirement only in 2000, after achieving significant industrialization. Indonesia has not removed such requirement even now.

But slow liberalization and integration are not available for today's low-income countries. They are required to open up now, before there is industrial agglomeration. Because they must integrate fast, their strategy must be different from--and perhaps much bolder than--ASEAN4's strategy of absorbing FDI and maintaining protection simultaneously.

<China challenge>

China is a huge country with large population, many engineers and scientists, a large supply of industrial inputs, long experience of (socialist) production, and an extensive overseas business network. It is foolish for any country to try to directly compete with China in the products, markets and technology in which China excels.

Other countries should take a complementary strategic position vis-à-vis China. They should take advantage of China's capability by importing Chinese inputs at reasonably good quality and low cost, but they should avoid producing the same output as China. But which products are complementary to Chinese production? Since China is a big country that produces many things, it is not very easy to find a niche.

Instead of examining individual products or models, the theory of business architecture will guide us more effectively in identifying complementarity with China. This is a new theory proposed by Prof. Takahiro Fujimoto and his team at the University of Tokyo to study the competitiveness and dynamics of industries across countries.

<Strategic choice in business architecture>

According to Prof. Fujimoto (photo), there are two basic types of manufacturing--modular architecture and integral architecture. In modular architecture, the modality of interaction among components is standardized for easy connection. In integral architecture, the complexity of interaction is happily accepted, and improvements are achieved through numerous trials and errors. Generally speaking, modular architecture is suitable for obtaining quick results at low cost while integral architecture is appropriate for the pursuit of ever-higher quality in the long run. For example, desktop computers are a typical modular product in which globally common components from various companies can be freely combined. Meanwhile, automobiles must be manufactured with integral architecture if multiple objectives such as power, comfort, style, fuel efficiency, safety, etc. are to be attained simultaneously.

@
Modular
manufacturing
Integral
manufacturing
Parts interface
Parts are common and can be used for any model
Each product has unique parts, specifically designed
Merits
Quick results and flexibility
Endless pursuit of quality
Demerits
No differentiation, excess entry, low profit, lack of R&D
Much energy and time needed to achieve results
Institutional
requirement
Openness, quick decision making, flexible outsourcing
Long-term relations, building internal skills & knowledge

Correspondence between products and business architecture is not a rigid one. It evolves dynamically with the business strategy of each firm or country, technical progress, and demand shifts. In addition, business architecture often has structural layers in which, for example, modularization may proceed in final assembly while integration may deepen in parts and components.

Japan is a country of integral architecture, deeply interested in efficient factory operation and obsessed with the perfection of the product. By contrast, the United States excels in modularization and is good at slicing the value chain into appropriate elements, standardizing them and making profits by the novelty of combination. China is also a country of modular architecture, but its comparative advantage comes from labor-intensive (and often copied) modular products rather than knowledge-intensive modular products like the United States.

Prof. Fujimoto has one concrete suggestion. Since the United States and China are both modular countries but with different levels of wages and technology, they are complementary partners in manufacturing modular goods. Meanwhile, Japan is an integral country with high wages and high technology looking for an international partner. Using cheap labor in China and ASEAN cannot exploit the full potentiality of integral manufacturing. If ASEAN, the traditional destination of Japanese FDI, learns to become a manufacturing partner with long-term vision and strong aspiration for high quality, Japan and ASEAN can form a strategic alliance in manufacturing integral products which are differentiated from Chinese products. However, this alliance remains a possibility since no ASEAN countries has acquired necessary skills and proper attitude for Japanese-style manufacturing.

Becoming an integral manufacturing country requires strong supporting industries and excellent industrial human resources. More specifically, it requires skills to design and operate factories efficiently, ability to maintain, adjust and repair machines, design parts, and producing die and mold, improving the level of local engineers, and so on. These challenges are well known and many policy measures and technical assistance programs have been mobilized to meet them, but so far the results are rather limited.

<FDI-led growth or forced capability building>

There are two alternative paths for latecomers to catch up in skills and technology.

The first path is to create a very open and liberal business environment and attract FDI aggressively and without selectivity. Once a sufficient number of FDI firms accumulate, the government should strongly assist local firms to improve ability, become suppliers of FDI firms, and absorb know-how from them. In this way, local firms are expected to compete indirectly with global rivals through FDI firms. This two-step approach was taken by Thai automobiles and Malaysia's electronics industries. The risk of this strategy is that local firms may learn too slowly and dominance of foreign firms may continue for a long time.

The second path is to "do-it-yourself" by temporarily protecting and supporting domestic firms until they become strong enough to face global competition. This strategy often aims at creating national brands. Foreign advisors and technical assistance may be employed, but producers must be local. This "infant industry promotion" strategy was taken by Korean steel and automobile industries (successful) as well as Malaysia's automobile industry (not so successful). The risk with this approach is that local capability may rise but not sufficiently to compete with global giants. If that happens, the whole effort may come to nothing.

The question is: which path is more likely to create globally competitive domestic industries in the long run?

3. Industrial policy formulation: method and organization

The above sections explained the background against which East Asian industrial strategy must be formulated. While the content of industrial strategy may differ from one country to another, and also from one industry to another, there should be a general rule in drafting policies that make them realistic and feasible. We require that, to be effective, any industrial policy formulation method must satisfy the following two conditions.

To fulfill these conditions, someone must create and enforce the policy formulation process itself. Thus, we ask the following two questions: (i) who provides the initial vision and direction, and (ii) who orchestrates the overall drafting process which includes business involvement and inter-ministerial coordination?

We propose to compare the drafting of industrial master plans in Japan, Malaysia, Thailand and Vietnam.

@ Business involvement Inter-ministerial coordination Who provides vision? Who coordinates drafting?
Japan (now) Dominant Weak (but METI covers broad issues) Private firms METI
Malaysia (drafting IMP3 2006-2020) Strong Reasonable MITI in consultation with businesses MITI
Thailand (2001-06 under Thaksin) Strong Reasonable Mr. Thaksin Industry-specific institute
Vietnam (now) Weak Weak Unclear Small drafting team (MOI)

<Japan>

In the 1960s, Japan's Ministry of International Trade and Industry (MITI) introduced many policies in support of domestic industries, although their effectiveness is still debated. Some say MITI's policies were crucial in Japan's industrialization, others say that MITI's interventions had negative impacts, and still others say that growth was achieved by private dynamism while MITI's role was insignificant. It is perhaps reasonable to assume that Japan's private sector was the main engine of growth, but MITI also played a secondary but significant role.

In those days (late 1950s to early 1970s), MITI had many policy channels and instruments for receiving information from and influencing the behavior of the business community.

    -Shingikai (deliberation councils) and study meetings
    -Industry associations such as JAMA (automobiles), JEITA (electronics & IT), JISF (steel), etc.
    -Personal rotation (revolving doors) between government and business firms
    -Amakudari (golden parachutes, or retired officials moving to private firms as well-paid senior advisors)
    -official loan allocation through Japan Development Bank
    -Export quota allocation
    -Recession cartels to allocate output and capital investment
    -Informal daily contacts

MITI's policy was sometimes welcomed by businesses but other times not (for example, the policy to merge Japanese automobile firms to compete with American giants in the 1960s was rejected by Toyota, Nissan, Mazda, Honda, Mitsubishi, etc). But we can at least say that information exchange between MITI and businesses was sufficiently close so that they mutually understood each other's plans and intentions.

MITI was renamed to become the Ministry of Economy, Trade and Industry (METI) in 2001. In the early 21st century, METI's role has become much smaller because of the growth of Japan's private sector as well as the pressure of globalization. Large private firms no longer need METI's help or intervention. METI still plays a role in trade relations (e.g., FTA negotiations and bilateral trade talks), environment and energy saving, quality and safety standards, and so on. But it no longer influences key business decisions such as production, investment and product innovation.

Among the policy tools mentioned above, deliberation councils and industrial associations are still used intensively today to absorb information and opinions from the private sector. Policy vision and targets are set by private firms or experts, while METI only acts as coordinator and facilitator in industrial policy making.

Inter-ministerial coordination in Japan is generally weak, and METI is no exception. But since METI covers broad areas including industries, trade, investment, technology, technical standards, energy and materials, environment, industrial human resources, and industry-related technical assistance, METI can produce reasonably coherent policies without talking to other ministries.

<Malaysia>

In Malaysia, the key industrial document is the Industrial Master Plan (IMP). There have been two such IMPs (1986-95 and 1996-2005) and the Malaysian Ministry of International Trade and Industry (MITI) is just about to publish IMP3 (2006-2020).

Malaysia has a relatively well-structured policy formulation system with clear procedure and mandates. In drafting IMP3, there has been a three-layered organization consisting of the Industrial Planning Committee (headed by the MITI minister), the Steering Committee (headed by a MITI high official), and ten Technical Resource Groups (drafting teams for each chapter). Besides this, many writers, secretaries and research assistants were mobilized. In total, several hundred people were involved.
   

According to MITI, initial vision and policy orientation of IMP3 emerged naturally from many formal and informal meetings among various officials and business people prior to the first IPC meeting, While one overarching theme (leveling up and broadening the value chain) was imposed in drafting the previous IMP2, IMP3 does not impose such uniformity and leaves the content largely to each TRG. How coherent the resulting document will be remains to be seen.

The private sector can participate in the drafting process as TRG members and influence the content. In addition, it can voice its opinions at the time of the "first brainstorming session."

<Thailand>

Historically, inter-ministerial coordination among Thai ministries has been weak. In addition, Thai policy making has been much more informal, diffused and flexible in comparison with Malaysia. However, during the time of Prime Minister Shinawatra Thaksin, who ruled the country as if it were a business corporation from 2001 to 2006, Thai policy formulation changed significantly (whether and how quickly it will revert back to the previous soft policy style remains to be seen).

Mr. Thaksin governed with quick and strong top-down directives, replacing the usual slow bottom-up process. He gave short ambiguous orders such as Thailand must become a "Detroit of Asia" or "Kitchen of the World," and relevant ministries were required to translate his vision into concrete targets and implementable action plans. Mr. Thaksin often met with high officials and business leaders and, if there was any problem, he quickly ordered the minister to look into the matter and find a solution. Under Mr. Thaksin, ministries still did not talk to each other but entire policy became more coherent by his dominant vision.

Mr. Thaksin used two organizations to facilitate industrial policy coordination. First, several industry-specific institutes (such as Thai Automotive Institute, Electrical and Electronics Institute, etc) to serve as a hub of policy making among government, businesses and experts, providing necessary industrial service and training, and conducting research. They were asked to become financially independent after several years of operation (which may be a bit unrealistic). Second, at a higher level, industry-specific government committees were convened every one to two months to discuss issues and solve problems. Mr. Thaksin himself, top officials from relevant ministries, and general directors of leading companies attended.

<Vietnam>

Compared with the other three countries, Vietnam's policy formulation is still at a primitive stage. The drafting process of industrial strategies and master plans is largely closed within the government sector with little regular interaction with the business sector or researchers outside the government. Inter-ministerial coordination is weak, and even inter-departmental coordination within the same ministry is weak. Leaders, including the prime minister and ministers, usually do not give any clear policy vision. They order relevant ministries and agencies to produce reports without giving them any clear direction.

As a result, policy documents are drafted by a small team of officials assigned for the task. There are rigid procedures and deadlines, budget limits and pre-determined chapter contents. For this reason, the drafting team does not have enough time or money to hear business opinions broadly or propose new contents. Approved documents are either ignored or criticized by the business community. If proposed policies seriously damage the interests of domestic or FDI firms, they often write letters to the prime minister and related ministers to correct the situation. The relationship between the government and the business community is often antagonistic.

Vietnam needs an overhaul of policy making processes to overcome this trap.

At present, the Vietnam Development Forum (VDF) is cooperating with Vietnam's Ministry of Industry (MOI) to improve policy formulation. Its activities include: (i) continued surveys and research on several key industries such as motorbikes, automobiles, steel, power, electronics, supporting industries, etc; (ii) joint missions with MOI to Japan, Malaysia and Thailand; (iii) assisting MOI to draft the supporting industry master plan; and (iv) acting as a coordinator among MOI officials, businesses and experts to draft the motorbike master plan. In this master plan, a new drafting method is being tried by selectively adopting the Thai and Malaysian methods.

@

References

Fujimoto, Takahiro, "Architecture-based Comparative Advantage in Japan and Asia," presented at the GRIPS-Tokyo University COE Joint Research Workshop in July 2006 (to be included in a GRIPS book published shortly).  draft

Ohno, Kenichi, East Asian Growth and Japanese Aid Strategy, GRIPS Development Forum, 2003.

Ohno, Kenichi, and Nguyen Van Thuong, eds, Improving Industrial Policy Formulation, Vietnam Development Forum, published by The Publishing House of Political Theory, Hanoi, 2005 (also available in Vietnamese).

Ohno, Kenichi, ed, Industrial Policy Formulation in Thailand, Malaysia and Japan, Vietnam Development Forum, published by the Publishing House of Social Labour, Hanoi, 2006 (also available in Vietnamese).

VDF Report, "Supporting Industries in Vietnam from the Perspective of Japanese Manufacturing Firms," VDF Policy Note no.2(E), June 2006 (also available in Japanese and Vietnamese).

Vietnam's Motorbike Joint Working Group (VDF-MOI cooperation to draft the motorbike master plan)