By Ranjit Fernando –
A draft National Policy for Industrial Development of Sri Lanka (NaPID) prepared by a Task Force (TF) led by the eminent Economist Prof. Sirimal Abeyratne, has been released recently. The policy prescriptions proposed in the draft paper are based, inter alia, on a comprehensive “Industry Diagnosis Report” (IDR), which was also released simultaneously.
The important role that the industrial sector plays in promoting overall economic growth in a country needs no particular emphasis. The industrial sector in addition to making its own contribution to economic growth, also triggers growth in the other two sectors. Agro processing industries encourage the increased production of raw materials resulting in additional investment in the agricultural sector. A significant percentage of projects in the services sector exists to meet the demands of the industrial sector.
For these and other reasons an Industrial Policy statement by the government deserves serious attention. The policy statement is an official pronouncement by the government of the measures it proposes to take to promote sustainable industrial development and augment industrial production. A great majority of the industrial output in a country are tradeables. Thus, trade and industrial policies complement each other. Accordingly, policy makers strive to achieve a great degree of congruence between a country’s trade policies and its industrial policies. Together they have the potential of being and are often referred to as the twin engines that drive economic growth in a country. In fact, in countries such as Singapore trade and industry are under one ministry and consequently under the purview of one minister.
It is not my intention, nor is it practical, to engage in a clause by clause analysis of the draft policy document. What I wish to do is to comment on two matters. Firstly, on some critical conceptual issues, central to the designing of an Industrial Policy and how those critical issues have been dealt with by the Task Force (Sections 2 to 5). Secondly, I intend commenting on some specific provisions in the draft NaPID. (Section 6)
1. For Whom Is The Policy Statement?
A constructive approach to analyzing the Policy Statement may be to firstly, answer the question “To whom is the Policy statement addressed? An industrial Policy statement is addressed to the stakeholders of the sector. Who are these stakeholders?
The two main stakeholders will obviously be the Government and the Industrialists. The lead role for the Government will in this instance be played by the Ministry of Industries while a key supporting role will be played by the Ministry of Trade. The industrialists will be represented by their accredited Chambers and by leading industrialists with years of experience. Since the performance of the industrial sector will greatly influence the overall performance of the Economy, the informed Public too will be indirect stakeholders.
What will both groups want to see in the report?
While existing and potential industrialists, and officials who will be directly involved in implementing the policies and monitoring progress, will be interested in the detail, stakeholders who are looking at the big picture, will I believe, be more interested to find out the broad direction in which the sector is expected to grow, with the implementation of the new Policies. In other words, what changes to the sector’s present characteristics, it’s composition, role and positioning, would the framers of the new set of Policies, want to bring about via the implementation of the new Policies?
2. The Direction Of Sri Lanka’s Industrial Policy
The Task Force, prior to settling down to the actual task of drafting the set of Policies, would have asked themselves, and perhaps some other key stakeholders, the question- What do we want the sector to be, after implementing the new policies? In what direction should the Policies we frame, drive the sector as a whole, given the critical contribution expected of the sector. What is the audacious Goal we have for the sector? Can we propose a set of Policies that is likely to lead the sector towards that Goal?
The Task Force appears to answer these questions in Section 2.1 of the Industry Diagnostic Report as follows;
“The Direction of Sri Lanka’s Industrial Policy. For Sri Lanka’s industrial policy to succeed in the 21st century, it must adjust to new national, regional and global contexts, including digitalization and growing sustainability challenges. These are among the considerations that have informed the approach taken in the process of drafting this draft report for the National Policy for Industrial Development (NaPID), which is based on the objectives set out in Sri Lanka’s National Policy Framework for 2020-2025: “Vistas of Prosperity and Splendor”, the Fourth Industrial Revolution, and the “Sustainable Development Goals” (SDGs). In addition, a key development that cannot be ignored in Sri Lanka’s NaPID is the impact of COVID-19”.
It appears that the Task Force have themselves identified the need for the industrial sector, not only to grow statistically in terms of the usual performance measuring ratios, but to grow in terms of playing a wider and decisive role dictated by national needs. The report in Section 2.1 of the IDR cites three sources whose priorities ought to set the direction of growth of the sector. These sources are;
(1) The “Vistas of Prosperity and Splendor” document,
(2) The Sustainable Development Goals, and
(3) Changes required to conform to Green industry and fourth industrial Revolution.
The draft report submits that the priorities identified in the first two documents mentioned above, are relevant and must be taken into account in drafting Sri Lanka’s Industrial Policy. The first named document was the election manifesto of the ruling Party published prior to the last Presidential Election. The IDR on page 9 lists the priorities extracted from the “Vistas” document. They are the following:
1. Priority to National Security
2. Friendly, Non-aligned, Foreign Policy
3. An administration free from corruption
4. New Constitution that fulfils the people’s wishes.
5. Productive Citizenry and a vibrant Human resource
6. People Centric Economic Development
7. Technology Based Society
8. New Approach in National Spatial system
9. Sustainable Environmental Management
10. Disciplined, Law abiding and values
A table on page 10 of the report, attempts to set out the relevance of these priorities, to the Industrial sector. It lists out some specific Objectives and Strategies arising from those priorities, in columns one and two of the Table. Column three states in which way they are relevant to Sri Lanka’s Industrial Policy.
Section 2.1.2 deals with the second source. Seventeen priorities or specific goals have been identified from the second source, viz the Sustainable Development Goals, which many readers may be familiar with. They include; 1.End Poverty, 2. End Hunger & achieve food security, 3. Ensure Healthy lives, 4. Ensure inclusive & equitable quality education, etc.
Table 2 attempts to show the relevance of the SDG goals and its specific objectives, in guiding the formulation of the Industrial Policy.
With regards to the third source viz the transition to Green Growth and the influence of the fourth industrial revolution, Section 2.2 of the IDR, explains the importance of local industry complying with these new realities. The Industrial Policies proposed must result in an Industrial sector that is compliant of these requirements.
None of the above priorities are objectionable in themselves. But the relevant question is; Can any of them provide direction in the formulation of the Industrial Policy? The priorities identified from the first two documents are laudable objectives and no doubt of relevance in the context of the purposes for which they were initially prepared. However, their influence in directing the shape and content of the Industrial Policy, appears to be remote. The industrial sector needs to comply with many of them. But can they be the directional force behind the Industrial Policy? The attempt to connect up the priorities identified in these documents to the approach in formulating the industrial Policy and its contents, it is respectfully submitted, looks contrived and unreal. A review of the first two items in Table 1 alone, will make one realize how tenuous the link is between the priorities identified in the “Vistas” document and the particular aspect selected from the Policy statement. For instance, what is the likelihood or relevance of developing a strategic Trade relationship with a country, for the purpose of maintaining a Non-aligned Foreign Policy? How relevant will the removal of Tariff charges to enhance technology imports be, on maintaining People centered Economic development or vise visa?
The priorities identified in the “Vistas” document are mostly Good Governance concerns and not directly related to the Industrial sector. Recognizing them individually or collectively as a directional force that will, shape the future Industrial Policy, needs a stretch of one’s imagination. Page 15 of the IDR states quite correctly that “Industrial Policy must direct social inclusion, environment protection and economic growth”. Industrialists must of course conform to them. One can even envisage prescribing compliance with same. On the other hand they may be the result of implementing a sound Industrial Policy. But they cannot be the driving force of the Industrial Policy. Further, the “Vistas” document was the Election Manifesto of the ruling party, at the last Presidential election. Adopting priorities arising from that document as one of the directional sources for shaping the industrial Policy, is a near certain way of ensuring that the document will be abrogated, if and when there is a change of the governing party.
Similar comments apply to the choice of the Sustainable Development Goals, as a force, setting the direction of the Industrial Policy. There is no doubt that the growth in the industrial sector will contribute to the eradication of Poverty, or in ensuring inclusive and equitable quality education. However, by what stretch of imagination could one imagine that those laudable goals will be focused upon when the industrial Policy is being formulated? For the above reasons, it is submitted with respect, that the direction presumed to be provided (in fact the absence of it) by the two documents referred to above, are inappropriate.
2.1 How should one pick an alternate direction?
Setting the right Policy direction for the sector, in today’s context, requires one to understand and appreciate the present state of the Sector, viz its strengths and weaknesses, constraints to growth, and where the greatest potential for growth lies, given the trends that are clearly discernible both locally and globally. The industrial sector in Sri Lanka is inward looking, and are faced with the limitations of size and purchasing Power of the local market. The strong lobby for protection that is becoming louder by the day, is a definite sign of the sector being uncompetitive in the global market, both in terms of price and quality. Most local industries are at a low level of technology and the local value added is also at a low level. Wage increases during the last few years has significantly eroded the cost advantage the country enjoyed as a low- cost location. The direction in which the future growth of the sector be driven, and its end destination, should address most of the weaknesses identified above.
As an alternative to the direction proposed in the NaPID, and given the present state of the sector as described above, in what direction should the proposed Industrial Policies, drive the industrial sector? It should drive the sector to where the greatest potential for growth lies.
In selecting the direction of growth, we should also not be constrained by any particular ideology. The sole criterion should be “What is good for the sector and the country”. Several research studies have focused in identifying the factors that helped Singapore reach the pre-eminent position it occupies today. One among four factors that have been identified by several studies is a principle which has been consistently followed by all governments that ruled the country, since it broke away from the confederation. Viz National Policies were decided on the single criterion of “What was best for the country “. The Government was indifferent as to which ideology or “..ism” the particular Policy subscribed. In the popular words of that great leader Deng Zia Peng, “It matters not whether the cat is black or white, as long as it catches the mice”.
A direction which will meet the aforementioned criteria, but one that is at the same time challenging, is to direct the Sri Lankan industrial sector, to integrate itself with the global industrial sector. Transforming the local industrial sector, from an inward looking, state led, import substituting posture to one that is outward looking, export oriented, globally competitive, would be a formidable challenge. But it is a challenge, lesser countries have taken on and achieved much progress.
The transformation of the local industrial sector from what it is today, to a robust, globally competitive, and export focused one, will no doubt be a daunting and challenging task. A strong commitment by the government and a change of the direction of the NaPID to something similar to what is proposed above viz. “to design our industrial policies with a view to integrating our industrial sector with global industry”, will enable the Government to play the Lead Role in securing the commitment of the organized local industrial community to accept this challenge.
If the above is accepted as the direction in which the industrial sector should grow, then the Industrial Policy document should contain Policies that encourages and incentivizes all stakeholders to move in that direction. For instance, the Policies proposed must offer assistance to the sector players to overcome their present weaknesses, and to acquire new skills. They must become Globally competitive. Our industrialists must be encouraged to follow the trends in the global industrial sector. They must be encouraged and assisted in visiting regular global fairs and exhibitions which focus on new technologies. The Policies must promote ways and means of our industrialists establishing joint ventures and alliances with Global players. We should install Policies that will not leave room for developments in the Global industrial sector, such as the phenomenal growth achieved by the Global Value chain (GVC) business, ever bypass Sri Lanka. The Global Value Chain business today is said to account for 70-80% of global Trade. The current account surplus of US$ 12.5 B achieved by Vietnam in 2019, is largely attributed to its success in attracting GVC business.
Sri Lanka has limited manufacturing capability unlike countries that can boast of advanced manufacturing capability. It has been found that in countries with limited manufacturing capability, technology transfer and the linking up with Global value chains takes place mostly via Foreign Direct Investment (FDIs). Thus, our Policies must encourage FDIs and incentivize our industrialist to identify suitable Joint venture partners and approach them directly. Our embassies overseas should help them schedule one to one meetings with the decision makers of the Target Companies.
It has been reported that disruptions and delays caused by COVID recently, has highlighted the susceptibilities of GVC arrangements and how a delay in the supply of one component can force companies to breach supply contracts for delivery of the finished product. This may be the opportunity for Sri Lanka to enter the fray. It has also been pointed out that instead of marketing the country as a low wage and therefore a low-cost country we should strategize on marketing cleaner production, environment friendly processes etc for industries such as dyeing in the textile industry.(firstname.lastname@example.org).
While there may be good reason to classify “small” and “medium” industries together as one category named “Small and Medium Scale Industries”, there are also circumstances when the two categories ought to be treated differently. There are many medium scale industries which are owner operated, set up by professionals who have returned to the country after studying and working overseas for a number of years. They are generally well organized, profitable ventures producing quality goods serving local demand. There is much potential in encouraging these establishments to focus on the export markets. If 50 of these establishments can be identified for a start, and assisted to explore overseas markets there is good prospect of success in the short to medium term. The Policy statement must initiate promotional activities of this type in collaboration with Banks and other promotional agencies.
A concerted effort must be made to equip all Bankers with the tools that enable them to evaluate a request for finance from an industrial outfit, based on the RISK inherent in the proposal, rather than on the Security offered. Every investment project has its own Risk. The purpose in evaluating a project is to assess that Risk and to take steps, together with the project proponent, to lower that Risk. Project evaluation is not an adversarial process. Engaging the potential borrower in a joint effort to reformulate the project to reduce the Risk and make it more viable can be a rewarding experience. Security is not a substitute for viability.
3. The Path To Economic Development
Reference was made in the introductory section of this paper to the close relationship that exists between Industrial and Trade Policy. A liberalized industrial Policy as proposed cannot co-exist within a restricted and protective trade regime. Trade as a percentage of GDP has come down drastically ie from almost 90% in the year 2000, to approx. 40% in 2020. The Government has a clear choice to make.
The ongoing debate on the preferred path for achieving rapid Industrial growth in a small country, that is unable to influence neither the globally traded quantity nor the price of a particular tradeable, revolves around two schools of thought. One, that espouses the merits of an Industrialization strategy that is based on a liberalized economy that is fully integrated with the global economy, and the other, which places a premium on self-reliance and focusses on a strategy of import substitution, under the guiding hand of the state. Industrial Policy In Sri Lanka, has alternated between these two models depending on which Political Party was in Power. While frequent changes in Policy, of the kind we have experienced in Sri Lanka, brings about a sense of uncertainty and is likely to have discouraged investment in the Industrial sector at times in the past, it has unwittingly provided useful information, on the performance of the industrial sector as well as the economy, under each policy regime.
The diagnostic study accompanying the NaPID, includes a detailed analysis of the periodic Political regime changes that has occurred during the 72 year post independent history of Sri Lanka, the consequent changes in economic Policy, as well as how the economy has reacted to such Policy changes. Unfortunately, the above information is in different sections of the report, thereby rendering the cause and effect relationship between one change and the other, less transparent. In contrast, the results of a similar analysis, carried out by Professor Prema-chandra Athukorale,( Arndt-Corden Department of Economics Crawford School of Public Policy, Australian National University ) published first as a working paper in Trade and development for the Australian National University, and later as an article in the Daily FT, is presented with greater clarity highlighting the causal relationship between one change and the other.
The research paper of Mr Prema- chandra Athukorale referred to above, has dealt extensively with these regime changes and more importantly, the manner in which the economy and the industrial sector had responded to the different Policy regimes that prevailed at different times. I cannot do better than summarizing his submissions on the changing fortunes of the economy during the different Policy regimes.
1. Growth of manufacturing in the Sri Lankan economy was lackluster during the state led import substitution era. The average annual growth in the early stages of import substitution era (1990s) was approx. 8.5%, dropping to a mere 3% by 1970-7.
2. The manufacturing sector entered a distinct growth phase following the liberalization reforms. Contrary to gloomy predictions by the critics of reform, the lifting of import controls did not result in a sudden massive contraction. Following initial adjustments to the new the competitive market setting, manufacturing growth surpassed that of all other sectors during most years in the next two decades.
3. From the 1970s to about the late 90s, manufacturing grew at an annual average growth rate of about 6.5%, compared to an overall GDP growth rate of 5.3%. The manufacturing share of GDP recorded an almost two-fold increase from 10% in the 1970s to nearly 20% by the early 2000s.
4. There has been a dramatic shift in the ownership structure of the manufacturing sector, during this period. The share of SOEs in manufacturing output dropped from about 70% in the mid 70s to less than 3% by the turn of the century. The shrinking of the role of the SOEs in manufacturing had a salutary effect on productivity improvements in the manufacturing sector.
5. At the time the reforms started, manufacturing accounted for about 10% of total employment in the country. This increased continuously to over 18% by mid 2010s.
6. The total employment in enterprises approved by the BOI increased from about 11,000 in 1980 increased to nearly half a million by 2015.
7. The share of foreign invested enterprises in total manufacturing exports increased from 24% in 1977 to 80% in mid 1995. The share of BOI approved enterprises in total manufacturing exports ranged from 80% to 92% during the period 2002 to 2019.
4. The share of developing countries in world manufacturing exports increased significantly in 1970s and thereafter. From 10% in the 1970s it increased to over 50% by the late 2010s. Sri Lanka’s share of manufacturing exports from that of all developing countries increased from 0.02 % in 1976 to over0.28% by early 2000s.
Source; “Rethinking Sri Lanka’s Industrialization strategy” Prema-chandra Athukorale.
The NaPID does a similar analysis of the ups and downs experienced by the sector during the different Policy regimes and concludes as follows;
“LEARNING FROM THE PAST: IMPORT SUBSTITUTION VS EXPORT- ORIENTED LIBERALIZATION. Over the last 7 decades, since Sri Lanka claimed independence in 1948 Sri Lanka has experimented with a wide variety of trade policy regimes – from open, ‘non-interventionist’, free market policies (1948-to 1959/60) through dirigisme import substitution industrialization (ISI) (1960-1977) to export oriented liberalization (post-1977). There is a large body of literature attempting to make an in-depth and systematic assessment on past trade policies and industrial strategies adopted over the last seven decades. A closer examination of this literature has revealed there are mixed views on which strategic trade policies have delivered desired results. Trade policy regimes adopted by Sri Lanka can be divided into the following two components:
1. Import Substitution or inward oriented trade policies.
2. Export oriented or outward oriented trade policies.
In theory, these two policy options when put into practice are distinctively different from each other.
1. Import Substitution and performance from 1960-1977
Import substitution, a term both descriptive and prescriptive- is one of the development economics frameworks largely pioneered in the 1950s by economists Raúl Prebisch, Gunnar Myrdal, W. Arthur Lewis, Albert Hirschman, and Ragnar Nurkse. The key policy aspects focus on imports and exchange controls, using tariffs for protection of domestic industries on the basis of infant industry arguments. The key thrust to the strategy was an assumption that replacing imports would reduce dependence on imports and set the stage for self-sustained growth. Thinking that these policies would be beneficial, Sri Lanka pursued a state-led import- substitution development strategy beginning from the 1960s and this foreign trade strategy prevailed in most of the 1970s, making the Sri Lankan economy one of the most restrictive economies until 1977. “By the mid-1970s the Sri Lankan economy was one of the most inward-oriented and regulated economies outside the communist bloc, characterized by stringent trade and exchange controls and pervasive state interventions in all areas of economic activity.
In terms of the performance achieved during this closed economic regime it has been pointed out that Sri Lanka encountered a range of economic setbacks. Inflation, unemployment and poverty were rising; Sri Lanka was facing severe pressure due to a widening trade deficit which emerged in the mid-1970s. The situation in the external sector further worsened.
Immediately after the first oil shock in 1973, to which government responded by introducing more stringent measures, increasing controls on imports. The unsustainability resulting from these inward-looking protectionist trade and industrialization policies led to a regime change in 1977, with a landslide victory for, a pro-western, market-oriented right-wing government.
2. Export- Oriented trade liberalization policies from 1977 to 2003
As a response to the poor economic performance of inward-looking import substitution policies, in 1977, Sri Lanka embarked on a comprehensive economic liberalization process, introducing a landmark economic reform package. It became the first country in the South Asian region to introduce a set of policy changes introducing a far-reaching trade liberalization reform agenda. Accordingly, the first wave of trade reforms implemented during 1977-79 included the replacement of quantitative import restrictions with tariffs and the revision of the tariff system to achieve greater uniformity; the reduction of foreign investment restrictions with new incentives for export-oriented foreign investment under the attractive Free Trade Zone (FTZ) scheme.; financial reform and the adjustment of interest rates supported for exports to grow more positively. In order to further strengthen the outward orientation of the country, Sri Lanka implemented a second trade liberalization package in 1990. The key elements of this reform package included Government privatization programs, simplification of the tariff structure with further tariff cuts and removal of restrictions on current account transaction, and several important changes to foreign investment policy. An export-oriented open trade regime dictated the industrial development agenda, which remained in place until the late 1990s.
An assessment carried out by World Bank in 2004 on Sri Lanka’s economic performance during the reform era stated that ‘It would be hard to find a more convincing case of trade and industrial transformation of a small island economy through market-friendly policy reforms’. By the late 1900s, the Sri Lankan economy was considered as one of the most open economies in the developing world”. (Sources: Industry Diagnosis Report. Pages 90 and 91).
Recent decisions by the Government in response to the spread of COVID, and the severe dearth of Foreign currency even for financing the import of essential raw materials required for industry, appear to lead the country slowly but surely to the recreation of the closed economy model that prevailed in the pre 1977 era. The recently released “State of the Economy 2021” publication by the Institute of Policy Studies of Sri Lanka, refers to these developments as follows;
“Recently Sri Lanka started to use Restrictive Trade Policy Tools to mitigate the COVID 19 induced Foreign Exchange crisis. Various forms of quantitative restrictions and Tariff increases were used to discourage imports. For instance, in April 2020 imports of 750 products at eight digit HS code, worth US 1,353 million at 2019 import prices were suspended temporarily. Additionally, imports of 634 products at eight digit HS code worth US$ 3232 million at 2019 import prices were subjected to the requirement of a credit facility of three months.” (Chapter 4 page 67)
The detailed analysis in Chapter 4, clearly demonstrates that import restrictions are not the solution to the problems it is supposed to solve. The analysis which is too lengthy to reproduce here concludes “Hence inward-looking Policies will not solve the Forex crisis but aggravate it, resulting in additional costs like domestic monopolies, rent seeking quotas, corruption in granting licenses, encouraging black market and smuggling activities and opening the door to retaliation from trade partners.” (page 68).
The door to retaliation referred to in the final part of the above quote was opened recently as predicted, when the EEC issued a statement that it cannot accept for long, the recent restrictions imposed on imports, from the EU countries too, when the latter keeps assisting exports from Sri Lanka to the EU countries via the GSP + scheme.
Much of the same empirical and research data referred to above, supporting the view that an export led industrial Policy together with a liberalized Trade Policy has and will best serve the growth of the industrial sector, is included in the Industry Diagnostic Report accompanying the IaPID. The IaPID however, does not make a categorical statement that an Export led, Liberalized Trade Policy will be maintained throughout the currency of the proposed Policy. What is proposed is a “Mixed Economy” with selective import substitution, picking of winners and export orientation. While specific intervention in support of import substitution projects, exceptionally selected, can be justified for reasons such as those set out on page 9, the extension of state support for winners (euphemistically referred to as “thrust” industries) picked by committees of whatever composition, is not only a misallocation of state resources, but also a cause of confusion in the market.
4. Role Of Government
The sections quoted above from the “Industry Diagnosis report” makes it clear that the Task Force has, as a lesson learnt from the past experience of Sri Lanka, concluded that the Export oriented trade liberalization Policies in the post 1977 period had a significant beneficial effect, inter alia, on the growth of the industrial sector, while under the import substitution Policies “Sri Lanka encountered a range of economic setbacks, inflation, unemployment and Poverty were rising”. The report also states that an assessment carried out by World Bank in 2004 on Sri Lanka’s economic performance during the reform era stated that ‘It would be hard to find a more convincing case of trade and industrial transformation of a small island economy through market-friendly policy reforms”. By the late 1900s, the Sri Lankan economy was considered as one of the most open economies in the developing world”. It concludes stating that “several empirical studies have shown that outward-looking export promotion strategy has produced better results in accelerating the manufactured growth in contrast to import substitution strategy”. (page 96)
The NaPID , based on the findings of the Diagnostic study, has in Section 4 of the Policy document set out nine “Policy Principles” which captures the essential purpose of the Industrial Policy. The second of these nine principles is the following. “Competitive integration with international markets”, which objective was submitted by the writer as the preferred direction of the NaPID. It will be noted that the implementation of this principle viz. “Competitive integration with international markets “can be effectively implemented only against a framework of an export oriented, open economic developmental policy regime being already in place within the country. In terms of this model, the state is expected to play a non-interventionist role, focusing mainly on the task of creating and maintaining a conducive environment for industry to function. The state, under the export oriented economic model, was not expected to pick winners by which is meant, the selection of industries for investment, by the state ( ie.by Bureaucrats).
In this context it is interesting to read what the Task Force has to say about potential interventions by the Government in general, and the picking of winners, in particular.
“Overall Learnings Government Intervention
‘‘There are two types of interventions; functional interventions and selective interventions. While functional interventions are designed to remedy generic market failures without favoring one sector over another, selective interventions are designed to remedy market failures for specific sectors/industries. Functional interventions are often preferred to selective interventions because of the risks (of “picking winners”) associated with the latter. It should, however, be noted that economic theory provides valid arguments for selectivity under certain types of market failures. Therefore, the challenge for the government is to balance between the two extreme approaches of “hands-off inaction” and “weighty interference”, but instead, one based on well-reasoned selective intervention. According to the World Bank, in order for national industrial policy to be successful, it is necessary to have three sets of factors viz. incentives, capabilities, and institutions. Governments may wish to intervene by slowing down the contraction of declining industries or speeding up the growth of new emerging industries, especially if there are strong compelling national reasons to do so. Even then, the rationale for selective interventionist industrial policy should be as transparent as possible. The best form of governmental facilitation is to dismantle and minimize barriers and obstacles in industrial development.
Market Mechanism Combined with Government-led Planning
“The appropriate economic regime for developing countries is neither a complete reliance on the market mechanism nor a return to the state-led economic planning. Therefore, government and market to be properly combined for each development task in a country like Sri Lanka where international competitiveness is lacking and markets are underdeveloped”.
(Page192 of the Industry Diagnostic Report).
The Task Force takes the view that “there may, however, be certain “thrust” industries and import substitution activities selected by the government for special assistance and protection. “Governments in many industrializing and industrialized countries in Asia and elsewhere have adopted such measures without harming an overall enabling policy environment. The primary goal of a policy regime that envisages effective and sustainable industrialization should focus on the establishment of a pro-competitive business and policy environment, within which there might be thrust sectors selected for different economic, political and social reasons”. (page 2 of the NaPID).
It is seen from the above that the Task Force has no objection to functional interventions by the state. However, specific interventions, the report states, should be resorted to only under certain types of market failures, and when resorted to, should be transparent as possible. The report also points to the need to steer a course in between what it calls “hands off in-action” and “Weighty interference”. Is the picking of winners “weighty interference”? The Task Force is of the view that the appropriate economic regime for developing countries, is neither a complete reliance on the market mechanism nor a return to the state-led economic planning. The challenge is to strike a balance in the middle specially, in functioning democracies where the Politicians have to go back to the people periodically and win their support in order to remain in Power. Consequently, politicians are under tremendous pressure to please their voters. What is the likelihood that a decision by this Government or any other Government, for that matter, to specifically intervene, will be a rare instance of Politicians acting in a bipartisan manner?
Our own experience, under Governments of different hues has demonstrated that the likelihood of “Politics” influencing the decision to specifically intervene is more than a Risk. It is an event that is very likely happen. Its occurrence in fact, is envisaged and provided for specifically, in the draft Policy document. A careful reading of the last sentence of the above paragraph, will confirm that. One cannot think of a defensible and objective rationale for proposing “Political reasons” as a criterion for selecting thrust industries.
That aside, although advocates of a liberalized Policy Regime may object to the state being permitted to specifically intervene even in exceptional circumstances, there may be occasions that warrant such intervention. Let me cite two such examples. Sri Lanka annually imports approx: 600 metric Tons ( 2019 /556 MT and 2020/ 683 MT)of sugar into the country annually spending in excess of Rs 51.billion in doing so. There are locations in Sri Lanka where climatic conditions are ideal for the growing of cane. There has been a state sector investment into the manufacture of sugar in the past. That enterprise has not been a great success perhaps due to legacy problems referable to Government ownership. The manufacture of sugar may be a profitable venture if the private sector owns and operates it. If so, advocates of the import substituting economic model may raise the question, as to why the private sector has not shown interest in investing in this industry. The answer may lie in the nature of the project. A project to manufacture sugar is very likely to be one with a significant Capital cost. The locally manufactured product will have to be sold at the price at which the imported product is sold. It is said that growers of beet, feeding the sugar producers in Europe are heavily subsidized by their governments resulting in the sugar that is exported being sold at prices, local manufacturers may not be able to match. In other words, the product is being technically dumped into our market. However, If all of the above factors are fully investigated and a financial appraisal based on the conservative assumptions ( such as, maximum yields from the cane farms and optimum efficiency in the production can only be achieved in the third year of operations) shows that the project will break even only in the third year of production, and private sector investors may not be enthusiastic to commit substantial Capital to set up the project. In such a situation if the Government decides to make a specific intervention to support the project during the first three years, would that be objectionable for the reason it is an import substituting project or that there is specific intervention by the government?
There are also significant economic benefits such as; being a source of income to small holder farmers growing sugar cane, saving of foreign currency, that support the promotion of the project.
Consider the case of milk powder being imported into the country. Sri Lanka annually imports approx. 95 million Tons of milk powder spending in excess of Rs 58 billion in doing so. There is no reason why we cannot expand our dairy industry especially in the upcountry estate areas and be self- sufficient in milk. Milk production in the country is on an upward trend during the last few years. However, based on the average annual growth during the last few year, it will take us many more years to reach self-sufficiency. Would direct intervention by the Government via the introduction of incentive schemes to accelerate the growth of the dairy industry be objectionable on the ground that it is an import substitution project or for the reason there is specific intervention by the Government? These two instances demonstrate that one should not be dogmatic in holding on to a particular ideology but be flexible enough to support ideas and projects that are structured on a different economic model, provided they are in the best interests of the country.
The Industry Diagnostic Study refers to the outcome of an exercise to select priority sectors that displayed potential for growth, as published in the “Vistas for Prosperity and Splendor” document. The priority sectors identified were broadly categorized under eight headings such as; Industries related to Food Security, Industries that can harness least used resources etc. A more systematic study carried out in the course of preparing the NaPID, by a Study Team using a panel of consultants is also detailed in the Industry Diagnostic Report. In this instance the consultant panel had used 34 comprehensive selection criteria organized under four different categories. Viz Growth potential, Competitiveness, Intervention potential and Sustainability. These criteria took into account the need to move away from high labor- intensive sectors to technology driven sectors, and from traditional primary products to non-traditional industrial products which were also likely to generate a demand from markets overseas. The selection process included discussions and seminars with focus groups so that the whole exercise was in the nature of a public/private collaboration project. However, the selection of a large number (25) as thrust industries conveys the impression that the selection process was not as restrictive as envisaged. It is also likely to result in the selection process becoming political with many more industries canvassing to acquire the thrust industry status. A regular procedure for selecting thrust industries by the awarding of marks and weightages to theoretical criteria, and conducted by bureaucrats is just what should be avoided.
The Korean experience of the success achieved by some “Winners“ selected by the state, is often sited in support of the practice of selecting winners by the state. However, Professor Athukorale in his paper referred to earlier, shares the following views on the subject.
“When talking about sector/industry specific approach to industrialization, we should not forget the fact that the Post-World War II economic history of developing countries, including that of Sri Lanka, is littered with cases of costly failure. Or course there were a few seemingly successful cases in some countries, but the available evidence clearly supports the view that these ‘successes’ were rooted in three fundamental traits of the industrialization policy regimes of these countries. First, the incentives given to the specific industries were strictly time bound; second, export performance requirement was strictly imposed on the beneficiary firms; and thirdly selective intervention was undertaken in the context of an overall economic setting that was conducive for private sector operations. It is pertinent to quote here the founding father of the Korean economic miracle:
“The economic planning or long-range development program must not be allowed to stifle creativity or spontaneity of private enterprises. We should utilize to the maximum extent the merit usually introduced by the price mechanism of free competition, thus avoiding the possible damages accompanying a monopoly system. There can be and will be no economic planning for the sake of planning itself’ Park (1970, p. 214).” (page 29.Rethinking Sri Lanka’s Industrialization strategy. Prema-chandra Athukorale)
Specific interventions have been justified in instances where a potentially high performing industry has been identified by an entrepreneur who has proceeded to setup the project on his own initiative. Having realized the enormous opportunity to expand capacity and not having the resources to do so himself, approaches the government for assistance. The government seeing the high potential for growth decides to intervene and provides assistance to expand the industry. In this instance the Entrepreneurial Risk had already been taken by the investor without any assurance of support by the state. Assistance by the Government in this instance, it is submitted, will not be a case of the state picking winners.
The Garment industry in Sri Lanka is a good example of this model. The garment industry started on its growth path when two 30 year old businessmen from Sri Lanka were able to convince a 50 odd year old businessman-Martin Trust from the United States of America to end his search for a suitable location to set up a garment manufacturing facility, by choosing Sri Lanka as his preferred location. Having realized the huge opportunity to expand capacity some industrialists approached the incumbent President at that time for assistance. The president realizing the huge potential for growth of the sector and in particular the potential for creating employment specially in the Rural areas of the country, initiated the 200 garment factory project extending an attractive incentive package for private sector investors. The industry which was looked down in its early stages by skeptics is now the highest export earner for the country. What started as tailoring shops transformed themselves into environment friendly, elite, energy efficient factories any country could be proud of. Thomas. L Friedman, the Pulitzer prize winning foreign affairs correspondent of New York Times, in his celebrated book “The Lexus and the Olive Tree” expressed his impressions of the cleanliness of an apparel factory he visited in Sri Lanka, by stating “You could have your meals off the floor of this factory”. The apparel sector is therefore a good example of how Government can help exploit the potential in a sector which has already been identified by an entrepreneur.
A lesson to bear in mind in case an industry already started by an industrialist, showing significant scope for rapid growth, comes up with a request for recognition as a thrust industry, or for specific assistance from the Government, is to ensure that in the restructuring of the project, the Government should never assume the role of the principal sponsor of the project. The financial risk in the project should not be largely on the Government. This not in any way a reflection of the incapacity of the Governmental nominees on the Board of that Company. It is because a Government that is elected by popular vote, cannot play an entrepreneurial role and take commercial decisions, that may not be popular.
Before concluding this section on the “Role of the State” I must draw attention to a thought provoking article contributed by respected Economist Dr Godfrey Gunatilleke, under the title “The Krugman-linked Economic Policy discourse” (Daily FT. Friday October 08, 2021). Dr Gunatilleke points out that although the two Political Regimes that alternatively shared Political Power, during the 72 year post independence period, were each identified rigidly, with either the Capitalist or the Socialist model, in fact, the era produced an overarching Policy mix in which the two Politico-Economic models co-existed with shifts in emphasis as one party succeeded the other. The Sri Lankan development strategy incorporated elements of both Capitalistic and Socialist models along with changes of Government”.
Dr Gunatilleke, deals extensively with the views expressed by Economists of international repute on the Role of the State in economic development. He refers to Krugman’s “basic premise of an economic model, in which the state plays a proactive role in providing the macro Policy framework of development goals and values within which the market functions. This is the normative approach and presumes a vision of the good society and a value system from which the goals are derived”. This sounds similar to the direction setting role assigned by the Task Force to the Sustainable Development Goals, dealt under section 3 of this paper.
Dr Gunatilleke refers to the “interminable and inconclusive controversy” that rages between proponents of the free market, minimalist state model and advocates of the normative approach in which the state is assigned a proactive role in providing the macro policy framework of developmental Goals and values within which the market functions.
Although one can appreciate a Role for the state, in providing a macro economic framework of development goals and more particularly “values”, when devising a model for directing and managing the Economy as a whole, how relevant would “values” be when directing the path for development of the industrial sector? The values would constitute rules for passive compliance rather than an active force that drives the industrial sector to reach a defined Goal.
5. Contents Of The LaPID
The LaPID document has been well presented with much clarity on the methodology followed when conducting the diagnostic study. The sequencing of the different sections of the report, follows the same logic used by the Task Force to conduct the study. The report proper starts (Section 3.2) with the “Rationale” justifying the high priority accorded to growing the industrial sector and hence the need to prepare the Industrial Policy document. The section also draws attention to the fact the Policies to be formulated need to meet the requirements of the 21st century. Accordingly, it highlights the need for the newly emerging industrial sector to be clearly embracing Green growth and digitalization.
Section 3.4 that follows, states that the Objective of the Industrial Policies is to enhance the Competitiveness of the industrial sector and to overcome impediments to industrial developments in Sri Lanka, including Green growth and digitalization.
What is meant by “enhancing the Competitiveness of the sector” has to include the sector’s ability to operate in the global market. An explicit mention of what is meant by “being competitive “is desirable.
Section 3.5 sets out the Direction and Context of the Policy. It states that the basic elements of the Policy will cover three things. Viz (a)The National Policy priorities of the Government, (b) relevant aspects of the sustainable development Goals and (c) the need for industrial transformation into Green growth and Digitalization.
The National Policy Priorities of the Government is equated to what is stated in the Election Manifesto of the governing Part viz “Vistas for Prosperity and Splendor”. The objections to the adoption of the priorities extracted from this document as “well as the “Sustainable development Goals” document are detailed in Section 2 of this paper. The alternate suggestion for adopting the Goal of “The local Industry to Integrate itself with the Global Industry” is strongly recommended for adoption.
Section 4 of the IaPID explains the Policy principle underpinning the Policies formulated.
They are most appropriate and contains almost all of the basic principles on which a carefully crafted set of Industrial Policies are built. It must be noted that the second of the nine principle adopted is “the Competitive integration with international markets” which is identical to the new “Direction” proposed by this writer. (pl see Section 2 ).
Section 5 of the IaPID sets out what is referred to as Policy Statements. They are in fact a logical follow up of the Policy principles dealt with in the previous section. Each Policy principle is expanded upon by stating what will be done and how it will be done to implement the relevant principle.
A drawback I see in this section is that the statements are too generalized. That drawback is also seen in the following section which is titled “Policy Goals.” This section (Section 6) is a follow up from the previous section viz the Policy Statement section. Policy Goals refer to the outcome expected from the Policy Principles and the Policy Statements dealt within the previous two sections. Let me illustrate this observation, by referring to the first Policy principle on page 8 of the IaPID.
The first Policy principle mentioned in Section 4 is “Enabling Environment for Industrial Growth”. This principle is amplified in the next section as a Policy statement in the following manner.
* Ensure coherence and consistency of public policies to support a long-term strategic orientation.
* Maintain a domestic policy and regulatory environment conducive to industrial growth.
These statements, it is respectfully submitted, are too vague for effective follow up. The statements are followed by Policy Goals. The Policy Goals in respect of this principle of “Enabling Environment for Industrial Growth” are as follows;
* Ensure coherence and consistency of public policies to support long term strategic orientation
* Ensure auxiliary policies in areas relevant to industrial policy are consistent with the Industrial Policy.
* Ensure that policies, regulations and procedures do not discriminate between domestic in Industry and foreign direct investments.
* Maintain a domestic policy and regulatory environment conducive to industrial growth.
* Establish investor friendly policies and conducive investment and regulatory environment.
* Strengthen the institutional environment and inter- & intra-organizational coordination
* Ensure improved labor market efficiency and flexibility in the context of modern-day human resource requirements.
* Widen access to finance and financial products.
The Policy Statement in this instance as quoted above is – Ensure coherence and consistency of public policies to support a long-term strategic orientation.
Public Policies are numerous and cover a wide range of subjects. It would have been helpful for follow up purposes if the specific areas of Public Policy were identified.
The Policy Goals for this same principle are;
* Ensure coherence and consistency of public policies to support long term strategic orientation
* Ensure auxiliary policies in areas relevant to industrial policy are consistent with the industry.
* Ensure that policies, regulations and procedures do not discriminate between domestic industry and foreign direct investment.
* Maintain a domestic policy and regulatory environment conducive to industrial growth.
* Establish investor friendly policies and conducive investment and regulatory environment.
* Strengthen the institutional environment and inter- & intra-organizational coordination.
* Ensure improved labor market efficiency and flexibility in the context of modern-day human resource requirements.
* Widen access to finance and financial products”.
These Policy Statements and Policy Goals are, it is respectfully submitted, too vague to enable those who are to map strategies for their implementation, to do so effectively.
6. A Summary Of The Conceptual Issues Raised
A summary of the conceptual issues raised in this paper ( Sections 2 to 5) is given below.
1. The policy proposals included in the NaPID, are meant to drive the industrial sector to achieve the priorities contained in two documents viz (a) Vistas for Prosperity and Splendor and (b) Sustainable Development Goals and the need to advance towards Green Growth and Digitalization. While the priorities in the two aforementioned documents may be appropriate for the purposes they were designed, they are, for reasons detailed in section 3, inappropriate and unsuitable to be the directional force that shapes the content of industrial policies. The proposed industrial Policy should direct the industrial sector to integrate itself with the global industrial sector.
2. The preponderance of evidence and data contained in several independent studies as well as the “Industry Diagnostic study “conducted under the aegis of the Task Force itself, points unequivocally to the market driven, liberalized and globally integrated model as the preferred path for achieving industrial growth, and economic development. However, without citing any empirical data in support, the Task Force proposes the adoption of a Mixed Economy model, by the Government.
3. The Role of Government should not, other than in exceptional circumstances, extend to the picking of winning industrial sectors for investment. The Government should not play an interventionist Role in guiding the destinies of the Industrial sector. The practice of selecting thrust industries by Government officials and/or consultants should not be adopted.
4. Import substituting industrial projects and projects seeking direct interventional support by Government on infant Industry considerations, may be supported by Government on an exceptional basis provided such assistance is strictly limited for a specific period, within which period the industry must become internationally competitive. The Risk of course is the propensity for some of these industries to grow into what one of our distinguished past Governors of the Central Bank, the late Mr.A.S.Jayawardene, referred to as “infants with beards”.
The draft IaPID is a well-structured document, based on the findings of a comprehensive Industry diagnostic study conducted under the aegis of the Task Force. It can play a lead Role in taking the industrial sector to another level, provided some fundamental assumptions that appear to be based on Political considerations rather than on past experience or cogent reasoning, are removed and replaced by assumptions based on the single criterion of “what is best for the sector and the country”.
* Ranjit Fernando – Former Secretary to the Ministry of Industrial Policy, Investment Promotion, and Entrepreneurship development, and former Director/CEO of The National Development Bank of Sri Lanka