Growing, Mining, and Making Stuff: Primary Products and Industrialization

Primary Products Post-Independence

Why Did Countries opt for this?

• Primary commodity trading meant staking well-being on interdependence instead of going alone

– But being involved and trading meant being recognized and thought about

• Even in 1960, remnants of colonial trade order remain

– Most trade within first or second worlds

– Third World almost exclusively with first

• By 1992, Third World still mostly sold primary products to First World, but First World only imported 8.5% of its total imports in primary products from 3^rd World

– On the other hand from 68-88, 3^rd world increased their spending on imports 12x, while non-fuel prices only increased .7x (meaning same income, more spending)

– This has changed post-1990, as geography of manufacturing shifted to middle/lower income countries

Primary Problems

• Engel’s Law – As people get wealthier, can only eat so much food, rest of $ has to go to manufacturing and services

– Thus food has relatively low elasticity of demand in that the demand stays more relatively constant regardless of price

• So if price drops, people will not eat that much more

• Even though efficiency in manufacturing has improved greatly, most manufactured products have also become more complicated (thus expensive)

– Harder to get big improvements in primary products, and if you do, it depresses prices

• Also, primary production levels are pretty static and take years to change – when demand is high, too few producers; when low, too many

– Makes boom or bust

More Primary Problems

• Tend to specialize in primarily in three or less products

– Also tend to send most to just a few customer countries (excepting SE, E Asia)

– This means highly dependent on a few markets

• Primary Products also not as easy to make unique and add value

– Because of strong competition in most commodities, if an individual producer raises prices a little, could drop their sales dramatically

– Also, rich countries can build reserves to fight rising prices

– Fair trade and organic are attempts to add value

• Primary production producers, b/c they depend on narrow types of trade, have relatively less power in trade negotiations

• Most also have labor surpluses, so wages don’t rise quickly

Trade & Tariffs

• Types of Trade Agreements

– Bilateral

• Between countries

– Regional

• NAFTA, EU

– Commodity

• OPEC, Multi-Fiber Agreement

• Tariffs

– Ways to increase prices of goods/raise revenue

• Exports rarely taxed – would make them less competitive

• Non-Tariff Barriers

– Quantitative: Import Quotas, Banning, States requiring domestic contractors

– Regulatory: Import licensing, Limiting foreign % of domestic products, environmental, health & labor standards, subsidies to domestic producers

• Regulatory NTB’s are especially hard to fight with limited resources; make it hard to increase share

South to South Trade

• Only a major factor within the area of East/Southeast Asia

– Partially because China takes in so much stuff to manufacture things.

• Problems:

– Many Third World countries also have high tariffs

– Neighbors usually dependent on similar, primary exports

• Thus South South trade blocks don’t often add much

– ASEAN now has relatively richer, and relatively poorer countries

Industrialization

• Despite trade theories, 3rd world states and elites have always looked to industrialization

– More specifically, manufacturing (making stuff)

– So far, only a few NIC’s (Newly Industrialized Countries) went from poor, agriculture, to industrially quasi-wealthy

• Malaysia, Thailand, Indonesia are current contenders

– Taiwan, South Korea, Singapore, Hong Kong older NIC’s, more evenly distributed incomes

– Vietnam, Philippines on some lists

– Brazil, Mexico, Argentina, also manufacture

• China (lesser extent India) is of course also rapidly industrializing, so large effects take longer to go through population

• Ignores the small scale “local shop” (clothes, shoes, furniture, repair) manufacturing that goes on in most countries, that is part of “informal sector”

How did industrialization happen in West/Japan?

• Japan, Germany, United States, the 20^th century industrial powers, did it through tariffs to protect local industry until it is strong enough to trade freely

– Japan still does, gets criticized

– South Korea, Taiwan also adopted these policies

• Post WWII, U.S. economy was “Fordist” mass production + high wages for workers to buy the mass produced goods

– Government also subsidized creation of suburbs by building highways – this led to demand for construction, housing, furniture, appliances, etc.

– Military spending also a huge

– Sustainable as long as increasing efficiency made up for higher wages (afterwards debt is needed)

• Europe used welfare states to insure a minimum level of consumption

Post-Fordism

• Post-1973 Western Europe and U.S. saw decline of Fordist production

– Oil shocks transferred a lot of wealth to oil producers

– Japan, other producers increasingly more efficient at manufacturing

• Also more cheap manufacturing overseas

• Loss of industrial jobs, economic slowdown

– Cost of oil, economic slowdown in West caused commodity profits to drop for primary product producers

• Took out loans to make up for shortfall; projects never produced enough income to pay back loans

– This is the debt crisis

– Now a bifurcated service sector dominates economy (with two groups: well-paying with high skill; low paying with low skill)

Second World

• Organized in COMECON trading block (Eastern Europe to Soviet Union)

• Focused much production on capital goods, not consumer goods

– Missed the great growth engine of the 20^th century

– This disparity in stuff really helped end communism

• Transport, productivity improvements lagged

– Almost no thought given to environmental impact

• Fewer cheap Third World raw materials to draw on

Obstacles for Third World Industrialization

• Small economic pie, with a handful of elites controlling most wealth

– Means there is little capital, much of it went abroad for better returns

– Low wages mean little need for domestic firms to innovate; small internal market

• U.S., Japan grew at expense of Third World; no one below Third World to exploit

• Already more industrialized countries than in 18^th century to compete with

– Now China, with its limitless supply of cheap labor and big territory (with improved transport) means there it will be very hard to out cheap them

• Although even China’s manufacturing growth is slowing down in this downturn (ie U.S. buys less)

• Also, in last few decades, most industrialization done by foreign owned firms, who do not reinvest profits

Product Life-cycle Geography

Different areas manufacture at different points

– Rarely do developing areas get in on most profitable end

• Initial Invention: Low profits, built by very skilled techs in creative center (universities especially)

• Innovation/Niche Market: Huge profits at beginning of larger market, employing skilled workers in already industrialized locations

• Established Market: Normal profits, competition leads to mass production, use of cheapest labor possible

• Decline: Closing factories

• Renewal: Goes back to step 1 or 2, back to richer areas

Industrialization Basics

• Essentially three sources of money: local elites, foreign investors, state

– Local elites not sufficient, foreign investors rarely care about territories, full state ownership was sanctioned by first world

• Two choices of markets

– Domestic: Often small

– First World, Foreign: Had to be of high quality, avoid tariff and non-tariff barriers

ISI (again)

• Strategy: Build domestic market, get more efficient, then compete on world stage

– Put up tariffs (imports expensive)

– Increase value of currency (discourage primary exports; make non-tariffed imports cheaper)

– Support current or potential manufacturers with loans or grants

• Brazil did well in pharma, steel, textiles, transport

– Size of markets forced some manufacturers to open branch plants in Brazil to bypass tariffs

• Most places tried to produce what the elite bought; benefits went to them and the small number of workers

• Actually increased imports due to new manufacturing’s need for capital goods, for which the market was even smaller domestically

Export Oriented Industrialization (EOI)

• South Korea and Taiwan are the prototypes, went from purely agricultural circa 1950 to wealthy-ish

– Went from pure ISI to flexible, creative EOI (with some ISI) around 1960

• Despite what some say, these two went against their “comparative advantage” to industrialize through the state creating new advantages

• In SK, state controlled the financial sector, made it subservient to industry

– Large industrial conglomerates (chaebols) were nurtured by state, given tax breaks if they exported

• Often involved in many industries at once

– Food prices kept low, unions kept out, low tariffs on capital goods

• In Taiwan, state owned heavy industry, grants to exporters; no-tariffs on capital goods not available in Taiwan, huge ones on what was available locally

• Both are small, coherent states w/ Cold War aid

– Also both did land reform which destroyed land owning elite

Export Processing Zones

• Attempt to get low wage areas manufacturing employment quickly, in absence of clever government

• Special zones for producing products for export only

• Have the following features

– Eased regulations for inputs for this production

– No tariffs, currency controls, or limits on taking away profits

– Subsidized infrastructure (roads, buildings, etc)

– Tax holidays of 5 to 10 years

• Essentially an example of extraterritoriality

• Big wave in 1970’s; 1990’s on borders, coasts, airports

– Asia has 66% of free zone employment; Africa 1%

– China, Mexico (maquiladoras), Dominican Republic have most, all geared towards U.S.

EPZ’s (cont.)

• Advantages are a cheap and compliant workforce

• Textiles and Small Electronics make up most of the manufacturing

• Women between 17 and 23 are 75% of workforce in these worldwide

• Factories are almost all foreign owned

– If workers get expensive or feisty, simply go to another zone

• Almost no effect on wider economy

– Only in cases where work is skilled enough, paid enough to create people who can create competitive local firms; or in China, where the factories use domestically produced inputs

• So many now, competition between them hurts all

Here some parts, there some parts, everywhere some part parts: Transnational Production

Transnational Corporations

• TNC – Owns facilities in more than one country for sales and distribution (or production) of its products

– Involves flows of capital and organizational control

• Investment done by TNC’s is Foreign Direct Investment

– Investment in facilities abroad over which the investor has a degree of direct control

• Pro: Can provide quick boost of cash, possible to spin off local firms

• Con: Hard to regulate b/c of flight risk, can crush local entrepreneurs

TNC history

• Before WWII, largest number were British or American, mostly in primary products coming from the third world/Canada

• Post WWII—1960 , America dominant, most manufacturing plants in other first world countries

• 1960 – 1980: Stagnation in investment

• Post 1980: Rapid expansion, Japan, Germany, rest of Europe get involved

– Japan most heavily in first World

– Late 1990’s SE Asia and China become major investment sites

• Now 1/3 of all trade between branches of a TNC; 70% of third world agricultural exports

– Cars, Petroleum traditionally at top; 1980’s and 1990’s electronics; now Wal-Mart, Carrefour, financial services

– Big ones are larger than the economies than most of the world’s countries

• Thus there influence is tremendous

TNC Geography

• Japan, U.S. involved in East, SE Asia

• U.S., Germany in Latin America

• France in West Africa

• Britain in Southern Africa

• Britain, U.S. in India

• Japan, China, South Korea in the Pacific

• Lower FDI in third world than first; but much of it now coming in manufacturing

TNC Geographic Strategy

• Geographical Expansion – Keep doing what you are doing, just in other places

– Lower production costs

– Avoid tariffs

– Find new market for production capacity

– Speed delivery or tailor products

• Geographical Specialization – Use different places for particular kinds of production

• Made possible by transport improvement, computers

– Computers, logistic networks allow even small factories to be efficient due to availability of real time information

TNC Geographic Strategy

– Allows JUST IN TIME PRODUCTION, meaning that very few parts or final products are warehoused for long

• Associated first with Japanese manufacturers

• Allows more rapid innovation, catching of mistakes, chasing cheapest parts, eliminates overruns, saves cost of warehousing

• Under specialization, get a “global production line” or “commodity chain”

– E.g. Components of one good get passed from design center, to high quality input maker, to low cost assembly center with lax government regulation

Explaining Growth of TNC’s

• How it beats local firms?

• Draws on resources of a large firm (capital, knowledge, research); other markets allow local branch to undercut competition at a slight loss

• Why not partner when strong local competition?

• More spread out, more places to avoid risk; place to put excess capacity

• How are locations selected?

– Depending on activity, include: access to resources, large market, cheap labor, stability, infrastructure, cultural/political similarity to home country

Schools of Thought

• Neo-Classical, Institutional, some Marxists – TNC’s operate more efficiently than international economy; promote development and indigenous capitalism, increase competition

• TNC opponents – TNC’s act monopolistically, use vast resources to create demand and overprice goods, reap monopoly profits, overwhelm local competition, all benefits to share holders/home country workers

• TNC as new phase of capitalism – TNC’s increase competition among oligarchic firms with mixed results

– Often this leads to agglomeration of industries– certain areas get concentrated in certain industries, including support industries for the oligarchs such as machining, marketing, research

• If this happens in manufacturing where profits are high, can be good

– China moved from making TV components for Sony to making TV’s

• However, if costs get too high, buildings too old, could de-industrialize (Detroit)

Multipliers and Profits

• Multiplier Effects – Idea that every dollar spent on salary/local supplies then gets re-spent in the local economy

– Most effective if it gets reinvested in new firms

• However, local firms are much more likely to buy locally produced inputs (though they don’t have to)

– However, if wages are low, process is simple, few multipliers

• Profits for certain are usually higher in activities in developing countries

– Often the negotiation of a good investment incentives (buildings, tax breaks, lax regulation) equals benefit of low wages

– However, possibility of nationalization, inadequate infrastructure, political risk (rather based on fact or perception) can outweigh potential profits