Philippe Legrain

In a thoughtful comment on my recent Doha post, Matthew argues that

It is simply not the case that the enormous growth of the Asia tigers
is evidence of the efficacy of free trade because most of those
economies were protected behind trade barriers and currency controls
for most of their development and still are.

I started replying in a comment, but then I thought the subject was so important that I would start a new post about it instead.

I think that China and India are very powerful examples of the benefits of liberalisation: before they started their reforms, growth was slow, but as they have opened up their economies, growth has accelerated. Just because they still have some tariffs in no way implies that their faster growth stems from this residual protection: if it did, the increase in growth would surely have preceded liberalisation, which it did not. Critics claim that if developing countries lower their tariffs they will be giving up their chances of development – yet China’s markets are already far more open than those of most developing countries and it is thriving. I think China’s decision to join the WTO was a powerful signal that its leaders believed that to sustain economic growth, the country needed to liberalise further, as indeed it has done.

But what about South Korea? Undeniably, it has protected some of its export
industries. Undeniably too, it has grown in leaps and bounds. The
question is: did the trade protection cause the growth?

Not necessarily. South Korea might
have succeeded despite the trade protection, or the trade protection might
have had little effect at all. Observing that tariff protection
preceded development does not in any way demonstrate a causal link. Saudi
Arabia has grown rich while protecting its industry behind tariff walls,
yet the source of its prosperity is soaring oil prices, not
infant-industry protection.

In an exhaustive study of South Korea’s experience for the Institute for International Economics, Marcus Noland and Howard Pack find that

the weight of the evidence derived from both econometric
and input-output studies… indicates that industrial policy made a minor
contribution to growth in Asia… Countries with less dedicated and
less competent bureaucracies and policymaking apparatuses that are more
amenable to lobbying pressures could expect even smaller net benefits.

They conclude that governments would do better to focus on measures
other than selective industry protection to foster development. Along
with sound macroeconomic policies,

Growth-enhancing measures in the Asian countries, which did
not differentiate among sectors, included large expenditures on primary
and secondary education, the building of large and efficient social
infrastructure, a favourable attitude towards technology transfer,
including both technology licensing and direct foreign investment, and
a substantial investment in public technology institutions.

The bottom line is that South Korea’s success does not support the
critics’ faith in state-led development through infant-industry
protection – and developing countries should not mistakenly try to
follow that path today.

Indeed, if a government protects the domestic market, by definition a local
company can sell at a higher price in that market that it can abroad.
Selling at home becomes much more profitable than selling abroad. So import
protection creates a strong incentive to focus on the domestic market
instead of exporting on the world market.  Other things equal, then,
protecting an industry is unlikely to turn it into a world-beating
exporter. South Korea got round this by providing cheap loans and other benefits to
exporters – giving companies an offsetting incentive to sell abroad –
and by cutting off those loans if the companies were not successful on
the world market – thus allowing the market, not the government, to pick
winners. In crucial aspects, then, the South Korean system mimicked many of the advantages of a free-trade environment.