Posted on Wednesday, 01 April 2015 16:10

Free markets, deadly competition and an Ethiopian choice

By Merkeb Negash Senior researcher, Ministry of Foreign Affairs, Ethiopia

Developmental states reject the free-market model of development because they do not have the advanced-world assets to compete on a level playing field.

For example, despite rock-bottom wages, solid education systems and good infrastructure, Taiwan and Korea had their textile industries devastated by Japan until the 1960s.

Even in labour-intensive industries, emerging markets had no comparative advantage since cheap labour was no match for the technology and marketing finesse of advanced countries.

Free markets simply meant deadly competition.

Thus began their adventurous task of 'getting the price wrong' to stimulate industrial transformation.

Where those countries had a potential comparative advantage, as in textile manufacturing, the state provided incentives, privileges and tariffs to induce private-sector investment.

In sectors where they did not have a comparative advantage, the state had to substitute for, rather than complement, the private sector, and then undertake the task of industrial transformation itself.

In an attempt to replicate the East Asian miracle, Ethiopia has adopted and adapted the industrial policies of successful developmental states.

The strategy of mobilising incentives and disincentives to induce investment is most vividly observed in the textile sector.

On the other hand, the state's policy of import substitution in strategic industries is best reflected in the army-owned Metals and Engineering Corporation (METEC).

Together, these two sectors capture the Ethiopian state's project of export promotion and import substitution, and the state's role as both referee and player in the transformative project.

Ethiopia's growing economy, infrastructure boom and huge market, together with its cheap labour and abundant land suitable for cotton production, give it a potential comparative advantage in textile production.

The key to industrial transformation, however, remains the classic midwifery role the government is playing of inducing investment decisions and stimulating the supply of entrepreneurship.

The result has been an impressive growth in production and an influx of foreign direct investment. From the vibrant domestic textile industry to the newly arriving Turkish and Chinese conglomerates, Ethiopia is turning into a huge textile factory.

From Austria and France to Brazil and India, governments have used state-owned enterprises to engineer their industrial developments.

It is with this imperative that the Ethiopian government established METEC in 2010, in response to an urgent need for import-substituting industries in the engineering sector and a weak response from local and transnational capital.

There are, of course, risks to this strategy. For example, once persuaded to enter a sector, firms require cultivating, nurturing and prodding to move ahead as the sector changes.

While doing so, the state needs to be wary of being captured by the very groups it has helped create.

And where the state engages in direct production, it should engage only in areas where there is a pervasive market failure and in sectors congruent with the talents of the state.

The problem is that a state firm created to carry out endeavours apparently beyond the capacity of local capital may end up competing in sectors where no such rationale applies.

Worse still is if state firms take away profitable territory from the fragile private sector.

Not only does this squash local entrepreneurs but it also damages the state's legitimacy in the eyes of the private sector, whose support and partnership is vital to the transformative project.

METEC's expansion into the textile, plastic and hotel industries are manifestations of this danger.

As METEC grows bigger and stronger, Ethiopia's leaders should be wary of not being able to control and discipline this emerging giant. ●

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