The power of ideas is more than theoretical. Some of the most successful development strategies are based on using imported ideas and creating new ones
Most economists tend to ignore the role of ideas as a critical element of economic growth. That is why development strategies typically focus on measuring labor and capital, on devising policies for the growth and efficiency of markets, and on determining the merits of various interventions to influence behavior.
But World Bank consultant Paul Romer's examination of what has actually worked in developing economies over the past three decades shows that progress often is not readily explained by such traditional analysis.[1]
Ideas enable people to combine finite resources in ever more valuable arrangements. Big ideas can make a major difference. The discovery of drought-resistant crops and the use of man-made fertilizer, for example, have driven famine from whole regions of the world. And millions of little ideas, such as better ways to sew a shirt, can turn a poor back-water village into a boomtown.
Thirty years ago, India, Mauritius, and Taiwan (China) were all very poor. Today, Taiwan (China) has left the ranks of developing economies. Mauritius, too, has prospered---its per capita GDP growth has been three times that of India.
These differences in growth rates should not be seen as simply reflecting different population growth rates. In Mauritius and Sri Lanka, the population growth rates have been nearly the same while their economic growth rates have diverged.
In these four economies, at least, there is also no direct correlation between economic growth and investment rates, literacy rates, or comparative work force education, as the table shows. Something else is at work here.
The overlooked but crucial factor in the growth of these economies is how they chose to use ideas imported from industrial nations and the emphasis they gave to creating new ideas for products that could be sold abroad.
In Mauritius, economic policy changes in the 1970s and 1980s made it attractive for entrepreneurs to put their ideas to use there. In Taiwan (China), ideas from the rest of the world were not merely applied to the local labor force---the government deliberately intervened to encourage the profitable export of "Made-in-Taiwan" ideas.
Why has Mauritius grown much faster than India or Sri Lanka? Quite possibly because the country adopted a policy of supporting an export processing zone (EPZ), an administrative arrangement with no geographic restrictions and no major additional investment in infrastructure.
The EPZ in Mauritius offered foreign entrepreneurs unrestricted, tax-free imports of machinery and materials, a 10-year income tax holiday, centralized government wage setting, and implicit assurance that labor unrest would not be tolerated. Also important: no restrictions were placed on the ownership of investments or the repatriation of profits.
Entrepreneurs arrived in Mauritius armed with ideas about the textile business---ideas that turned the island into a garment-producing center. They knew what equipment to use, how to run a small factory, what manufacturing techniques to introduce, how to establish effective relations with textile importers in the industrial countries, and how to exploit quota loopholes in those countries.
It was this knowledge that allowed Mauritius to grow faster than Sri Lanka, where investment in education was higher. Foreign expertise became the vehicle for enhancing local aptitude and putting it to use. Over the past two decades, jobs in the EPZ accounted for two-thirds of the total increase in employment. By 1990, the EPZ employed 90,000 workers, a third of the Mauritian work force.
Sri Lanka might invest heavily in education, but it has remained somewhat isolated from economically important ideas in use in the industrial countries. As a result, its potential for development has barely been exploited.
For small countries, it is important to encourage the production of ideas. It takes a relatively narrow range of ideas to start a particular industry, such as textile production. But once even a few fruitful ideas are in circulation, they can yield far-reaching results, as evidenced by the experience of Mauritius.
Taiwan has used a variety of approaches to encourage first the use and then the production of ideas. It moved from a development strategy based on import substitution in the 1950s and 1960s to export-driven growth in the 1970s and 1980s. More recently, it has placed increasing emphasis on developing human capital and research capability similar to that of industrial economies, often targeted at specific commercial goals.
In the 1950s, the government gave special attention to developing a domestic textile industry, but in the 1960s and 1970s, emphasis shifted to helping local firms link up with foreign firms willing to share technology in a number of industries. By 1981, Taiwan was the fourth largest synthetic fiber producer in the world.
In the 1960s, Taiwan set up EPZs to encourage electronics production by foreign firms. By 1984, electronics were the economy's largest export.
Because Taiwan's economy is externally oriented, it is often regarded as an open economy. But it continues to use special policy measures to develop domestic industry. Foreign investments outside the EPZs are often subject to limits on domestic sales, export targets, and mandated local-content requirements.
Export requirements were first used to generate foreign exchange, then to ensure that foreign investors would bring in technology to compete in global markets. Foreign companies were also pressed to purchase from local suppliers, to train local workers, and sometimes to sell equity to local investors.
Some economists attribute Taiwan's success to industrial policy that directed the economy's resources toward developing one important industry after another. Others contend that the economy's leaders responded mainly to market forces. They point out that Taiwan followed a pattern common to other fast-growing economies in the region.
In this view, what matters is not the hand on the steering wheel but the foot on the accelerator. Taiwan developed rapidly, they say, because of its success in acquiring foreign technology to boost productivity growth.
Many countries avoid or severely restrict foreign investment because they fear loss of control over their economies and institutions. It is clear, however, that the benefits of receiving new ideas can outweigh the drawbacks of foreign involvement.
New ideas provide opportunities for employment, technology transfer, skills training, and local investment in human capital. If enough ideas are present, the economy can begin to develop and produce its own new products and services.