Transformative Relationships

For higher-income countries, these desired results are often to secure dominance in particular innovation-based industries.  For their less wealthy peers, by contrast, the goal is frequently to escape the “middle-income trap” that risks consigning them to long-term stagnation, something that lends upgrading pressures to the character of an ongoing crisis

Successful upgrading generally involves building linkages among domestic firms, government, financial institutions, and researchers to help businesses constantly innovate in their technology and processes (Porter 2011).  Given the ubiquity of global value chains, upgrading policy also represents an effort to secure the most beneficial role for a country’s firms in the international production of specific goods and services (Milberg, Jiang, and Gereffi 2014).

Centralised systems can bring about rapid and large-scale transformation of an economy—from one industry to another. On the other hand, strongly decentralized democracies, under certain conditions, can develop a “pluralist” approach to effectively promote incremental upgrading across a wide variety of large and small industries.

Often upgrading policies are thought to be effective only in countries with cohesive central leadership, the kind that can oversee the development and implementation of a national plan (e.g. Ferraz, Kupfer, and Marques 2014). Such a national plan is understood to represent a coordinated vision of how to promote upgrading, one which can then be implemented in a centralized fashion.

If this understanding is correct, federal and strongly decentralized countries operate under a serious disadvantage in their efforts to promote upgrading. But does decentralization really mean that effective upgrading policy is difficult or impossible? In this project, I argue that decentralized countries can indeed develop and implement effective upgrading policies, often more effective than those observed in more top-down regimes. But these policies will differ in both form and substance as a result of the deep involvement of regional governments. Moreover, I identify a series of characteristics that must be present for upgrading policy in decentralized democracies to be maximally effective.

As scholars have long understood, upgrading policy is extraordinarily complex. In the words of Peter Evans (1995), it requires that government officials be “embedded” enough in the private sector to understand the needs of business while also sufficiently “autonomous” to discipline firms that seek to take advantage of government largess.

More than that, upgrading policy can make use of a wide variety of policy tools – from trade protection to subsidies to investment guarantees to network promotion – in accomplishing its objectives. Government – in the form of autonomous bureaucracies, line ministries, and others – use these tools to support domestic firms as they innovate while also holding them accountable for a lack of progress. Due to the complexity of upgrading, researchers such as Rodrick (2004) have emphasized that a single policy formula is not likely to work in all times and places.

Upgrading policy will be more effective when both the state and private actors have an incentive to cooperate in “upgrading institutions” and “upgrading coalitions”

I argue here that what is critical for success is the right structure of policy-making, as manifested in the characteristics of the “upgrading institutions” that formulate and implement polices, as well as in the informal “upgrading coalitions” of critical actors that stand behind them. When both the state and private actors have an incentive to cooperate in these institutions and coalitions, upgrading policy will be more effective. By contrast, when government actors have the upper hand, policy will be inefficiently statist, whereas when private actors are dominant, it will be captured and used for rents.

Within the context of highly decentralized democracies, when are beneficial state-private relationships – and with them, effective upgrading policies most likely be observed? In these settings, a national government is not in a position to formulate and carry out upgrading policy without including regional governments. This is because regional governments in decentralized systems generally control significant policy and financial resources that play a role in upgrading policy, including certain regulatory policies.

More than that, however, regional governments are in a best position to interact with firms based in their locales at the grassroots level, and they are more likely to possess high quality information about their operations. In other words, they are more “embedded” into regional business networks than are central governments.

At the same time, regional governments need the resources that national governments generally command, and they also require the national policy coordination that can only be done from the capital. In addition, some firms and business associations may be large enough to operate nationally, and therefore it makes sense for the central government to focus on supporting upgrading in these industries.

With all of this in mind, I argue that upgrading policy will be most effective in decentralized democracies when:

1. Both national and regional governments enjoy high capacity and are incentivized to have long- time horizons. In the democratic context, long time horizons might be generated by a stable party system and low levels of electoral volatility, and high capacity by an effective bureaucratic structure.
2. National and regional governments are incentivized to work together to promote upgrading. This may be more likely when they are controlled by the same party, but when the regional power of sub-national government leaders nevertheless ensures them a critical place in upgrading coalitions. In other words, the power of national and regional governments must be in a “fine balance” (Hankla et al. 2019).
3. The upgrading system operates according to the broad principle of “subsidiarity.” In this context, the principle would mean that small, regional firms and industries interact primarily with the regional governments, whereas very large, national firms and highly organized industries interact primarily with the central government. The central and regional governments then share resources and information where needed.
4. Relevant private actors, especially firms, are neither too powerful (either through the size of individual firms or through the organization of business interests) to dominate the central or regional government with which they interact, nor so fragmented that they can be dominated. Indeed, the fact that differently scaled firms and industries can interact with different tiers of government is among the strongest benefits of decentralized regimes in upgrading.
5. Since some regions will begin with a stronger base to promote upgrading, the central government uses the tax system to promote some degree of equalization.

When all of these factors are in place, upgrading takes place in what can be termed a “pluralist” rather than a “corporatist” fashion, with multiple tiers and branches of government interacting separately with multiple different private actors. Of course, a national plan may still exist, but this plan is (1) either a dead letter, (2) concerns only industries of national scale, or (3) is itself produced in a pluralist and decentralized fashion, with much region-level input.

Such a pluralist approach to upgrading, I argue, is not as effective as a more centralized approach is large-scale transformation of the economy, for example from one industry to another. But it is especially effective, when done well, at smaller scale upgrading across a wide variety of large and small industries.

To provide some preliminary evidence for my arguments, I develop a plausibility probe of the Indian case. To ensure variation on my primary independent variables, I compare upgrading policy in India between two states (Bihar and Gujarat), and between the UPA/Congress governments of 2004 to 2014 and the NDA/BJP governments of 2014 to the present.

Preliminarily, I argue that the Gujarati state government was more effective in upgrading policy than the Bihari state government due to its longer time horizons and its stronger state capacity (see Kohli 2012, Kumar 2018). However, I show that the poor relationship between the UPA government and the Gujarati government impeded cooperation. The advent of NDA/BJP rule at the Centre improved coordination but also led to a weakening of the state government’s influence in Gujarat as it fell under the sway of national party officials. This impeded the ability of the Gujarat government to take the initiative in upgrading within the state.

In the final analysis, I find that strongly decentralized democracies are indeed capable of promoting upgrading within their borders. They generally do this using a more pluralist approach, in which regional and national governments each operate in different spheres and coordinate their activities when needed. This pluralist approach, while less effective at rapid and large-scale transformation of an economy, is – when certain conditions are in place – very able to promote incremental upgrading across a wide variety of industries.

References and Further Reading

Doner, Richard F. and Ben Ross Schneider. 2016. The Middle Income Trap: More Politics than Economics. World Politics 68(4): 608-644.
Evans, Peter. 1995. Embedded Autonomy: States and Industrial Transformation. Princeton: Princeton University Press.
Ferraz, João, David Kupfer, and Felipe Silveira Marques. 2014. Industrial Policy as an Effective Development Tool: Lessons from Brazil. In Salazar-Xirinachs, Jose M., Irmgard Nubler, and Richard Kozul-Wright. 2014. Transforming Economies: Making Industrial Policy Work for Growth, Jobs, and Development. Geneva: International Labor Organization.
Hankla, Charles R., Jorge Martinez-Vazquez, and Raul Ponce Rodriguez. Local Accountability and National Coordination in Fiscal Federalism: A Fine Balance. 2019. Edward Elgar Publishers. Series: Studies in Fiscal Federalism and State-Local Finance.
Kohli, Atul. 2012. Poverty Amid Plenty in the New India. New York: Cambridge University Press.
Kumar, Sanjay. 2018. Post-Mandal Politics in Bihar. New York: Sage.
Mazzucato, Mariana. 2015. The Entrepreneurial State: Debunking Public vs. Private Sector Myths. New York: Public Affairs.
Milberg, William, Xiao Jiang, and Gary Gereffi. 2014. Industrial Policy in the Era of Vertically Specialized Industrialization. In Transforming Economies: Making Industrial Policy Work in the Era of Growth, Jobs, and Development. Edited by José M. Salazar-Xirinachs, Irmgard Nübler, Richard Kozul-Wright. International Labor Organization.
Porter, Michael. 2011. The Competitive Advantage of Nations. New York: The Free Press.
Rodrik, Dani. 2007. One Economics, Many Recipes: Globalization, Institutions, and Economic Growth. New York: Princeton University Press.
Stiglitz, Joseph E. and Bruce C. Greenwald. 2015. Creating a Learning Society. New York: Columbia University Press.

Copyright: © (2022) Charles Hankla