The Evolving Role of Manufacturing in Economic Development

Abstract

Differences in industrial policy explain why Latin America lost its head start in economic development to East Asia. Latin America persisted with industrialization by import substitution under soft budget constraints, which failed to mature and generate adequate foreign exchange and government revenues. In contrast, East Asia abandoned import substitution early to pursue competitive industrialization under hard budget constraints that incentivized rapid sector maturation. East Asia is closing the productivity gap with the US, but Taiwan’s cautious competitive industrialization is more welfare-enhancing than South Korea’s aggressive big push. Chile pioneered Latin American reform in line with its comparative advantage in commodity-driven growth and successfully managed its mineral rent to become best practice. However, diversification remains constrained and economic growth has slowed. Brazilian reforms have been less effective than Chile in managing rents to minimize Dutch disease and curb growth-sapping rent-seeking. However, contrary to Rodrik, this chapter argues that Latin American structural change reflects realignment with comparative advantage and not premature deindustrialization.