Activation Energy for Sustainable Economic Development

Putting the brakes on backsliding

What is the activation energy required to go from being a poor country to a rich one? What is required to achieve sustainable economic development at a level that a downturn will not put you back to the beginning?

In How Asia Works, Joe Studwell compares the development of Japan, South Korea, and Taiwan with that of Indonesia, the Philippines, and Thailand. He argues that their different policy choices help explain why rapid growth became more durable in some cases than in others. Activation energy is an analogy here: what initial effort and structural changes are needed for a transformation to continue?

In the book, Studwell argues that there were “three critical interventions” that Japan, South Korea and Taiwan undertook to achieve sustainable economic development. They first maximized output from agriculture; next each country directed investment and entrepreneurs toward manufacturing; and finally all had financial policies that supported both of these things. Thus these three countries applied an integrated approach that “changed the structures of their economies in a matter that made it all but impossible to return to an earlier stage of development.”12

As Studwell explains, “the vehicle for the change was a series of land reform programs to take available agricultural land and to divide it up on an equal basis (once variation in land quality was allowed for) among the farming population. This, backed by government support for rural credit and marketing institutions, ergonomic training and other support services, created a new type of market.” 13 Once these agricultural policies were firmly established and their productivity manifested in economic improvement, the governments of Japan, South Korea, and Taiwan set up policies aimed at boosting manufacturing. In order to create long-term productivity in the manufacturing sector, firms were rewarded for their success as exporters. Firms that didn’t measure up to this global competition were culled.14

Financial policy in Japan, South Korea and Taiwan was designed to support the agricultural and manufacturing policies. In summary, “Finance policy in northeast Asia recognized the need to support small, high-yield farms in order to maximize aggregate farm output rather than maximizing returns on cash invested via larger, ‘capitalist’ farms. And finance policy recognized the need in industry to defer profits until an adequate industrial learning process had taken place. In other words, financial policy frequently accepted low near-term returns on industrial investments in order to guild industries capable of producing high returns in the future.”15

Studwell contrasts these policies with those in the Southeast Asian economies he examines, where periods of impressive growth did not produce the same structural transformation. With no real land reform in Indonesia, the Philippines, and Thailand, agriculture output was dampened because landlords made more money renting plots than making investments to increase yields, and families had no incentive to maximize the outputs on the land they didn’t own. In terms of manufacturing, these countries allowed firms to focus solely on the easier sell to domestic markets, which removed the incentives for knowledge transfer and technological development. And, of course, financial policy in each country supported these approaches of no land reform and little to no exports, focusing instead on consumer lending. Studwell explains, “The best banking returns in the East Asian region are produced in the region’s most backward countries—The Philippines, Indonesia and Thailand.”16 Short-term focus on banking profits did not create sustainable growth reactions in these developing countries.

In this account, incomplete structural transformation left growth more vulnerable to financial crises. The activation-energy analogy draws attention to the reforms needed to make development durable; it does not establish a point beyond which an economy can never regress.

The changes were not painless for Japan, South Korea, and Taiwan when they started to implement their policy changes. Some businesses were winners and became internationally popular, like Toyota and Nikon, but there were also losers. Some international relations were strained. There was no overnight success, and the general population had to sacrifice short-term returns for the long-term national interest. Sustaining the reforms required managing these costs and conflicts.

The point here is not that there is a prescription for the exact amount of activation energy needed to fundamentally transform a nation’s economy. As Studwell explains, “Different economics [are] appropriate to different stages of development.”17 The useful question is what support a change needs to take hold and continue, beyond the effort required to start it.

The arguments Studwell sets out are not about how countries can maintain healthy development, but are rather an idea of how to “become rich in the first place.”18 Land reforms and protectionism in developing industry are not long-term policy positions—they are instead short-term components of the activation energy required to bring about sustainable growth. In making the case for effective development in Japan, South Korea, and Taiwan, Studwell writes, “There is no significant economy that has developed successfully through policies of free trade and deregulation from the get-go. What has always been required is proactive interventions—the most effective of them in agriculture and manufacturing—that foster early accumulation of capital and technological learning.”19