Towards A Competitive Malaysia #9

Chapter 3: Diamond of Development (Cont’d)

Role of Government and Public Policies

In addition to the four factors, Porter postulates two others: the role of luck, and that of the government. Chance or luck is by definition unpredictable. Malaysia was fortunate to discover vast oil and gas deposits that gave it a windfall. Unlike the Arabs, Malaysians use that windfall to good purposes for the most part, although it could stand some improvement.

The Canadian province of Alberta is also blessed with vast oil sand deposits. Unlike Malaysia, it uses the windfall not to bail out failing banks and airlines or build grandiose skyscrapers but to create its Heritage Fund to finance universities and medical research. Today, the province is at the cutting edge of medicine, pioneering such breakthroughs as islet cell transplants to treat diabetes, with the University of Alberta now ranking among the finest globally. Quite a legacy! Imagine had Malaysia followed Alberta’s example! The Norwegians took a different tack. It “sterilized” its oil windfall by diverting it into a Trust Fund, thus sparing the nation a runaway inflation and otherwise disturbing the equilibrium of its existing economy. Today the fund is the largest investment unit in the world, quite an achievement for a nation of only a few million. The Norwegians are now assured that when their oil runs dry, as inevitably it will, their way of life would not be disrupted.

To be fair, Malaysia has done better than Indonesia and most Arab countries where the oil wealth merely fuels the greed and corruption of their leaders.

The role of government cuts both ways. The world is replete with examples of both where government is the major problem, trampling on the rights and aspirations of its citizens, as well as where it has truly enlightened and transformed the lives of its citizens. The governments of the Philippines and Indonesia could not be more different than those in Malaysia and Singapore. The fate of their citizens reflects this glaring difference. I will explore the role of government and institutions in greater depth in later chapters.

Porter does not discuss the role of religion. I am struck that all the top ten nations are essentially secular. The possible exception might be Italy, but there the role of the Church is limited to within the Vatican. Ireland is much more Catholic than Italy. The influence of religion on economics is complex, but suffice to note that religious people who are not exposed to modern science and technology have a fatalistic worldview. Muslims refer to it as takdir (It is so written); the Christians, predestination. The Philippines and a huge swath of Latin America have this same belief wrapped in their Catholicism. I do not imply that religious beliefs interfere or are in conflict with economic pursuits. Later I will discuss the transforming effect of the innovative thinking of John Calvin and other reformists on traditional Christian (specifically Catholic) beliefs that later gave rise to capitalism.

Going back to Porter’s diamond, you do not need all four elements to be favorable in order for a company or industry to thrive. Suffice that one or two are favorable, and then exploit that fully.

Stages in Economic Development

The relative importance of the four factors depends on the stage of economic development of the industry or country. National economies, like industries, go through stages in their development. The first stage is “factor-driven,” with the economy based essentially on the traditional factors of production: natural resources, commodities, and availability of cheap power and labor. This was Malaysia of the 1960s and 70s, its primary competitive advantage being its cheap resources (rubber and tin), land and labor, and favorable tax treatment. These advantages were not only limiting but also transient. When commodity prices dropped, Malaysia lost its competitive advantage. When China entered the game with her endless supply of even cheaper labor and land, Malaysia could hardly compete. During this phase, the basic source of competitive advantage is obviously the “factor conditions” of the diamond.

The next stage is investment driven where the competitive advantage is governed by the willingness of firms and nations to invest in modern factories, upgrade the skills of their workers, and adopt efficient technology. Factor conditions are still important, but in addition, the fourth—firms’ strategy, structure and rivalry—becomes the major determinant. This is where Malaysia is currently.

The third stage is innovation driven where all four points of the diamond are in full play. This is where Malaysia aspires to be. With all four points in equal play, the relative role of factor-driven variables like cheap labor and commodities becomes relatively less important. Singapore Airlines is able to pay its staff globally competitive salaries; it no longer depends on cheap labor as a competitive advantage as the airline caters to premium class passengers.

Porter adds a fourth stage—wealth driven—where the emphasis is on wealth preservation. Companies and nations risk losing their competitive advantage and start their downward spiral. This was the Britain that Margaret Thatcher inherited in 1979, deep in its winter of discontent. This was the America of the 1980s when its major industries were clobbered by the Japanese and South Koreans. This is the Japan of today, unable and unwilling to change, and content with enjoying the wealth their parents had created.

In this phase, senior leaders are concerned with and distracted by financial engineering. They are preoccupied with mergers and acquisitions, creation of special purpose vehicles, and other paper-shuffling activities while ignoring the real issues on the factory floors. General Motors and Ford profit more from their finance subsidiaries than from their cars. Their board and senior executives pay more attention to their MBAs and accountants than the engineers.

Britain just before Thatcher and America before Reagan were similarly preoccupied not with creating wealth but with its redistribution, all in the name of social justice and equity.

Something happened to Britain under Thatcher, and to America in the1990s that reversed this downward spiral. What transformed both nations was the power of ideas. I will explore this later in the chapter under Romer’s “Ideas Matters.”

Next: Barro’s Determinants of Economic Growth