The Sustainable Competitive Advantage and Catching-up of Nations: FDI, Clusters and the Liability (Asset) of Smallness

Endogenous growth theories can also predict “divergence”, instead of convergence, and that ceteris paribus larger countries will grow faster than smaller ones; see Verspagen (2005), who also distinguishes between “convergence” (refers to the world level) and catching-up (that refers to individual countries) and discusses the similarities and differences between endogenous growth and evolutionary views. Divergence is also implied by contributions in agglomeration and new geography economics, see Henderson (2005) and below. Feenstra (1996) suggests that in the absence of knowledge diffusion divergence is more likely than convergence in open economy models of endogenous growth.

For Stiglitz (2001) “The advocates of the neoliberal Washington consensus emphasize that it is government interventions that are the source of the problem; the key to transformation is “getting prices right” and getting the government out of the economy though privatization and liberalization. In this view, development is little more than the accumulation of capital and improvements in the efficiency with which resources are allocated – purely technical matters. This ideology misunderstands the nature of the transformation itself – a transformation of society, not just of the economy” (p. xiv).

For a more detailed and nuanced account of similarities and differences between the various East Asian countries, see Shapiro and Taylor (1990), Rodrik (2004), and for differences between older and newer ‘tigers’ see Jomo (1997).

For example it is arguable that a more hands-on approach by government is required at the catching-up phase, while once a country has reached the “technological frontier” so to speak more focus on market signals may be appropriate.

There is extensive work on “agglomeration” economies, that draws on the work of Krugman (1987) on new trade, see Krugman (1991) and Henderson (2005) for a collection of papers. Martin (1999) provides a critical assessment. Martin and Sunlay (2003) and Pitelis et al. (2006) also discuss the historical antecedents of agglomeration and “clusters”-type literatures. For our purposes, agglomeration economies by themselves imply divergence, but also the possibility to catch-up, by diagnosing and upgrading agglomerations. Kottaridi et al. (2008) provide an empirical test of the role agglomeration plays in attracting FDI, in the context of UK regions; the results are in line with the idea that agglomeration and the location of R&D labs by subsidiaries are positively correlated.

For a relatively recent comprehensive discussion on catching-up, see Fagerberg and Godinho (2005) and Fagerberg and Srholec (2005). The authors deal with most levels of analysis, but not the very micro (strategic management) one, as they themselves acknowledge.

Microfoundations, in the sense of optimising behaviour by economic agents, is at the very heart of the neoclassical theory, not least its endogenous growth variety (see Fine, 2000). In this context our claim may sound paradoxical. However, it is simply in line with the well known criticism by Coase (1937), Penrose (1959) and others, that the neoclassical theory treats the firm as a black-box. What microfoundations there exist are in terms of profit maximising black-boxes, or the price-output decision of firms – not the creative role of firms and its impact on the macroeconomy. It is this type of microfoundations that we have in mind, that it is missing and that requires much more work and progress than there exists, including our own limited contribution here.

It could be argued that “utility” suffices and that cost production is of no additional use, as neoclassical economists do, see Robbins (1935). However, this would preclude one route through which perceived utility may increase; for business this is important. In any event, most neoclassical textbooks use the Demand-Cost Curve apparatus, which incorporates both a utility (through Demand) and cost (through the Cost curve) element.

Shapiro and Taylor (1990) discuss seven “boundary conditions” that can help devise and implement successfully state developmental policies, country size being one of them-see below. Rodrik (2004) distinguishes between first principles (market-based competition, property rights, incentives, sound money) and the plethora of specific policies that can be in line with the first principles, in an attempt to explicate the failure of “Washington consensus-type policies”, while salvaging the core of the neoclassical agenda.

The definition of “smallness” tends to also vary widely, from a population of 20 million in works such as Chenery et al. (1986), to 3 million in Armstrong et al. (1998) and 1–1.5 million in the survey article by Tavares (2006). The term may be also taken to have a relative aspect, depending, for example on the country’s “neighbours” or “peer group”.

Greenaway and Nam (1988) for example provide evidence that between 1963 and 1985 more export oriented developing economies achieved much higher growth rates (7.7 percent the export-oriented, versus 3.7 percent the inward oriented).

Jomo (1997) comments on the issue of FDI and sustainability in the context of the development of the first-tier East Asian countries (like Singapore, South Korea, Taiwan, and Hong Kong) and the second-tier ones, like Thailand, Malaysia, and Indonesia as follows: “While the Northeast Asian economies have been open to foreign investment, they have also been more selective and have emphasised developing national (not necessarily state-owned, except perhaps in Taiwan) industrial, technological, marketing and related capacities. In contrast, most rentier entrepreneurs in Southeast Asia have not been obliged to deploy their rents at such ends” (p. 163).

The requisite conditions for achieving these are not easy, and are arguably becoming more stringent for reasons related to technological changes (Fagerberg and Verspagen 2002), but also institutional and international governance-related ones. At the time of its economic development, for example, Japan could get away with pursuing policies that would be considered as anti-competitive under current WTO regulations, and even received US support to implement them. When Washington-consensus-type free markets, free-trade policies are imposed on catching-up countries, this may be viewed as an attempt to “kick away the ladder” (see Stiglitz 2001, Chang 2002; and Fagerberg/Godinho 2005; for a discussion). Boltho and Allsopp (1987) showed that in the 1980s protectionism in the form of non-tariff barriers, was on the increase. On the other hand, the WTO can help participant countries to gain market access, partly offsetting these problems.

Recent research by Monteiro et al. (2008), that “subsidiary isolation”can hinder knowledge transfer to more “isolated” MNE subsidiaries. One could surmise that more isolated are likely to be subsidiaries in more distant, smaller developing economies.