Import substitution industrialization (also called ISI) is a trade Trade is the voluntary exchange of goods, services, or both. Trade is also called commerce or transaction. A mechanism that allows trade is called a market. The original form of trade was barter, the direct exchange of goods and services. Later one side of the barter were the metals, precious metals , bill, paper money. Modern traders instead and economic Economics is the social science that studies the production, distribution, and consumption of goods and services. The term economics comes from the Ancient Greek οἰκονομία from οἶκος (oikos, "house") + νόμος (nomos, "custom" or "law"), hence "rules of the house(hold)". Current economic policy The term may apply to government, private sector organizations and groups, and individuals. Presidential executive orders, corporate privacy policies, and parliamentary rules of order are all examples of policy. Policy differs from rules or law. While law can compel or prohibit behaviors , policy merely guides actions toward those that are most based on the premise that a country In geography, a country is a geographical region. The term is often applied to a political division or the territory of a sovereign state, or to a smaller, or former, political division of a geographical region. Usually, but not always, a country coincides with a sovereign territory and is associated with a state, nation or government should attempt to reduce its foreign dependency through the local production of industrialized products. The term primarily refers to 20th century development economics Development economics is a branch of economics which deals with economic aspects of the development process in low-income countries. Its focus is not only on methods of promoting economic growth and structural change but also on improving the potential for the mass of the population, for example, through health and education and workplace policies, though it was advocated since the 18th century United States.
Adopted in many Latin American countries from the 1930s until the late 1980s, and in some Asian and African countries from the 1950s on, ISI was theoretically organized in the works of Raúl Prebisch Raúl Prebisch was an Argentine economist known for his contribution to structuralist economics, in particular the Prebisch-Singer hypothesis that formed the basis of economic dependency theory. He is sometimes considered to be a neo-Marxist though this label is misleading. His brother Alberto Prebisch was a well-known architect, Hans Singer Sir Hans Wolfgang Singer was a development economist best known for the Singer-Prebisch thesis, which states that the terms of trade move against producers of primary products. He is one of the primary figures of heterodox economics, Celso Furtado Celso Monteiro Furtado was an important Brazilian economist and one of the most distinguished intellectuals of his country during the 20th century. His work focuses on development and underdevelopment and on the persistence of poverty in peripheral countries throughout the world. He is viewed, along with Raúl Prebisch, as one of the main and other structural economic Structuralist economics originated with the work of the Economic Commission for Latin America and is primarily associated with its director Raul Prebisch and Brazilian economist Celso Furtado. Key to structuralist analysis is the idea that the structural features of developing economies need to be taken into account. Early structuralist models thinkers, and gained prominence with the creation of the United Nations Economic Commission for Latin America and the Caribbean The United Nations Economic Commission for Latin America and the Caribbean was established in 1948 (then as the UN Economic Commission for Latin America, or UNECLA) to encourage economic cooperation among its member states. In 1984, a resolution was passed to include the countries of the Caribbean in the name. It is one of five regional (UNECLAC The United Nations Economic Commission for Latin America and the Caribbean was established in 1948 (then as the UN Economic Commission for Latin America, or UNECLA) to encourage economic cooperation among its member states. In 1984, a resolution was passed to include the countries of the Caribbean in the name. It is one of five regional or CEPAL The United Nations Economic Commission for Latin America and the Caribbean was established in 1948 (then as the UN Economic Commission for Latin America, or UNECLA) to encourage economic cooperation among its member states. In 1984, a resolution was passed to include the countries of the Caribbean in the name. It is one of five regional). Insofar as its suggestion of state-induced industrialization through governmental spending, it is largely influenced by Keynesian Keynesian economics is a macroeconomic theory based on the ideas of 20th-century British economist John Maynard Keynes. Keynesian economics argues that private sector decisions sometimes lead to inefficient macroeconomic outcomes and therefore advocates active policy responses by the public sector, including monetary policy actions by the central thinking, as well as the infant industry arguments The infant industry argument is an economic reason for protectionism. The crux of the argument is that nascent industries often do not have the economies of scale that their older competitors from other countries may have, and thus need to be protected until they can attain similar economies of scale. It was first used by Alexander Hamilton in 1790 adopted by some highly industrialized countries, such as the United States, until the 1940s. ISI is often associated with dependency theory Dependency theory or dependencia theory is essentially a body of social science theories predicated on the notion that resources flow from a "periphery" of poor and underdeveloped states to a "core" of wealthy states, enriching the latter at the expense of the former. It is a central contention of dependency theory that poor, though the latter adopts a much broader sociological outlook which also addresses cultural elements sought to be linked with underdevelopment Underdevelopment takes place when resources are not used to their full socio-economic potential, with the result that local or regional development is slower in most cases than it should be. Furthermore, it results from the complex interplay of internal and external factors that allow less developed countries only a lop-sided development.
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History
Even though ISI is a development theory, its political implementation and theoretical rationale are rooted in trade theory – it has been argued that all or virtually all nations that have industrialized have followed ISI.
Mercantilist Mercantilism is an economic theory that holds the prosperity of a nation is dependent upon its supply of capital, and that the global volume of international trade is "unchangeable." Economic assets or capital, are represented by bullion held by the state, which is best increased through a positive balance of trade with other nations ( economic theory and practiceof the 16th, 17th, and 18th century frequently advocated building up domestic manufacturing and import substitution. In the early United States, the Hamiltonian economic program The Hamiltonian economic program was the set of measures that were proposed by American Founding Father and 1st Secretary of the Treasury Alexander Hamilton in three notable reports and implemented by Congress during George Washington's first administration, specifically the third report and magnum opus of Alexander Hamilton, the Report on Manufactures, advocated that the US become self-sufficient in manufactured goods. This formed the basis of the American School The American School, also known as "National System", represents three different yet related constructs in politics, policy and philosophy. It was the American policy for many decades, waxing and waning in actual degrees and details of implementation. Historian Michael Lind describes it as a coherent applied economic philosophy with, which was an influential force during the United States's 19th century industrialization.
Indeed, Baer Werner Baer is an American economist at the University of Illinois Urbana-Champaign and the Jorge Lemann Professor of Economics. He received his Bachelor's degree from Queen's College in 1953, and a Master's and a Ph.D. from Harvard University in 1955 and 1958 respectively. His research centers on Latin America's industrialization and economic contends that all countries which have industrialized after the United Kingdom The United Kingdom of Great Britain and Northern Ireland[note 7] is a sovereign state located off the northwestern coast of continental Europe. It is an island country, spanning an archipelago including Great Britain, the northeastern part of Ireland, and many small islands. Northern Ireland is the only part of the UK with a land border, sharing went through a stage of ISI in which the large part of investment in industry was directed to replace imports (Baer, pp.95-96).[1] Going further, in his book Kicking away the ladder, Korean economist Ha-Joon Chang Ha-Joon Chang is one of the leading heterodox economists specialising in development economics. After graduating from Seoul National University Department of Economics, he trained at the University of Cambridge, where he currently works as a Reader in the Political Economy of Development, Chang is the author of several influential policy books, also argues, based on economic history, that all major developed countries – including the United Kingdom – used interventionist economic policies to promote industrialization and protected national companies until they had reached a level of development in which they were able to compete in the global market, after which those countries adopted free market discourses directed at other countries in order to obtain two objectives: to open their markets to local products and to prevent them from adopting the same development strategies which led to the developed nations' industrialization.
Theoretical basis
As a set of development policies, ISI policies are theoretically grounded on the Singer-Prebisch thesis The Singer-Prebisch thesis is the observation that the terms of trade between primary products and manufactured goods tend to deteriorate over time. Developed independently by economists Raul Prebisch and Hans Singer in 1950, the thesis suggests that countries that export commodities (such as most developing countries) would be able to import, on the infant industry argument, and on Keynesian Keynesian economics is a macroeconomic theory based on the ideas of 20th-century British economist John Maynard Keynes. Keynesian economics argues that private sector decisions sometimes lead to inefficient macroeconomic outcomes and therefore advocates active policy responses by the public sector, including monetary policy actions by the central economics. From these postulates it derives a body of practices, which are commonly: an active industrial policy to subsidize and orchestrate production of strategic substitutes, protective barriers to trade (e.g. tariffs A tariff is a tax levied on imported or exported goods), an overvalued currency to help manufacturers import capital goods (heavy machinery), and discouragement of foreign direct investment Foreign direct investment refers to long term participation by country A into country B. It usually involves participation in management, joint-venture, transfer of technology and "know-how". There are two types of FDI: inward foreign direct investment and outward foreign direct investment, resulting in a net FDI inflow (positive or.
In many cases, however, these postulates did not apply: on several occasions, the Brazilian ISI process, which occurred from 1930 until the end of the 1980s, involved currency devaluation as a means of boosting exports and discouraging imports (thus promoting the consumption of locally manufactured products), as well as the adoption of different exchange rates for importing capital goods and for importing consumer goods. Moreover, governmental policies toward investment were not always opposed to foreign capital: the Brazilian industrialization process was based on a tripod which involved governmental, private, and foreign capital – the first being directed to infrastructure and heavy industry, the second to manufacturing consumer goods, and the third, to the production of durable goods (such as automobiles). Volkswagen, Ford, GM and Mercedes all established in Brazil in the 1950s and 1960's.
The major and unifying postulate of ISI can thus be described as an attempt to reduce foreign dependency of a country's economy through local production of industrialized products, whether through national or foreign investment, for domestic or foreign consumption. It should be noted, as well, that import substitution does not mean import elimination: as a country industrializes, it begins to import other kinds of goods which become necessary for its industry, such as petroleum, chemicals, and the raw materials it may lack. The real objective of import substitution is therefore not to eliminate trade, but to lift it to higher stage – that of exporting value-added products, which are not as susceptible to economic fluctuations as raw materials, according to the Singer-Prebisch thesis The Singer-Prebisch thesis is the observation that the terms of trade between primary products and manufactured goods tend to deteriorate over time. Developed independently by economists Raul Prebisch and Hans Singer in 1950, the thesis suggests that countries that export commodities (such as most developing countries) would be able to import.
Outward and inward development
Conceptually, ISI could be outward-looking in that it promotes exports (like in Asia, especially South Korea) or inward-looking without significant links to world markets (like in Latin America). The decision to adopt one or another perspective is frequently determined by external factors. The industrialization of South Korea South Korea, officially the Republic of Korea (Korean: 대한민국, pronounced [tɛːhanminɡuk̚] ( listen)) and often referred to as Korea, is a state in East Asia, located on the southern half of the Korean Peninsula. It is neighbored by China to the west, Japan to the east, and North Korea to the north. Its capital is Seoul, the second and other Asian Tigers They are also known as "Asia's Four Little Dragons" in Chinese, as these countries and territories have at various points in history been under the Chinese cultural sphere of influence . These regions were the first newly industrialized countries, noted for maintaining exceptionally high growth rates and rapid industrialization between, for example, was in line with the United States's geopolitical strategy of building a "contention belt" of capitalist countries around China and other communist states in Asia, which involved the granting of incentives for these countries to export to the United States. In contrast, Latin American countries, which were outside the main areas of geopolitical concern, did not receive these incentives – despite requests that they be extended to them, for example in the Pan-American Operation proposed by Brazilian President Juscelino Kubitscheck Juscelino Kubitschek de Oliveira (September 12, 1902 – August 22, 1976) was a prominent Brazilian politician who was President of Brazil from 1956 to 1961. He was born in Diamantina, Minas Gerais, and died in 1976. His term was marked by relative economic prosperity and political stability, being most known by the construction of a new capital,. Consequently, Latin American countries concentrated on producing for their domestic markets, or on building expanded areas which could absorb scale-production, such as the Latin American Free Trade Association The Asociación Latinoamericana de Integración is a Latin American trade integration association, based in Montevideo. Its main objective is the establishment of a common market, in pursuit of the economic and social development of the region. Signed on August 12th, 1980, the Montevideo Treaty is an international legal framework that establishes (ALALC) and the Latin American Integration Association The Asociación Latinoamericana de Integración is a Latin American trade integration association, based in Montevideo. Its main objective is the establishment of a common market, in pursuit of the economic and social development of the region. Signed on August 12th, 1980, the Montevideo Treaty is an international legal framework that establishes (ALADI), which were never fully implemented.
Both in inward and outward-oriented ISI, however, external competition by imports in the markets of the targeted industries are discouraged, by tariffs, devalued currencies and other factors. Hence, policies to pursue ISI have a strong protectionist component and are not favored by advocates of absolute free trade Free trade is a system of trade policy that allows traders to act and transact without interference from government. According to the law of comparative advantage the policy permits trading partners mutual gains from trade of goods and services.
Latin America
Import substitution policies were adopted by most nations in Latin America Latin America is a region of the Americas where Romance languages (i.e., those derived from Latin) – particularly Spanish, Portuguese, and variably French – are primarily spoken. Latin America has an area of approximately 21,069,501 km² (7,880,000 sq mi), almost 3.9% of the Earth's surface or 14.1% of its land surface area. As of 2008, its from the 1930s until the late 1980s. The initial date is largely attributed to the impact of the Great Depression The Great Depression was a severe worldwide economic depression in the decade preceding World War II. The timing of the Great Depression varied across nations, but in most countries it started in about 1929 and lasted until the late 1930s or early 1940s. It was the longest, most widespread, and deepest depression of the 20th century, and is used of the 1930s, when Latin American countries, which exported primary products and imported almost all of the industrialized goods they consumed, were prevented from importing due to a sharp decline in their foreign sales. This served as an incentive for the domestic production of the goods they needed.
The first steps in import substitution were largely untheoretical and based on pragmatic choices of how to face the limitations imposed by recession, even though Populist Populism, defined either as an ideology , a political philosophy or a type of discourse, is a type of political-social thought which juxtaposes "the people" against "the elites", and urges social and political system changes. It can also be defined as a rhetorical style deployed by members of political or social movements. It governments in Argentina (Perón Juan Domingo Perón was an Argentine general and politician, elected three times as President of Argentina, after serving in several government positions, including the Secretary of Labor and the Vice Presidency. He was overthrown in a military coup in 1955. He returned to power in 1973 and served for nine months, until his death in 1974 when he) and Brazil (Vargas Getúlio Dornelles Vargas served as president of Brazil from 1930 to 1945 and from 1951 until his suicide in 1954) had the precedent of Fascist Fascists advocate the creation of a single-party state, with the belief that the majority is unsuited to govern itself through democracy and by reaffirming the benefits of inequality. Fascist governments forbid and suppress openness and opposition to the fascist state and the fascist movement. Fascism opposes class conflict, blames capitalism and Italy Italy /ˈɪtəli/ (Italian: Italia, [iˈta:lja]), officially the Italian Republic (Italian: Repubblica Italiana), is a country located partly on the European Continent and partly on the Italian Peninsula in Southern Europe and on the two largest islands in the Mediterranean Sea, Sicily and Sardinia. Italy shares its northern, Alpine boundary with (and, to some extent, of the Soviet Union The Union of Soviet Socialist Republics was a constitutionally socialist state that existed in Eurasia from 1922 to 1991. The name is a translation of the Russian: Союз Советских Социалистических Республик (help·info), tr. Soyuz Sovetskikh Sotsialisticheskikh Respublik, IPA [sɐˈjʊs sɐˈvʲeʦkʲɪx səʦɪ) as inspirations of state-induced industrialization. Positivist Positivism is an epistemological perspective and philosophy of science which holds that the only authentic knowledge is that which is based on actual sense experience. Though the positivist approach has been a 'recurrent theme in the history of western thought from the Ancient Greeks to the present day' and appears in Ibn al-Haytham's 11th Century thinking – which sought a "strong government" to "modernize" society – played a major influence on Latin American military thinking in the 20th century. Among the officials – many of whom rose to power, like Perón and Vargas – industrialization (specially steel production) was synonymous of "progress" and was naturally placed as a priority.
ISI only gained a theoretical foundation in the 1950s, when Argentine Argentina, officially the Argentine Republic , is the second largest country in South America, constituted as a federation of 23 provinces and an autonomous city, Buenos Aires. It is the eighth-largest country in the world by land area and the largest among Spanish-speaking nations, though Mexico, Colombia and Spain are more populous economist An economist is an expert in the social science of economics. The individual may also study, develop, and apply theories and concepts from economics and write about economic policy. Within this field there are many sub-fields, ranging from the broad philosophical theories to the focused study of minutiae within specific markets, macroeconomic and UNECLAC The United Nations Economic Commission for Latin America and the Caribbean was established in 1948 (then as the UN Economic Commission for Latin America, or UNECLA) to encourage economic cooperation among its member states. In 1984, a resolution was passed to include the countries of the Caribbean in the name. It is one of five regional head Raúl Prebisch Raúl Prebisch was an Argentine economist known for his contribution to structuralist economics, in particular the Prebisch-Singer hypothesis that formed the basis of economic dependency theory. He is sometimes considered to be a neo-Marxist though this label is misleading. His brother Alberto Prebisch was a well-known architect was a visible proponent of the idea, as well as Brazilian Brazil , officially the Federative Republic of Brazil (Portuguese: República Federativa do Brasil) listen (help·info), is the largest country and the only Portuguese-speaking country in South America economist Celso Furtado Celso Monteiro Furtado was an important Brazilian economist and one of the most distinguished intellectuals of his country during the 20th century. His work focuses on development and underdevelopment and on the persistence of poverty in peripheral countries throughout the world. He is viewed, along with Raúl Prebisch, as one of the main. Prebisch believed that developing countries Developing country is a term generally used to describe a nation with a low level of material well being. There is no single internationally-recognized definition of developed country, and the levels of development may vary widely within so-called developing countries, with some developing countries having high average standards of living needed to create forward linkages domestically, and could only succeed by creating the industries that used the primary products already being produced by these countries. The tariffs A tariff is a tax levied on imported or exported goods were designed to allow domestic infant industries to prosper.
ISI was most successful in countries with large populations and income levels which allowed for the consumption of locally produced products. Latin American countries such as Argentina, Brazil, Mexico, and, to a lesser extent, Chile, Uruguay and Venezuela, had the most success with ISI (Blouet and Blouet, 2002). This is so because while the investment to produce cheap consumer products may pay off in a small consumer market, the same can not be said for capital-intensive industries – such as automobiles and heavy machinery –, which depend on larger consumer markets to survive. Thus, smaller and poorer countries, such as Ecuador, Honduras, and the Dominican Republic, could only implement ISI to a limited extent. Peru implemented ISI in 1961, and the policy lasted through to the end of the decade in some form.[2]
To overcome the difficulties of implementing ISI in small-scale economies, proponents of this economic policy – some within UNECLAC – suggested two alternatives to enlarge consumer markets: income distribution within each country, through agrarian reform and other initiatives aimed at bringing Latin America's enormous marginalized population into the consumer market, and regional integration through initiatives such as the Latin American Free Trade Association (ALALC), which would allow for the products of one country to be sold in another.
In Latin American countries where ISI was most successful, it was accompanied by structural changes to the government. Old neocolonial governments were replaced by more or less democratic governments. Banks and utilities and certain foreign-owned companies were nationalized or transferred ownership to local businesspeople.
Many economists contend that ISI failed in Latin America, being one of many factors leading to the so-called lost decade of Latin American economics. Other economists contend that ISI led to the "Mexican Miracle," the period that lasted from 1940 to 1975 in which economic growth of 6 percent or more.
East Asia
The inward-looking variant of ISI was rejected by most nations in East Asia in the 1960s, and some economists attribute the superior performance of East Asia in the 1970s and 1980s to this difference in policies. Indeed, East Asian policies are most commonly not referred to as ISI, even though some would argue the rationale and execution of policy design largely followed those recipes.
Most East Asian countries, while rejecting the inward-looking component of classical import substitution policies, also maintained high tariff barriers. The strategy followed by those countries was to focus subsidies and investment on industries which would make goods for export, and not to attempt to undervalue the local currency. In pursuing this and to boost its competitiveness in the 1970s, South Korea made large investments into heavy and chemical industries, such as shipbuilding, steel and petrochemicals. This focus on export markets allowed them to create competitive industries.
It should be contended, however, that outward-looking development did not pose as a choice for many countries. As mentioned before, for geopolitical reasons, many East Asian countries received open market policies and incentives for industrialization from the United States government, as a means of creating a "contention belt" of capitalist countries around communist nations in Asia. For instance: from 1953 until 1960, the United States financed 70% of South Korea's imports of commodities, which allowed it to rise from a rural producer to an exporter of manufactured goods in just seven years (Hong & Krueger, Trade and Development in Korea. Seoul: Korea Development Institute, 1975). With such a clear path for development laid out, South Korea naturally invested in educating its population to meet the needs of its exports-driven industry.
Advantages and disadvantages
The major advantages claimed for ISI include: increases in domestic employment (reducing dependence on labour non-intensive industries such as raw resource extraction and export); resilience in the face of a global economic shocks (such as recessions and depressions); less long-distance transportation of goods (and concomitant fuel consumption and greenhouse gas and other emissions).
The disadvantages claimed for ISI is that the industries that it creates are inefficient and obsolete as they aren't exposed to internationally competitive industries which constitute their rivals and that the focus on industrial development impoverishes local commodity producers who are primarily rural. Other disadvantages include unemployment increasing internationally as World GDP decreases through the promotion of inefficiency.
In most manufacturing processes a point of output is reached after which the cost of producing every additional unit of output diminishes. Different types of industries, given their different production functions (combinations of capital and labor, etc.) obtain different scale thresholds or minimum levels of output necessarily to begin accruing cost savings from large-scale output. For example, a mechanical pencil factory may need to sell 5 million units of output (pencils) each year before it can achieve economies of scale of production – efficient level of production. An automobile industry may need to sell 519, 001 units of output (cars) to achieve the same level of efficiency.
Clearly, the more units of anything manufactured you can sell the better the chances that your factories (consumer goods and intermediate, and ultimately capital goods) will achieve economies of scale, efficient production. In a free market global economy, industries that produce inefficiently (without obtaining economies of scale of production) under the protections of ISI have been subject to criticism from more efficient foreign industries – a force driving the neo-liberal campaign for open markets.
What determines whether a country obtains efficiency – economies of scale in production? Market size (number of consumers, population) and purchasing power (usually but unreliably indicated by GNP/capita). Hence, larger, richer economies were more likely to make ISI succeed efficiently, whereas smaller countries with lower per capita incomes were less likely to succeed with ISI.
From: http://hdr.undp.org/docs/publications/ocational_papers/oc24aa.htm
Sources
- Chasteen, John Charles. 2001. Born in Blood and Fire. pages 226-228.
- Reyna, José Luis & Weinert, Richard S. 1977. Authoritarianism in Mexico. Philadelphia, Pennsylvania: Institute for the Study of Human Issues, Inc. pages 067-107.
References
- ^ Baer, Werner (1972), "Import Substitution and Industrialization in Latin America: Experiences and Interpretations", Latin American Research Review vol. 7 (Spring): 95-122.(1972)
- ^ http://www.sjsu.edu/faculty/watkins/peru.htm
See also
- International trade
- Commanding Heights for an exposition of the effects of ISI on Latin American economies
- Singer-Prebisch thesis
- Export-oriented industrialization
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Categories: Development economics | International trade
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