Services and the modern industrial policy

Is the iPhone an industrial product or a service? The iPhone is made of aluminum, plastic, and other materials and is manufactured on a typical assembly line, so many would say it's an industrial product. But since most of the iPhone's value-add is services such as research and development, embedded software, branding, design, and distribution, many would argue that it is essentially a service. From the user's point of view, the iPhone without software is worthless, and the same goes for software without hardware. This apparent conceptual confusion reveals one of the characteristics of modern industrial activity: the intimate combination of industry and services in a mutually dependent relationship for the creation of value, and the difficulty in identifying the dividing line that separates both activities.

But it was not always like this. The economic history of countries such as England and the United States shows that, throughout the 19th century and the first half of the 20th century, most of the steps in the production of a certain good were concentrated in the factory itself, which helps to explain the then rapid increase in industry's share of GDP. But economic history also shows that the increase in the relevance of the industry would be accompanied by the introduction of new technologies and innovations and new operating models. The outsourcing of production stages would come into play and a large part of what until then was typical of industrial activity would gradually become decentralized services provided by third parties, giving rise to a growing complementarity and functional interaction between industry and services that would increase total added value, while the relative participation of manufacturing in GDP is reduced.

The current stage of industrial development in several advanced countries reflects that pattern: modest industry accompanied by a high density of R&D laboratories, universities committed to the industry, advanced distribution services, brands, marketing, financial services, and many other specific services aimed at adding industrial value. In fact, in several segments, the contribution of this rich ecosystem of services can be much greater than the contribution of the production floor. The United States is an illustrative example. Although manufacturing represented only 12% of GDP in 2021, industrial activity, including that ecosystem, was at least 2.5 times higher, representing no less than 66% of total private investment in R&D. And this, in turn, was one of the main factors responsible for the recovery of the US economy in the post-financial crisis of 2008 and in the post-pandemic phase. Therefore, the industrial sector as a whole has a great influence on the fate of the US economy.

Late-industrializing countries, such as South Korea, are following the same pattern of industrial development. Although industry was participating with a high 26% of GDP in 2021, it is technologies, innovations and other services that increasingly determine the true influence of the industrial sector. As a result, Korean brands of technologically advanced products such as cars, chips and electronics are already competing globally and have even taken the lead in some segments. In China, manufacturing represents 27.5% of GDP, but the influence of the industrial sector is increasingly determined by technological development, brands, distribution networks and other services. The share of manufacturing in GDP in both countries is likely to decline in the coming years, but the influence of industrial activity at large is likely to increase.

This discussion seems pertinent in a context where industrial policy is returning, and with force, to public policy. Even developed countries that until recently were opposed to industrial policies now seek to increase local manufacturing production, even with interventionist and protectionist measures and generous subsidies. Consider the Inflation Reduction Act, the Chips and Science Act, the Buy American Act, or the Reshoring, all from the US; or consider the Green Deal Investment Plan, the Critical Materials Plan, the Next Generation EU or the Made in Europe Partnership, all from the EU. These policies are likely to succeed in promoting increased industrial production, but it is the availability of a thriving and innovative industrial services ecosystem that will make the difference.

Emerging countries are also looking for a greater industrial role. India, Indonesia, Mexico, Vietnam, Brazil, Costa Rica, Honduras, Chile and many others are following this path. But can they compete with rich countries? The relatively modest financial capacity to provide fiscal support and the unavailability of a comparable industrial services ecosystem puts them at a disadvantage and condemns some countries to limit themselves to hosting maquilas.

At this point, to compete and have a place in the global industry, it will be necessary to focus and concentrate efforts to develop technologies, innovations, logistics, brands and many other industrial services, as well as work on enabling factors that make possible the industrialization of the comparative and competitive advantages of each country. After all, that is where the best and most plausible opportunities for emerging countries lie. In the case of Latin America, for example, the industrialization of agriculture, livestock, fishing, mining, rare earths, forests and the bioeconomy should be considered, as well as the industrialization through renewable and green energies and biofuels, as advocated by the powershoring strategy.

To have a better chance of success, the industrial policy of emerging countries must be pragmatic, aim at objectives with an eagle eye and promote the development of an industrial ecosystem, which is a fundamental element for a solid, self-sustaining and competitive industrial sector.