Import substitution
Encyclopedia
Import substitution industrialization or "Import-substituting Industrialization" (called ISI) is a trade
and economic
policy
that advocates replacing imports with domestic production. It is based on the premise that a country should attempt to reduce its foreign dependency through the local production of industrialized products. The term primarily refers to 20th century development economics
policies, though it was advocated since the 18th century.
It has been applied to many countries in Latin America, where it was implemented with the intention of helping countries to become more self-sufficient and less vulnerable by creating jobs and relying less on other nations. The ISI is based primarily on the internal market. The ISI works by having the state lead economic development through nationalization, subsidization of vital industries (including agriculture, power generation, etc.), increased taxation to fund the above, and highly protectionist trade policy. Import substitution industrialization was gradually abandoned by developing countries in the 1980s and 1990s due to disappointment with the results.
Adopted in many Latin American countries from the 1930s until around the 1980s, and in some Asian and African countries from the 1950s on, ISI was theoretically organized in the works of Raúl Prebisch
, Hans Singer
, Celso Furtado
and other structural economic
thinkers, and gained prominence with the creation of the United Nations Economic Commission for Latin America and the Caribbean
(UNECLAC or CEPAL). Insofar as its suggestion of state-induced industrialization through governmental spending, it is largely influenced by Keynesian thinking, as well as the infant industry argument
s adopted by some highly industrialized countries, such as the United States, until the 1940s. ISI is often associated with dependency theory
, though the latter adopts a much broader sociological outlook which also addresses cultural elements thought to be linked with underdevelopment
.
Mercantilist economic theory and practices of the 16th, 17th, and 18th century frequently advocated building up domestic manufacturing and import substitution. In the early United States, the Hamiltonian economic program
, 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
, which was an influential force during the United States's 19th century industrialization.
Indeed, Baer
contends that all countries which have industrialized after the United Kingdom went through a stage of ISI in which the large part of investment in industry was directed to replace imports (Baer, pp. 95–96). Going further, in his book Kicking away the ladder, Korean economist Ha-Joon Chang
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.
, on the infant industry
argument, and on Keynesian 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. tariff
s), an overvalued currency to help manufacturers import capital goods (heavy machinery), and discouragement of foreign direct investment
.
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 1960s.
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
.
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
governments in Argentina (Perón) and Brazil (Vargas
) had the precedent of Fascist Italy (and, to some extent, of the Soviet Union) as inspirations of state-induced industrialization. Positivist 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 (especially steel production) was synonymous of "progress" and was naturally placed as a priority.
ISI only gained a theoretical foundation in the 1950s, when Argentine
economist
and UNECLAC head Raúl Prebisch
was a visible proponent of the idea, as well as Brazilian economist Celso Furtado
. Prebisch believed that developing countries needed to create local vertical linkages, and they could only succeed by creating industries that used the primary products already being produced domestically. The tariff
s 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 Brazil, Mexico, and, to a lesser extent, Chile
, Uruguay
and Venezuela
, had the most success with ISI. 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.
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 stood at 6 percent or higher.
s 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.
Most "East Asian Tigers
" rejected import substitution policies, though they 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. This export promotion approach to industrialization in the East asian countries contrasts with the strategy of ISI. 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.
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.
1.Chronic problems with the balance of trade and payments:
Import substitution was supposed to reduce reliance on world trade, but every nation needs to import something not available locally like raw materials, machinery, spare parts. The more a country industrialized the more it needed these imports and ISI was strongly biased against exports. Trade protection and overvalued exchange rates raised domestic prices and made export less competitive, and export taxes furthermore discouraged foreign sales. So the industrializing countries were unable to export enough to buy the imports they needed.
2.Deep recessions:
The faster the economy grew, the more it needed imports; but exports could not keep up with the pace of imports and so the country ran out of foreign currency. So what the governments did was to restrict import to essentials and raised interest rate to bring money into the country and keep it at home. It devalued the currency to raise the price of imports and make exports more attractive also reducing the countries purchasing power, which resulted in usually deep recessions.
3.ISI countries tended to run substantial budget deficits and inflation:
Government subsidized industrial investments gave tax breaks to industrial investors and targeted spending at politically important groups but such spending chronically outpaced government revenue , and these budget deficits were usually covered by printing more money. The result was inflation which made domestic goods more expensive which in turn reduced exports even further.
4.Negative impact on income distribution;
Masses of farmers migrated to the cities in search for jobs in the new industries. But import-substitution growth was very capital intensive. Most of the farmers who flooded into the cities found that they could not get jobs that industrialization had promised. ISI countries ended up with dual economies;
• On the one hand; modern capital-intensive industries with skilled, well-organized workers earning relatively high wages
• On the other hand: a mass of struggling farmers and urban poor frozen out of the modern economy given very low wages and excluded from the social protections which modern sector workers received
Trade
Trade is the transfer of ownership of goods and services from one person or entity to another. Trade is sometimes loosely called commerce or financial transaction or barter. A network that allows trade is called a market. The original form of trade was barter, the direct exchange of goods and...
and economic
Economics
Economics is the social science that analyzes the production, distribution, and consumption of goods and services. The term economics comes from the Ancient Greek from + , hence "rules of the house"...
policy
Policy
A policy is typically described as a principle or rule to guide decisions and achieve rational outcome. The term is not normally used to denote what is actually done, this is normally referred to as either procedure or protocol...
that advocates replacing imports with domestic production. It is based on the premise that a country 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
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,...
policies, though it was advocated since the 18th century.
It has been applied to many countries in Latin America, where it was implemented with the intention of helping countries to become more self-sufficient and less vulnerable by creating jobs and relying less on other nations. The ISI is based primarily on the internal market. The ISI works by having the state lead economic development through nationalization, subsidization of vital industries (including agriculture, power generation, etc.), increased taxation to fund the above, and highly protectionist trade policy. Import substitution industrialization was gradually abandoned by developing countries in the 1980s and 1990s due to disappointment with the results.
Adopted in many Latin American countries from the 1930s until around the 1980s, and in some Asian and African countries from the 1950s on, ISI was theoretically organized in the works of Raúl Prebisch
Raúl Prebisch
Raúl Prebisch was an Argentine economist known for his contribution to structuralist economics, in particular the Singer–Prebisch thesis that formed the basis of economic dependency theory. He is sometimes considered to be a neo-Marxist though this label is misleading...
, Hans Singer
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.-Biography:Singer was born in Elberfeld, Germany in 1910...
, Celso Furtado
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...
and other structural economic
Structuralist economics
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...
thinkers, and gained prominence with the creation of the United Nations Economic Commission for Latin America and the Caribbean
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 to encourage economic cooperation among its member states. In 1984, a resolution was passed to include the countries of the Caribbean in the name...
(UNECLAC or CEPAL). Insofar as its suggestion of state-induced industrialization through governmental spending, it is largely influenced by Keynesian thinking, as well as the infant industry argument
Infant industry argument
The Infant industry argument is an economic rationale for trade protectionism. The core 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...
s adopted by some highly industrialized countries, such as the United States, until the 1940s. ISI is often associated with dependency theory
Dependency theory
Dependency theory or dependencia theory is 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...
, though the latter adopts a much broader sociological outlook which also addresses cultural elements thought to be linked with underdevelopment
Underdevelopment
Underdevelopment is a term often used to refer to economic underdevelopment, symptoms of which include lack of access to job opportunities, health care, drinkable water, food, education and housing...
.
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 economic theory and practices of the 16th, 17th, and 18th century frequently advocated building up domestic manufacturing and import substitution. In the early United States, the Hamiltonian economic program
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
Report on Manufactures
The Report on Manufactures is the third report, and magnum opus, of American Founding Father and 1st U.S. Treasury Secretary Alexander Hamilton...
, advocated that the US become self-sufficient in manufactured goods. This formed the basis of the American School
American School (economics)
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 the 1860s to the 1940s, waxing and waning in actual degrees and details of implementation...
, which was an influential force during the United States's 19th century industrialization.
Indeed, Baer
Werner 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...
contends that all countries which have industrialized after the United Kingdom went through a stage of ISI in which the large part of investment in industry was directed to replace imports (Baer, pp. 95–96). Going further, in his book Kicking away the ladder, Korean economist Ha-Joon Chang
Ha-Joon Chang
Ha-Joon Chang is one of the leading heterodox economists and institutional economists specialising in development economics...
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 thesisSinger-Prebisch thesis
The Singer–Prebisch thesis postulates that terms of trade, between primary products and manufactured goods, deteriorate in time...
, on the infant industry
Infant industry
In economics, an infant industry is a new industry, which in its early stages is unable to compete with established competitors abroad.Governments are sometimes urged to support the development of infant industries, usually through subsidies or tariffs...
argument, and on Keynesian 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. tariff
Tariff
A tariff may be either tax on imports or exports , or a list or schedule of prices for such things as rail service, bus routes, and electrical usage ....
s), an overvalued currency to help manufacturers import capital goods (heavy machinery), and discouragement of foreign direct investment
Foreign direct investment
Foreign direct investment or foreign investment refers to the net inflows of investment to acquire a lasting management interest in an enterprise operating in an economy other than that of the investor.. It is the sum of equity capital,other long-term capital, and short-term capital as shown in...
.
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 1960s.
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
Singer-Prebisch thesis
The Singer–Prebisch thesis postulates that terms of trade, between primary products and manufactured goods, deteriorate in time...
.
Latin America
Import substitution policies were adopted by most nations in Latin America from the 1930s until the late 1980s. The initial date is largely attributed to the impact of the Great DepressionGreat 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...
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
Populism can be defined as an ideology, political philosophy, or type of discourse. Generally, a common theme compares "the people" against "the elite", and urges social and political system changes. It can also be defined as a rhetorical style employed by members of various political or social...
governments in Argentina (Perón) and Brazil (Vargas
Getúlio Vargas
Getúlio Dornelles Vargas served as President of Brazil, first as dictator, from 1930 to 1945, and in a democratically elected term from 1951 until his suicide in 1954. Vargas led Brazil for 18 years, the most for any President, and second in Brazilian history to Emperor Pedro II...
) had the precedent of Fascist Italy (and, to some extent, of the Soviet Union) as inspirations of state-induced industrialization. Positivist 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 (especially 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
Argentina , officially the Argentine Republic , is the second largest country in South America by land area, after Brazil. It is constituted as a federation of 23 provinces and an autonomous city, Buenos Aires...
economist
Economist
An economist is a professional in the social science discipline of economics. The individual may also study, develop, and apply theories and concepts from economics and write about economic policy...
and UNECLAC head Raúl Prebisch
Raúl Prebisch
Raúl Prebisch was an Argentine economist known for his contribution to structuralist economics, in particular the Singer–Prebisch thesis that formed the basis of economic dependency theory. He is sometimes considered to be a neo-Marxist though this label is misleading...
was a visible proponent of the idea, as well as Brazilian economist Celso Furtado
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...
. Prebisch believed that developing countries needed to create local vertical linkages, and they could only succeed by creating industries that used the primary products already being produced domestically. The tariff
Tariff
A tariff may be either tax on imports or exports , or a list or schedule of prices for such things as rail service, bus routes, and electrical usage ....
s were designed to allow domestic infant industries
Infant industry argument
The Infant industry argument is an economic rationale for trade protectionism. The core 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...
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 Brazil, Mexico, and, to a lesser extent, Chile
Chile
Chile ,officially the Republic of Chile , is a country in South America occupying a long, narrow coastal strip between the Andes mountains to the east and the Pacific Ocean to the west. It borders Peru to the north, Bolivia to the northeast, Argentina to the east, and the Drake Passage in the far...
, Uruguay
Uruguay
Uruguay ,officially the Oriental Republic of Uruguay,sometimes the Eastern Republic of Uruguay; ) is a country in the southeastern part of South America. It is home to some 3.5 million people, of whom 1.8 million live in the capital Montevideo and its metropolitan area...
and Venezuela
Venezuela
Venezuela , officially called the Bolivarian Republic of Venezuela , is a tropical country on the northern coast of South America. It borders Colombia to the west, Guyana to the east, and Brazil to the south...
, had the most success with ISI. 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
Ecuador
Ecuador , officially the Republic of Ecuador is a representative democratic republic in South America, bordered by Colombia on the north, Peru on the east and south, and by the Pacific Ocean to the west. It is one of only two countries in South America, along with Chile, that do not have a border...
, Honduras
Honduras
Honduras is a republic in Central America. It was previously known as Spanish Honduras to differentiate it from British Honduras, which became the modern-day state of Belize...
, and the Dominican Republic
Dominican Republic
The Dominican Republic is a nation on the island of La Hispaniola, part of the Greater Antilles archipelago in the Caribbean region. The western third of the island is occupied by the nation of Haiti, making Hispaniola one of two Caribbean islands that are shared by two countries...
, could only implement ISI to a limited extent. Peru
Peru
Peru , officially the Republic of Peru , is a country in western South America. It is bordered on the north by Ecuador and Colombia, on the east by Brazil, on the southeast by Bolivia, on the south by Chile, and on the west by the Pacific Ocean....
implemented ISI in 1961, and the policy lasted through to the end of the decade in some form.
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
Neocolonialism
Neocolonialism is the practice of using capitalism, globalization, and cultural forces to control a country in lieu of direct military or political control...
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
Businessperson
A businessperson is someone involved in a particular undertaking of activities for the purpose of generating revenue from a combination of human, financial, or physical capital. An entrepreneur is an example of a business person...
.
Many economists contend that ISI failed in Latin America, being one of many factors leading to the so-called lost decade
Latin American debt crisis
The Latin American debt crisis was a financial crisis that occurred in the early 1980s , often known as the "lost decade", when Latin American countries reached a point where their foreign debt exceeded their earning power and they were not able to repay it.-Origins:In the 1960s and 1970s many...
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 stood at 6 percent or higher.
East Asia
ISI was rejected by most nations in East Asia in the 1960s, and some economistEconomist
An economist is a professional in the social science discipline of economics. The individual may also study, develop, and apply theories and concepts from economics and write about economic policy...
s 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.
Most "East Asian Tigers
East Asian Tigers
The Four Asian Tigers or Asian Dragons is a term used in reference to the highly developed economies of Hong Kong, Singapore, South Korea and Taiwan. These nations and areas were notable for maintaining exceptionally high growth rates and rapid industrialization between the early 1960s and 1990s...
" rejected import substitution policies, though they 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. This export promotion approach to industrialization in the East asian countries contrasts with the strategy of ISI. 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.
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.
Crises of import substitution
ISI also had a number of undesirable effects :1.Chronic problems with the balance of trade and payments:
Import substitution was supposed to reduce reliance on world trade, but every nation needs to import something not available locally like raw materials, machinery, spare parts. The more a country industrialized the more it needed these imports and ISI was strongly biased against exports. Trade protection and overvalued exchange rates raised domestic prices and made export less competitive, and export taxes furthermore discouraged foreign sales. So the industrializing countries were unable to export enough to buy the imports they needed.
2.Deep recessions:
The faster the economy grew, the more it needed imports; but exports could not keep up with the pace of imports and so the country ran out of foreign currency. So what the governments did was to restrict import to essentials and raised interest rate to bring money into the country and keep it at home. It devalued the currency to raise the price of imports and make exports more attractive also reducing the countries purchasing power, which resulted in usually deep recessions.
3.ISI countries tended to run substantial budget deficits and inflation:
Government subsidized industrial investments gave tax breaks to industrial investors and targeted spending at politically important groups but such spending chronically outpaced government revenue , and these budget deficits were usually covered by printing more money. The result was inflation which made domestic goods more expensive which in turn reduced exports even further.
4.Negative impact on income distribution;
Masses of farmers migrated to the cities in search for jobs in the new industries. But import-substitution growth was very capital intensive. Most of the farmers who flooded into the cities found that they could not get jobs that industrialization had promised. ISI countries ended up with dual economies;
• On the one hand; modern capital-intensive industries with skilled, well-organized workers earning relatively high wages
• On the other hand: a mass of struggling farmers and urban poor frozen out of the modern economy given very low wages and excluded from the social protections which modern sector workers received
See also
- International tradeInternational tradeInternational trade is the exchange of capital, goods, and services across international borders or territories. In most countries, such trade represents a significant share of gross domestic product...
- Singer–Prebisch thesis
- Export-oriented industrializationExport-oriented industrializationExport-oriented Industrialization sometimes called export substitution industrialization or export led industrialization is a trade and economic policy aiming to speed up the industrialization process of a country by exporting goods for which the nation has a comparative advantage...
- Commanding Heights for an exposition of the effects of ISI on Latin American economies
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.
- UNDP Paper