How does economic development happen? After World War II, many development economists rose to prominence, such as Paul Rosenstein-Rodan (the big push), Arthur Lewis (the dual-sector model), Walter Rostow (the linear stages of growth) and Albert Hirschman (unbalanced growth and linkages). Given the continued importance of industrial policy, it is particularly worthwhile to revisit the idea of forward and backward linkages — one of the central tenets of development thinking pioneered by Hirschman.
In Hirschman’s The Strategy of Economic Development (1958), he proposes an unbalanced growth theory, emphasising specific industries which have particularly strong linkages with the rest of the economy. He argues that a developing country can grow from prioritizing strategic sectors even with a relatively small set of resources to utilize.
Hirschman uses the concepts of complementarity and external economies to support his views on unbalanced growth. Complementarity is an interdependence among industries in the production process and the external economy is the subsequent growth of other industries originating from growth of a given industry. The relationship among domestic industries is known as ‘a domestic linkage’ (sometimes just referred to as linkage). Broadly speaking, there are two kinds of linkages: backward and forward. On the one hand, a backward (input-provision) linkage of a given industry is strong when its growth stimulates the production/use of other upstream industries. An increase in these inputs is thus required to sustain the production process. For example, a rising demand in cars leads to an increase in the demand for automotive parts (e.g., wheels, seats, and thermal). Consequently, when backward linkages are strong, growth fuels the rest of the economy. On the other hand, forward linkage effects occur when the output of an industry becomes the input for other industries. For example, an increased amount of rubber can lead to an increase in the production of goods that use rubber as inputs, such as tyres and gloves. However, growth driven by linkages also hinge upon several factors such as institutions (think of rules that encourage supply management among firms without burdensome red tape) and services (think of infrastructure needed to support several stages of production).
Backward and forward linkages are used to identify ‘key sectors’ to focus on and invest in (Rasmussen, 1956; Hazari, 1970). The key sectors are considered more capable of contributing to growth through their spread effects, compared to low-linkage industries (Yotopoulos and Nugent, 1973). The concept of key sectors was widely used in identifying sector priority in the import-substitution industrialization (ISI) era of the 1950s and 1960s. The objective of ISI was to achieve economic growth through developing domestic capabilities of an economy to produce manufactured goods that used to be imported, so trade barriers had to be erected for that purpose.
The existence of strong linkages was for example used as a criterion to target certain industrial sectors in South Korea. South Korea pursued the Heavy Chemical and Industry (HCI) Drive enacted in the 1970s. During that time, six target industries were selected: (a) iron and steel, (b) non-ferrous metal; (c) machinery; (d) shipbuilding; (e) electrical appliances and electronics; and (f) petrochemicals. Even though this big push in South Korea was temporary, Nathan Lane (2017) finds that its effects are lasting long in targeted industries relative to other manufacturing sectors.
The focus on linkages: Still fruitful today?
In the current era of economic globalization, it is questionable whether the same targeted policy approach of promoting high domestic industrial linkage is applicable and meaningful as policy guidance.
The twentieth century witnessed a radical change in international trade as the production of single goods spans various countries that are part of the global value chain. In other words, thanks to lower costs of communication and coordination, there has been an international separation of factories (Baldwin, 2016). A classic example of this is the production of the Ford Escort whose components come from many countries, including the fan belt from Denmark, the radiator and heater hoses from Austria, the fuel tank from Germany, and the glass from Canada (Dicken, 1986). Another example is how Boeing Dreamliner 787 is manufactured across countries (see figure below).
The break-up of production processes into vertically separated stages carried out in several countries has become a key structural phenomenon of present-day global trade (Krugman, 1995; Jones and Kierzkowski, 2001; Athukorala, 2005; Feenstra, 2009). This phenomenon, which is referred to as ‘global production sharing,” (GPS) opens up opportunities for countries to specialize in different segments of the production process depending on their relative cost advantage and the other economic fundamentals relevant for cross-border spread of production processes. An important facet of GPS is that it expands the choice of development strategies to pursue industrialization.
Without GPS, it would be necessary for developing countries to be proficient in all components of production in order to compete in the global market. However, GPS allows developing countries to join the production networks by focusing only on some tasks. If they can competitively export these components, they this can allow them to grow and produce for a big global market.
Promoting specific industries which have strong domestic linkages can be difficult in several ways under the era of global production sharing. On the forward linkage side, a country can produce a tiny piece of part of hard disk drive and export it to be assembled in another country. This practice naturally sets a limit on domestic forward linkages because this production does not lead to an establishment of further industries in the same country. On the backward linkage side, a final assembly activity in a given country can rely entirely on imported intermediate inputs. This process does not require any domestically produced inputs resulting in low domestic backward linkages. Still, both forms of GPS can create jobs.
Support for sizable domestic linkages can pose another limitation when a country starts to produce more capital-intensive goods due to a rising proportion of capital-intensive intermediates. An example is when the use of synthetic fiber, that is more capital-intensive, was substituted for natural fiber, which requires more labor in its production process. This resulted in a rising capital-labor ratio in many industries, for example, textile, footwear, and electrical equipment. Accordingly, an increased use of domestically produced capital-intensive intermediates in labor-intensive industries can harm employment despite its linkages. It has been considered a curse of developing countries (Little, 1981).
Industrialisation-led development has long been a key strategy for developing countries. Yet, an emphasis on domestic linkages, an interconnectedness among domestic industries, may no longer be relevant. A focus on linkages, which is used as a powerful argument to support active industrial policy, appears to be increasingly difficult in contemporary times, when countries are encouraged to integrate into a highly globalized and fragmented trading system.
Athukorala, P 2005, ‘Product fragmentation and trade patterns in East Asia’, Asian Economic Papers, vol. 4, no. 3, pp. 1-27.
Baldwin, R 2016, The Great Convergence, Belknap Press, Cambridge, MA.
Dicken, P 1986, Global Shift: Industrial Change in a Turbulent World. Harper & Row, London.
Feenstra, R C 2009, Offshoring in the Global Economy: Microeconomic Structure and Macroeconomic Implications, MIT Press, Cambridge, MA.
Hazar, B R 1970, ‘Empirical identification of key sectors in the Indian economy’, Review of Economics and Statistics, vol. 52, no. 3, pp. 301-305.
Hirschman, A O, 1958, The Strategy of Economic Development. Yale University Press, New Heaven, CT.
Jones, R W & Kierzkowski, H 2001, ‘A framework for fragmentation’, in Fragmentation: New Production Patterns in the World Economy (eds Arndt, S W & Kierzkowski, H), Oxford University Press, New York.
Krugman, P 1995, ‘Growing world trade: Causes and consequences’, Brooking Papers on Economic Activity 1: Macroeconomics, 25th Anniversary Issue, pp. 327-377.
Lane, N 2017, ‘Manufacturing revolutions: The role of industrial policy in South Korea’s industrialisation’, Retrieved from https://voxdev.org/topic/firms-trade/manufacturing-revolutions-role-industrial-policy-south-korea-s-industrialisation
Little, I M D 1981, ‘The experience and causes of rapid labor-intensive development in Korea, Taiwan Province, Hong Kong, and Singapore and the possibilities of emulation’, In: Export-led industrialization & development (ed Lee E.), pp. 23-45. Geneva: International Labor Organisation.
Newfarmer, R S, Page, J & Tarp, F (2018), ‘Industries without smokestacks: Industrialization in Africa reconsidered’, Oxford University Press, Oxford.
Rasmussen, P N 1956, Studies in Intersectoral Relations. North-Holland Publishing Company, Amsterdam.
Yotopoulos, P A & Nugent, J B 1973, A balanced-growth version of the linkage hypothesis: A test. Quarterly Journal of Economics, vol. 87, no. 2, pp. 157-71.
Wannaphong Durongkaverojis a PhD candidate at Arndt-Corden Department of Economics, Crawford School of Public Policy, College of Asia and Pacific, The Australian National University (e-mail address: firstname.lastname@example.org). Photo by Ivan Bandura.