World Bank defends its industrial policy rethink

We didn’t U-turn. The world changed, writes Indermit Gill, the World Bank’s chief economist, in defence of the bank’s controversial March report on industrial policy, “Industrial Policy for Development.”

Common sense beats a retreat when economics turns into orthodoxy. That happened 30 years ago, when the World Bank answered an ancient policy question — should a government ever load the dice in favour of a “strategic” activity? — with a weakly qualified no. And it is happening now, when our answer, derived from a mountain of evidence amassed since then, is a highly qualified yes.

The bank’s reassessment, laid out in “Industrial Policy for Development”, published in March, is being regarded as heresy by some and an epiphany by others. Some headlines have been shrill: “Industrial Policy for Dummies,” said the Washington Post, which mistakenly divines a repudiation of laissez-faire economics in our report. “A Pillar of the Economics Establishment Admits That It Was Wrong,” said the Atlantic.

What the 1993 “East Asian Miracle” report said

“The East Asian Miracle”, the World Bank’s 1993 report on industrial policy, was, as Nancy Birdsall, its acting chief economist at the time, now acknowledges, “a product of its time”. In Washington in the early 1990s, “free markets were taken for granted.”

The report’s conclusion — forged in hot debate within the bank — was that resorting to industrial policy was invariably a costly failure and generally inadvisable for countries that did not have decent education levels, low taxes on agriculture, modest fiscal deficits and moderate inflation. At the time, these conditions characterised much of the developing world. In that context, the advice it dispensed was sensible.

But the 1993 report can leave a reader with the impression that it loaded the dice against industrial policy. It started by defining success — inducing greater productivity growth and altering the output mix from what markets would yield on their own — in a way that was difficult to prove or falsify.

Moreover, the report drew evidence from just a handful of high-performing Asian economies — Japan, three North-East Asian “tiger economies” and four from South-East Asia — without examining lower-performing counterfactuals. Consequently, the report team had to settle for a document that was an “essay in persuasion”.

What changed since 1993

Much water has flowed down the Yangtze since. The World Bank has published 25 policy research reports since 1993, but the use of industrial policy has remained intellectually taboo — even as it proliferated in practice. The most avid practitioner might be China, but it has plenty of company.

A review of the national development strategies of 183 countries for our 2026 report found that all of them targeted at least one industry, with developing countries resorting to industrial policy more frequently than did advanced economies.

Meanwhile, the world changed. Average GDP per head doubled. Schooling levels rose impressively. Inflation rates fell and, with few exceptions, the quality of economic management improved. Many more countries now meet the prerequisites for industrial policy.

Oddly, the World Bank did not seriously reassess industrial policy, even as it became an enthusiastic advocate for social-policy interventions like cash transfers, unemployment insurance and wage subsidies. At the same time, as the economic prospects of developing countries darkened, industrial policies have mushroomed in countries that appear to be doing better than others.

Take special economic zones. China has more than 2,500 SEZs, Turkey about 500, and India and Vietnam each nearly 400. Without seriously assessing the evidence, it would border on malpractice to advise a country that wants to grow faster or create jobs not to have even one SEZ.

What the 2026 industrial policy report recommends

Last year 80% of World Bank country economists reported that client governments asked for their advice — not about whether to do industrial policy, but how to do it more effectively. We responded responsibly.

Our work found that three characteristics define whether and what type of industrial policy a government might consider: domestic market size; the state’s technocratic capacity; and available fiscal space for experimentation and error.

Those traits determine which of 15 possible industrial-policy instruments will work best — ranging from industrial parks and training programmes to import tariffs, production subsidies and competitive currency devaluation. We allowed that industrial policy should be in the toolbox of every country, though not every tool should be used.

Why markets and fundamentals still matter

None of this involves an abandonment of market principles. The use of industrial policy does not relieve governments of responsibility to get the fundamentals right. That includes a healthy and educated workforce, good business regulations, adequate infrastructure for transport and energy, and stable macroeconomics that encourage private savings and investment.

It is not always necessary for countries to possess these virtues before they initiate industrial policy. But, to the extent that governments use industrial policies to buy time, they should commit to getting the fundamentals right so that these interventions remain targeted and temporary.

Industrial policy works neither by diktat from central planners nor by blind faith in markets. China’s best results came from a model that has relied heavily on market competition to discipline firms and shift resources. By 1993, one study found, 90% of prices related to industrial output were determined by market forces rather than by the government.

Like South Korea and other countries that succeeded, China worked hard to improve the overall business climate as a complement to industrial policy.

South Korea, for its part, favoured heavy industries in the 1970s and 1980s; the cumulative cost of this was about 2.4% of GDP in 1973-79 alone. But the benefits exceeded the costs: the country’s GDP today is about 3% higher than it would have been without the subsidies.

There are good reasons to believe that this industrial policy would not have paid off had South Korea not also done many other things in tandem: invest in education and infrastructure, encourage businesses to adopt new technologies from abroad, and force them to compete and innovate. You can argue about whether in this case industrial policy was necessary. But is it reasonable to preach abstinence to a developing country even when the cost-benefit analysis favours its use to improve economic welfare?

A manual to do less, but better

Instead, we encourage governments to assess whether business activities considered critical have been afforded the essential public inputs. They ought then to decide whether there is still a need for incentives to markets, and what devices might work better than others.

We advise them to stay away from macroeconomic interventions such as dual exchange rates, which do not help much but can exacerbate problems like corruption.

Industrial policy belongs in the toolbox of all countries aiming to improve the welfare of their citizens — but there’s a time and place for every tool. Every sharp instrument ought to come with a user’s manual. Our objective was to provide a manual for governments that have already decided to use industrial policy. But the manual does not tell them to do more industrial policy; it tells them to do less while dispensing advice on how to do it better.

Indermit Gill is chief economist and senior vice-president for development economics at the World Bank Group.

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