The case of Infant Industry

The infant industry argument is often used to portray a seeming market failure. Since Colbert in France and later in England with Hamilton in the 1780-90’s, taxpayers have been taught that, in the interest of the whole country, the government should protect its nascent industry for the sake of nationwide employment and international fair competition. Indeed, if there is no room for a new industry to survive in the market, because of lower economies of scale and higher marginal costs compared to its direct competitors, we may end up with ‘unfair competition’, if no competition at all, due to the death of the industry. The role of the government is then to bring this industry into being, until it will be able to compete fairly, by subsidizing it.

First, some historical examples which ‘proves’ that we can benefit from this protectionist measure merely shows that protected industry finally have driven out of the market its previous competitor. This is the case, for instance, of General Motors and Toyota, where the latter enjoyed subsidies, besides no domestic competition, from the Japanese government during the 1930’s and long after. The Japanese car industry is nowadays the worldwide leader while General Motors is struggling to avoid bankruptcy for years now. In addition, the success of Toyota might also be related to the soar of gas prices in the 1970’s and a new business model developed in the 1990’s. Porter and Takeuchi write:

“Our studies thus conclude that the government model played little if any role in the successful industries, with scarcely any intervention, few cartels, and scant cooperative R&D. Among the failures, the government model prevailed, with numerous cartels, widespread cooperation, and rampant intervention in competition. If anything, the Japanese government model is a cause of failure, not of success.”

The ‘what is not seen’ part of the story, to paraphrase Bastiat, is that governments mooch the taxpayers to subsidize those less efficient industries for years. Therefore, the interest of the consumer (having cheaper or higher quality goods) is overridden by the discretion of some governmental officials’ decisions. This huge misallocation of resources is often and sadly overlooked because of the mercantilist fallacy of the infant industry argument.

Second, it pertains to the understanding of the concept of competition. It does not start with equal endowment for each player. Would you imagine a race where the runners are all running at the same speed? Competition is instead a ‘discovery procedure’ and entrepreneurs have a great role to play in this process. The entrepreneur is the person who will discover potential niches because of his ‘alertness’, as explains Kirzner superbly. What is thus needed for a well functioning competition is, among other things, an equal access to the market. Protectionism is therefore everything but the right answer to develop prosperity, as long as the latter is channel by having a free market.  Thousands of companies are created every day. Why only few of them would need to be subsidized then? Free markets provide a solution for new industries, i.e. loans. Based on profit maximization rationale, the loan will be granted only to companies which have the greatest chance of success, while subsidies are usually based on government discretion. If this is not the case, at what cost for the individuals?

To draw the parallel, the infant industry would be like a graduated student offering his labour force for the first time. His lack of experience has often been emphasized and a potential employer would not be so keen to hire him if his application is competing with someone who has longer experience. Following this line of reasoning, the government should subsidize these students until they grew up enough. But this is not going to happen sometime soon.

To conclude, ‘laymen’, before arguing in favour of protectionist measures, should recall Murray Rothbard:

“It is no crime to be ignorant of economics, which is, after all, a specialized discipline and one that most people consider to be a ‘dismal science.’ But it is totally irresponsible to have a loud and vociferous opinion on economic subjects while remaining in this state of ignorance.”

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Lucas Leger works at the European Chamber of Commerce in Beijing, where he takes care of the lobby activities of various European industries settled in China, including the Auto, Pharmaceutical and Private Equity sectors. Lucas holds a BA in Applied Economics from France and a LL.M in Law & Economics from the Universities of Rotterdam, Hamburg and Haifa. He has been working in China for more than a year and a half.