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ISRAEL15 Prof. Ricardo Hausmann -2-
Agenda
•Between Growth and Leapfrog ( קפיצת(מדרגה
•Leapfrog Mechanics: Implications for Israel
•Challenge of Public/Private Cooperation
•Is there a Leapfrog Recipe?: The Problem with the Washington Consensus
•Political Challenges
ISRAEL15 Prof. Ricardo Hausmann -4-
Israeli Growth, Observations0
.2
.4
.6
.8
Inco
me
Pe
r C
apit
a R
ela
tiv
e to
th
e U
S
1950 1960 1970 1980 1990 2000Year
Israel leapt between 1950-70;
Since 70s stuck at 50% US;
No gain compared to West Europe;
~10 countries leapt e.g. Ireland, SK;
Israel has constraints yet did better than many countries without resources;
Could it do better?
US Benchmark (=1)
Luxemburg (=1.2)
ISRAEL15 Prof. Ricardo Hausmann -5-
0.
2.
4.
6.
8
1950 1960 1970 1980 1990 2000year
Some countries have been able to do better
Israel
Ireland
S. Korea
US Benchmark (=1)
Luxemburg (=1.2)
Inco
me
Pe
r C
apit
a R
ela
tiv
e to
th
e U
S
ISRAEL15 Prof. Ricardo Hausmann -7-
How do countries grow
1. Increasing Quality of Existing Products
2. Moving to More Sophisticated Products
3. Inventing New Products
ISRAEL15 Prof. Ricardo Hausmann -8-
Sophistication of exports is measured as the income per capita of countries with a comparative advantage in the country’s export basket
Rich Countries Produce Rich Country Goods Relationship between per-capita GDP and EXPY, 2003
• Rich countries do not just produce more of the same
•They produce different goods
• To grow rich, countries need to change what they produce and export
ISRAEL15 Prof. Ricardo Hausmann -9-
Sophistication in 1992
Gro
wth
in
1992-2
004,
con
trollin
g f
or
init
ial in
com
e
Sophistication Today Determines Tomorrow’s Growth: Countries become what they export
e( g
row
thgd
p | X
,lexp
y199
2 ) +
b*l
expy
1992
lexpy1992
Residuals Linear prediction
8.10487 9.83871
.31443
.429625
MDG
PRY
BGD
JAM
ECU
BOL LCA
LKA
COL
HTI
PER
KEN
IDN
BLZ
CHL
DZASAU
OMNTUR
TTO
IND
GRC
ROM
THA
CYP
CHN
HRV
PRT
MYS
BRA
HUN
AUS
MEX
ESP
KOR
NZL
SGP
NLD
CANUSADNKSWE
DEU
IRL
FINISL
CHE
Strong evidence that countries converge to the level of income of the countries they compete with.
ISRAEL15 Prof. Ricardo Hausmann -10-
Israel’s Export Sophistication is Mixed
ARG
AUS
AUTBEL
CAN
CHE
CHL
CRI
CZE
DEU
DNKESP
EST
FINFRAGBR
GRCHRV
HUN
IRL
ISL
ISRITA
JPN
KNA
KOR
LTU
LUX
LVA
MEX MLT
MUS
MYS
NLD
NOR
NZLPOL
PRT
ROM
RUS
SAU
SGPSVK
SVN SWE
TTOURY
USA
ZAF
ISR_no_diamonds
ISR
9.2
9.4
9.6
9.8
1010
.2ln
expy
ppp
9 9.5 10 10.5 11
Log of GDP per capita at PPPLog
of
EX
PY
at
PP
P (
exp
ort
sop
his
ticati
on
)
ISR, No Diamonds
ISR, With Diamonds
ISRAEL15 Prof. Ricardo Hausmann -11-
Exports of business, professional and technical services to the US are outstanding
ARG
AUS
BRA
CAN
CHE
CHL
CHN
DEU
ESP
FRA
GBR
HKG
IDNIND
ISR
ITA JPNKORMEXMYS
NLD
NOR
NZLPHL SAU SGPTHA VENZAF
05
000
100
001
5000
200
002
5000
exp
ort
spc
6 7 8 9 10 11lngdppc
Exports per capita (per million) of ‘other professional and technical services to businesses’ in the US, 2005 (BEA)
ISRAEL15 Prof. Ricardo Hausmann -12-
How To Advance? Monkeys & Trees
Our metaphor:• Products are like trees• Firms are like monkeys
• Structural transformation: process whereby monkeys move from the poor part to the rich part of the forest• Easier for monkeys to jump short distance (i.e. to change to products that use similar capabilities)
ISRAEL15 Prof. Ricardo Hausmann -13-
Increasing Quality of Existing Products is relatively Easy and Fast
ISRAEL15 Prof. Ricardo Hausmann -15-
Israel – at The Top of Its Trees
Room for Quality Upgrading (1998-2000 uv gap avg)
0
0.5
1
1.5
2
2.5
3
3.5
4
KOR CAN SGP NZL NLD FIN GBR IRL PRT ISR
ISRAEL15 Prof. Ricardo Hausmann -16-
Moving to different products is more difficult
New products face a chicken and egg problem:• Why create inputs for an industry that does not exist?• How can the industry exist, if the inputs are not there?
In practice, new products use inputs that have been accumulated to serve other “nearby” products• This creates very strong path dependence
ISRAEL15 Prof. Ricardo Hausmann -17-
Comparatively, Israel is in a sparse part of the forest
ALB
ARG AUS
AUTBEL
BGR
BLZ
BRB
CAN
CHE
CHL
CHN
CRI CYP
CZE
DNK
ECU
ESP
EST
FIN
FRA
GBR
GEO
GRC
HKG
HND
HRVHUNIDN
IRL
ISL
ISR
ITA
JPN
KORLTU
MDA
MDV
MEX
MLT
MUS
MWI
NER
NIC
NLD
NOR
NZL
PHL
POL
PRT
ROM
SGP
SVK
SVNSWE
TGO
TUN
TUR TWN
URY
USA
VEN
ZAF
01
0000
002
0000
003
0000
004
0000
005
0000
00o
pen_
fore
st1b
0 10000 20000 30000 40000real GDPpc constant prices (chain), PWT
ISRAEL15 Prof. Ricardo Hausmann -18-Space to improve quality
Ease t
o ju
mp
to n
ew
p
rod
ucts
: op
en
fore
st
Low High
Low
High
Bridge over troubled waters
Strategic betsLittle space to improve
quality and few nearby trees
Stairway to heaven
Parsimonious industrial policy
Help jump short distances to other products
Let it be
It ain’t brokeAmple space to move
in all directions
Hey Jude: make it better
Competitiveness
policyImprove the quality of what
already exists
Types of Product Spaces
ISRAEL15 Prof. Ricardo Hausmann -21-
The Israeli R&D Miracle: highest R&D spending in the world
National Expenditure on R&D aNational Expenditure on R&D as percentage of GDP, s percentage of GDP, 20032003
0.60.9 1.0 1.1 1.1
1.31.6 1.6 1.6 1.7
1.9 2.02.2 2.2
2.5 2.6 2.6
3.1
3.53.7
4.5
0
0.5
1
1.5
2
2.5
3
3.5
4
4.5
5
Source: CBS, BoI.
Interpreting the Miracle:• Most is private• Reflected in exports, FDI and M&A
S. Fischer – Israel Hi-Tech Conference June 2007
ISRAEL15 Prof. Ricardo Hausmann -22-
Two possible scenarios
The R&D boom was ignited because of serendipitous reasons (military procurement) but now can be sustained for a very long time because it has developed all the institutions that sustain it
Universities, global markets, venture capital
The R&D boom will fizzle out because it is relatively concentrated in a few areas that were initially favored (ICT), as more countries enter and more applications are developed, the sector will mature
ISRAEL15 Prof. Ricardo Hausmann -24-
Fiscal Discipline
Reorientation of Public Expenditure
Tax Reform
Financial LiberalizationOpenness to
DFI
Privatization
Deregulation
Secure Property Rights
Washington
Consensus
Washington Consensus: All Reforms are Equal
Checklist Approach is Wrong!
Reform as much and as best as you canWorking Assumptions: Any reform is good The deeper the better The more areas reformed, the
better
The theory of second-best Latin America since 1990 Policy dimensionality is high Low social conflict
Macro stability
Infrastructure
Human capital
Low taxes
Finance
ISRAEL15 Prof. Ricardo Hausmann -25-
Reforms are Contextual
Removing Binding Constraints
Working Assumptions: Policy problems are
“high dimensional” Identify most binding
constraints on economic activity
Expend scarce political capital on those reforms only
Low
socia
l con
flict
Macro
sta
bility
Infra
stru
ctu
re
Hu
man
cap
ital
Low
taxes
Fin
an
ce
Get the Biggest Bang for the Buck
ISRAEL15 Prof. Ricardo Hausmann -26-
High cost of financeLow return to economic activity
Problem: Low levels of private investment and entrepreneurship
Low Social Returns
Low AppropriabilityBad
International
Finance
Bad Local
Finance
Poor Geograph
y
Low Human Capital
Bad Infrastruct
ure
Government Failures
Market Failures
Micro Risks:
Property Rights,
Corruption, Taxes
Macro Risks:
Financial, Monetary,
Fiscal
Coordination
externalities
Information
externalities Low
Domestic Saving
Poor Intermedi
ation
Growth Diagnostics: Reforms are Contextual
ISRAEL15 Prof. Ricardo Hausmann -28-
Transformation Requires Public / Private Cooperation
Private Inputs
Information, Incentives, Resources
Public Inputs
Public / Private Cooperation
Exchange of Information / Shared Risks
• How to provide highly specific, high dimensional public inputs that are complements in private production?
• Private inputs: – Prices: information– Profit-motivated firms: incentives– Capital markets: move resources
• Public inputs:– No price: where to get the
information?– What are the incentives?
Political?– Even with incentives, how would
resources move?
ISRAEL15 Prof. Ricardo Hausmann -29-
Four Principles for Public / Private Cooperation
Four principlesTransparenc
yDemands,
evaluations and decisions should
be public knowledge
Open Architecture
Whenever possible, elicit
information about required public inputsCo-financing
Self-Organizatio
nAllow self-
organization around critical
inputs. Imposing “industry”
definitions / requiring
agreement is inefficient
Experimentation and
EvaluationBold moves, tolerance for
failures, frequent
monitoring, correction over
time
ISRAEL15 Prof. Ricardo Hausmann -30-
A robust, flexible structure
No single, top-down institutionAn evolving network of organizations
Specialized bypolicy
instrument
Infrastructure, regulation, labor
training, etc.
Specialized bytype of activity
Sectors of industry, trade, etc.
Examples: NASA and World Bank
ISRAEL15 Prof. Ricardo Hausmann -31-
Some policy initiatives
Code of Dialogue•Open participation•Self-organization•Co-financing•Transparency•Gov: only public goods
Google-likeSearch Mechanisms
•Create search mechanisms•Focus them on space of
possibilities•Empower them to eliminate
obstacles•E.g., Development banks,
Industrial parks
VirtualInter-Ministry
Market •Budgetary mechanism
to create an internal market within the government for public inputs
ISRAEL15 Prof. Ricardo Hausmann -33-
Challenges to creating a broad constituency for leaping
1. Why would society at large support a deep commitment to public-private cooperation if the benefits seem to favor the talented and the lucky? • Perceived as a social
program for the already rich?
• How does society react to Bill Gates or Steve Jobs?
2. Israel has very low labor force participation• Those outside need to
participate, but have less skills than average; thus requires larger wage inequality
• Outside IDF network: Israeli Arabs, religious Jews
3. The likely characteristics of an Israeli leap is intensive in high skills and innovation• Concentrated benefits
4. As structural transformation happens, sectors will be abandoned• Those that compete with
poorer countries
5. Conflict between culture of honest and effective public provision and concentrated gains of private profits