Eight industrial policy hacks: bolstering domestic capability under constrained fiscal conditions

Christopher Day

Australia needs a more deliberate approach to industrial policy to achieve a productivity dividend within tight budget constraints – here’s how.

2 May 2024

Industrial policy in many developed economies, particularly in resource-rich Australia, has suffered from decades of neglect. The view presented by former UK Industry Minister Nicholas Ridley in 1989 – “I’ve got bugger all to do and thousands of staff to help me do it” – epitomises the perspective of governments which viewed their role as staying out the way of market forces which would efficiently determine an economy’s optimal structure.

More recently, weak productivity growth, growing spatial and income inequality, financial instability and growing gaps in strategic capability have raised questions concerning the rationale of rapid deindustrialisation and outsourcing. As NSW Industry Minister Anoulack Chanthivong  phrased it, Industry policy is “back in vogue”. Examples include the United States’ enormous Inflation Reduction Act, the United Kingdom’s Industrial Strategy and Australia’s Modern Manufacturing Strategy.

The challenge for fiscally constrained governments across Australia (both state and Commonwealth) is delivering effective industrial strategies which can be implemented with relatively modest budgets. Australia is competing against economies spending hundreds of billions of dollars on development and upgrading of their industrial bases. Oil rich Saudi Arabia has invested a staggering US$1.3 trillion over the last decade. In contrast, our COVID-era Modern Manufacturing Strategy committed just $1.3 billion.

With such a large funding gap and little prospect of greater fiscal support in the short term, how can Australia compete? The answer lies in leveraging available tools across portfolios and harnessing market forces to foster an environment that creates desirable outcomes.

I construct my eight industrial policy hacks around five pillars.

First, creating and protecting ideas.

  • Hack #1: Protecting Australian intellectual property (IP). IP is an important source of competitive advantage in the modern economy, yet its value is often exploited offshore. When the government supports the development of private sector IP, through initiatives such as grants and tax breaks, incentives must be aligned so that government funded IP is exploited to Australia’s advantage. This can be done through clauses attached to government support where IP ownership proportionally reverts to the government in cases when the company fails, commercialises the technology abroad or is purchased by an overseas buyer. Implementation of this scheme preserves commercial incentives by allowing companies which exploit government supported IP domestically to keep all the proceeds whilst compensating taxpayers for behaviour which undermines the national interest (i.e., when IP is exploited to the benefit of an overseas economy).
  • Hack #2: Pairing leading scientists and engineers with business acumen. Although being a great businessperson or scientist are complementary skillsets, they are rarely found in the same person. Creating channels for individuals with ideas and technology to meet those who can assist in identifying and commercialising these ideas will encourage the formation of high-tech businesses. The government could assist this process by creating databases where scientists and engineers can upload their projects and speak with someone who can assess a technology’s corporate potential and, in promising circumstances, act as a trusted intermediary in identifying required resources to build the company and raise capital. Given that Australian universities conduct over 35 per cent of Australian R&D, having their support in this endeavour will be highly beneficial. Many individuals with the best ideas will not identify the commercialisation potential given that this is not their primary interest. By having informed support at hand, we should observe a higher proportion of outputs from research projects being commercialised.
  • Hack #3: Creating an entrepreneurial culture. Starting a company in a high value-add sector is a foreign concept to most Australians. Changing this will take time and requires individuals to perceive startups as a viable career option. This necessitates a cultural shift where failure that leads to learning is celebrated and rewarded in the job market. Current levels of risk aversion are sending individuals into attractive sectors such as financial services.

How can we create an entrepreneurial culture? People need role models. Asking successful entrepreneurs to do talks and record videos which are played in educational institutions will make starting a company seem like a viable career path and encourage others to give their ideas a go. Integration of entrepreneurship competitions, which mirror the venture capital process (think Shark Tank and Dragon’s Den), and establishment of accelerators such as the University of New South Wales’ Founders and the University of Sydney’s Genesis and Incubate programs will play an important role in promoting a culture of innovation amongst students and fertilising cross-disciplinary collaboration. We need mechanisms to break down silos between STEM and business students.

Second, unleashing new sources of investment.

  • Hack #4: Fix public procurement. Government procurement is a powerful lever that can support domestic innovation and industry. Government can be a testbed which trials and supports innovative domestic solutions. To achieve this, public buyers should be rewarded for taking calculated risks that trial new domestically produced products rather than purchasing “tried and tested products” from overseas.
  • Hack #5: Unlock “patient capital” through Long-Term Asset Funds (LTAFs). LTAFs are regulated investment vehicles designed for investors with long investment horizons. This includes Australia’s $3.5 trillion superannuation industry. By having rules which prevent rapid withdrawals, LTAFs are well placed to make investments in illiquid unlisted assets such as infrastructure, private equity and venture capital. Investments of this nature are more likely to deepen Australia’s capital stock (R&D, commercialisation, etc.) and capability but, historically, have found it more difficult to attract funding.

Third, providing access to high-tech supplies and technologies.

  • Hack #6: Streamlining supply chains. Australia is geographically isolated and lacks deep supplier bases in advanced industries. Ideally, onshore supplier capability should be strengthened, but this will take time. In the interim, enabling Australian firms to access key inputs in a cost effective and timely manner is paramount. This can be achieved by streamlining customs processes, removing import taxes and pooling expenditure in key sectors such as biotech where significant trade barriers remain. Expenditure pooling will enable the negotiation of better prices and break distributor monopolies. For instance, university procurement could be pooled, allowing companies to tag their orders onto these much larger purchases.
  • Hack #7: Support technology clusters. Technology clusters create scale economies across firms which share ideas, talent and resources. Creation of shared spaces, which give firms access to expensive technology which they cannot justify on their own, enables companies to be creative and build capabilities in emerging areas. Places such as Tech Central in Sydney and the Melbourne Biomedical Precinct are examples of clusters which pair successful companies with universities and startups.

Fourth, harmonising standards to facilitate exports.

  • Hack #8: Harmonisation of standards. Use of international standards, or those used by key trading partners, will enable domestic firms to export goods and attract investment (use of international accounting standards makes it easier for foreign investors to assess a company’s potential). Specific Australian standards deter local firms from exporting as they need to redesign and retool products. Aligning domestic standards with the ISO (International Organization for Standardization) enables companies to more readily collaborate with overseas partners. Examples span across manufactured goods, food products, information formatting and the storage and treatment of genetic material. For instance, if our standards differed, biotech companies might not be permitted to export products without having a second facility which meets global standards. This can prove expensive if companies are forced to have two production lines.

And fifth, overcoming structural constraints. In addition to the eight industrial policy hacks presented, five broader changes would assist Australia in building greater industrial capability.

  1. Make reinvestment relatively more attractive than paying out dividends. Australian companies trail their global peers in reinvesting their earnings (R&D, capital spending, etc.). Reinvestment of this nature builds Australia’s capability and strengthens the competitiveness of our firms in the global market. With many of our firms, such as retailers and banks, sheltered in the domestic market, large profits are paid out to shareholders (many of whom are foreign) without significant capital investment. Policies which encourage funds to be invested in lifting firm competitiveness and productivity over payouts to shareholders will benefit the economy. Changes to competition policy may assist where past stricter anti-monopoly laws made it difficult for firms to acquire the technology and innovations of another firm through takeovers. As such, companies had to invest significant resources into in-house R&D to remain competitive.
  1. Energy prices. For a country with both abundant fossil fuels and renewable energy sources, the fact that Australian companies struggle to compete due to high energy prices is quite concerning. Policies which make our energy costs comparable with peer economies would assist in levelling the playing field. Examples include government funded transmission infrastructure to lower the cost of power during the transition towards renewable energy, and extraction licences which ensure local firms can access coal and gas more cheaply than overseas buyers.
  1. Cost of living. Whilst not unique to Australia, high costs of living (particularly housing) are a long-term structural problem as individuals and households need capital to innovate and start companies. When people are stressed about paying mortgages, they are less likely to take the risk of starting a company. This reduces an economy’s dynamism and makes locations such as Sydney uncompetitive.
  1. Build an export mindset. Australian firms generally cater to the domestic market. Greater provision of advice, financing and enabling infrastructure to firms with export potential may assist in lifting export earnings from high value sectors. This will enable these firms to continue developing greater capability. An excellent example is the infrastructure required to take medical research from pilots to large-scale clinical trials. Without such infrastructure, commercialisation is forced to take place overseas – a driving factor behind the Australian Government’s recent decision to allocate $1.5 billion of the National Reconstruction Fund to manufacturing medicine and medical devices onshore.
  1. Attract, spawn and retain commercialisation champions. Organisations and laboratory groups with a successful entrepreneur in their team are far more likely to commercialise their technology. These types of individual have a multiplier effect upon arrival on our shores.

Industrial policy is perceived as expensive. Although many industrial strategy interventions are capital intensive, avenues exist for governments to adjust existing policy settings and support the market at relatively low cost. These industrial policy hacks encourage the development of domestic capability in high value sectors. Success with these hacks may create the momentum for more ambitious industrial strategy.

Christopher Day is passionate about lifting Australia’s economic complexity by better harnessing our research and resources to capture a greater share of global value chains. He has advised on the development of innovation and industrial policies in the United Kingdom, United States and Australia.  Chris completed his PhD in industrial strategy with the Institute of Transport and Logistics Studies, University of Sydney, having graduated with an MPhil from Cambridge and university medal from UTS.

Image credit: Vadimguzhva/Getty Images

Features

  • Jessica Cocks, Rob Ryan and Ben Spence

  • Osmond Chiu

  • Angela Kaplish

Subscribe to The Policymaker

Explore more articles

  • Christopher Day

  • Maxwell Yong

  • Rys Farthing and Lorna Woods

Features

  • Jessica Cocks, Rob Ryan and Ben Spence

  • Osmond Chiu

  • Angela Kaplish

Explore more articles

  • Christopher Day

  • Maxwell Yong

  • Rys Farthing and Lorna Woods

Subscribe to The Policymaker