Growth through Innovation An Industrial Strategy for Shanghai By Shahid Yusuf Kaoru Nabeshima April 22nd, 2009

1 Easterly and others (1993) showed that for most countries, periods of fast or slow growth have tended to be temporary with countries reverting to a global mean rate after a brief period. The correlation in rates of growth between successive periods is close to zero.

2 The Pearl River Delta covers an area of over 40,000 sq km and has a population of 41 million (Yusuf 2007). Two-thirds of PRD’s GDP comes from just four cities: Guangzhou, Shenzhen, Foshan, and Dongguan (World Bank 2009a).

3 See Yao and Ning (2008) and P. Hu (2007) for a recent analysis of the industrial dynamic in Yangtze River Delta.

4 Some of the increase, of course, would derive from an appreciation of the exchange rate.

5 The services sector was given priority by the Shanghai authorities starting with the Shanghai’s 8^th Five Year Plan (1985-1990).

6 The mid-term evaluation of the 11^th Five Year Plan of China (covering the time period 2006-2010) reveals that while the growth of high-tech industry has been impressive, it falls short of expectations. The target was for high-tech industry to account for 10 percent of the value-added. However, by 2006 its share was 5 percent and a doubling in four years is unlikely (World Bank 2008b).

7 See for instance, Brandt and Rawski (2008), Naughton (2007), Yusuf, Nabeshima and Perkins (2005), Holz (2008) and Lin, Cai and Li (2003).

8 Allen Scott (2001 2001b, p.813) extends the concept of a global city, “As a cosmopolitan metropolis , a command post for the operations of MNCs, a center of advanced services and information processing activities, and a deeply segmented space marked by extremes of poverty and wealth, to incorporate the notion of a wider (urban) region as an emerging political economic unit with increasing autonomy of action on the national and world stages”.

9 Rural reforms, which spearheaded China’s reforms and were responsible for the growth spurt (7.7 per cent per annum) during 1979-84, are described by Perkins and Yusuf (1984), Carter, Zhong and Cai (1996), and J. Huang, Otsuka and Rozelle (2008).

10 For a brief history of the term Big Push coined by Paul Rosenstein-Rodan in 1943 and elaborated by Murphy, Shleifer and Vishny in 1989, see Yusuf (2009a) and Easterly (2006).

11 The extensive involvement of foreign firms in China’s export oriented industrialization was neither planned nor anticipated when reforms were initiated. It evolved over time.

12 China’s opening up is described by Kleinberg (1990) and the positive effects of trade of industrial production in cities is estimated by Wei (1993). Initially the opening aroused opposition within the country, however, following Deng Xiaoping’s intervention in 1984 and the creation of 14 open cities, the process acquired new momentum (Lai 2006). See also D. Comin and Hobijn (2004) on the positive effect of increased trade and human capital on technology adoption.

13 Trade is one of the conduits for technology transfer, especially technologies embedded in capital goods (D. T. Coe and Helpman 1995; D. T. Coe, Helpman and Hoffmaister 1997; Eaton and Kortum 1999;2001).

14 FDI inflow is another important avenue of technology transfer. However, the empirical findings to date present a mixed picture (B. Aitken, Hanson and Harrison 1997; B. J. Aitken and Harrison 1999; Blomstrom and Sjoholm 1999; Haddad and Harrison 1993). For a survey of technology transfer via FOT, see Saggi (2006). The literature mainly focuses on the flow of spillovers from MNCs to local firms. However, it is also possible to have spillovers from local firms to MNCs. See Yingqi Wei, Liu and Wang (2008) on the case of China. A number of different avenues for technology spillovers have been identified: demonstration effects, vertical linkages, circulation of workers, and managerial capabilities (Smeets 2008). Demonstration effects are often measured as the change in productivity of firms in the same sector (horizontal spillovers). Griffith, Redding and Simpson (2002), Griffith, Redding, and van Reenen (2004), Castellani and Zanfei (2003), and Peri and Urban (2006) note that increased FDI results in a positive effect on the productivity of the local firms (relative to the best performance within the same industrial category). However, using design patents as the measure, Cheung and Lin (2004) found evidence of increased FDI leading to a rise in the number of design patents that can be most easily copied. Vertical spillovers seem to be more prevalent mode. Javorcik (2004) finds evidence on positive impact through backward linkages only. Vertical (inter-industry) spillovers through increased demand for intermediate inputs were also found by Javorcik and Spatareanu (2008) under the condition of joint ownership, while the horizontal (intra-industry) impact was negative. Kugler (2006), Bwalya (2006) and Schoors and van der Tol (2002) also find evidence of positive backward linkages. However, Blalock and Gertler (2008) and Javorcik and Spatareanu (2005) point out that local firm productivity increases might be a consequence of intentional technology transfers rather than spillovers. Circulation of workers among foreign and domestic firms seem to be broadly productivity enhancing, although such positive spillovers occur only when workers are moving within a single industry or related industries (Gorg and Strobl 2001). Knowledge spillovers are confined in rather small areas. Proximity is important (Barrios, Bertinelli, and Strobl (Barrios, Bertinelli and Strobl 2006), Girma and Wakelin (2007), and Nicolini and Resmini (2007)). Moreover, even if there are many MNCs willing to assist local firms through backward linkages, and these firms are located close to each other, local firms need to have a certain level of absorptive capacity (as noted by Cohen and Levinthal 1990). Girma (2005) and Girma and Gorg (2007) show that the mediating effect of knowledge spillover is maximized at intermediate levels of absorptive capacity. Smeets (2008) concludes by pointing out that the effect of FDI depends on spillover channels, mediating factors, and FDI heterogeneity, which coexist and interact in determining the extent of knowledge spillovers. According to Wei and Liu (2006) and Liang (2008) theoretical and empirical research should therefore try to address these aspects simultaneously.

15 Access to the markets of developed countries frequently depends upon entry into the global value chains of core firms from industrialized economies (Nolan, Zhang and Liu 2008). See Li and Lin (2006) and Fung, Fung and Wind (2008) on the mutually reinforcing interaction between global value chains, the increasing logistical sophistication of producers and the effective assimilation of IT, the science and art of networked logistics, and flexible manufacturing in East Asia.

16 See R. E. Hall and Jones (1999); Diego Comin, Hobijn and Rovito (2004; 2008) on lags in technology adoption and their implications for TFP.

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