To promote economic growth and inclusion, the tools of industrial policy must be oriented towards micro-, small- and medium-sized enterprises by targeting firms with high-productivity potential and addressing their growth constraints.
Creating jobs by focusing on firms
If we were to play a word association game, there’s a good chance that the word “jobs” would be followed by “workers.” In terms of policy, this would inevitably imply interventions such as training and apprenticeship programmes that target workers’ skills. As important as such programmes are – particularly labour market intermediation and wraparound services – there’s evidence that interventions that focus solely on the supply side of the labour market have limited impacts on employment and earnings and are seldom cost-effective (Carranza and McKenzie 2024, Blattman and Ralston 2015). While continuing to keep worker needs at the centre, we need to refocus efforts on creating jobs. The more appropriate word association then is “firms” – specifically micro-, small-, and medium-sized enterprises (MSMEs), which account for over 70% of employment globally (ILO 2022).
Micro-, small- and medium-sized enterprises in developing countries
MSMEs face a variety of constraints – ranging from their internal organisational dynamics (such as leadership and management, technology inputs, and financial investment) to external environment factors (including access to markets, networks, regulation, and infrastructure). The productivity of MSMEs is typically a fraction of large firms. Importantly, though, the phrase “MSME” encompasses a heterogenous universe of firms (Diao et al. 2019). It includes owner-employed firms and micro enterprises, many of which exist due to the lack of external employment opportunities. On the other hand, it also comprises what David Birch famously called “gazelles” or high-growth young firms, which contribute the most to employment growth.
From an economic development perspective too, this category of firms is increasingly pertinent. The development differentials between the US and emerging economies, such as Colombia, may be attributable to the lack of such high-growth entrepreneurship and the greater probability of survival for small, unproductive firms (Eslava et al. 2019). For reasons of both inclusion and productivity then, the tools of industrial policy must be oriented towards MSMEs. The idea here isn’t to provide blanket subsidies to all MSMEs. Instead, productivity-enhancing policies for MSMEs should first identify and target firms that have the potential to be productive and then provide customised inputs to address their growth constraints. In a new paper, we have provided a taxonomy and illustrations of different types of programmes of this type (Rodrik and Sandhu 2024).
How can policymakers identify potentially productive firms?
One approach to target MSMEs is through business plan competitions that allow firms to self-select through an application process. The Youth Enterprise With Innovation in Nigeria Programme (YouWIN!), for instance, involved a multi-stage process comprising an initial application, training, detailed business plans, and evaluation and selection. Successful applicants were eligible to receive up to 10 million naira ($64,000 at the then-exchange rate) in grants, depending on their business plans and conditioned on specific activities they needed to undertake. Winners also received one-on-one mentoring from local experts and bootcamp sessions on topics such as business planning, operations, finance, and communication. Evaluations of the programme reveal that it both was able to attract entrepreneurs who invested in high innovation, and had significant positive impacts on the rate of business start-up, employment, profit, and survival of existing firms (McKenzie 2017).
Another mechanism to target MSMEs is through partnering with large incumbent firms and supporting their supply chains. In Chile, the World Class Suppliers Programme – implemented by one of the largest mining firms BHP-Billiton, and subsequently by the state-owned Codelco – seeks to expand the innovative capacity of local suppliers in the mining sector. These large firms define specific technological and operational challenges, select suppliers who express an interest and ability to tackle them, and then collaborate with the suppliers to develop solutions, providing managerial, technical, and financial support. Assessments find that the programme has been highly selective, choosing 100 participants so far from over 6000 suppliers. Those selected tend to be more skill intensive and export-oriented than the typical firm (Navarro 2018).
How can policy support the growth small businesses?
While the World Class Suppliers Programme has been successful in piloting technological solutions, their scaling and internationalisation have been constrained by more systemic barriers and coordination challenges. This underscores the role of government and policy. A large-scale strategy that brings many of these competitive and partnership-based elements together is China’s industrial policy framework that designates high-tech SMEs as Innovative, Specialized, Little Giants, and Manufacturing Champions, with the opportunity for firms to graduate from the former to the latter categories over time. The objective is to nurture a league of internationally competitive SMEs. This is implemented as a continuous competition-based process – and even after receiving a designation, firms must keep competing to retain it – involving multi-level evaluation and cultivation at the national and local levels (Brown et al. 2023). Once firms are identified, they receive a whole suite of support, comprising subsidies, R&D, financing, and mentoring. The programme has also brought in a network of national and local banks and financial institutions, large firms to serve as clients and mentors, and universities and research institutions.
The implementation of this ambitious policy is of course undergirded by very sophisticated state capacity, including the strength of China’s provincial apparatus, local autonomy, experimentation, and iteration. Both the innovative and specialised SME categories are determined at the provincial level. While such capacity does not exist across the world, state capacity is a muscle that develops as it is exercised. The other examples we describe point to how the principles of this more comprehensive MSME support strategy can be adapted on different scales, and in more defined and time-bound programmes. There is also a critical role for non-government stakeholders.
Governments as venture capitalists?
What’s common across these approaches – big and small – is that they nudge us to think of MSME support policies in terms of firms’ productivity constraints. More importantly though, they call on governments to play the role of an accelerator or venture capitalist, in terms of both identifying high-potential firms and providing them the support they need to grow. This accelerator framework also serves as a helpful reminder, to evaluate the success and failures of industrial policies at the level of portfolios, rather than individual investments.
References
Birch, D G W (1987), "Job Creation in America: How Our Smallest Companies Put the Most People to Work", University of Illinois at Urbana-Champaign's Academy for Entrepreneurial Leadership Historical Research Reference in Entrepreneurship.
Blattman, C and L Ralston (2015), "Generating Employment in Poor and Fragile States: Evidence from Labor Market and Entrepreneurship Programs", SSRN Electronic Journal, 2622220.
Brown, A, F Chimits, and G Sebastian (2023), "ACCELERATOR STATE: How China fosters ‘Little Giant’ Companies", MERICS. https://merics.org/sites/default/files/2023-11/MERICS%20Report%20Accelerator%20State_final.pdf
Carranza, E and D McKenzie (2024), "Job Training and Job Search Assistance Policies in Developing Countries", Journal of Economic Perspectives, 38(1): 221-244.
Diao, X, J Kweka, M McMillan, and Z Qureshi (2020), "Economic Transformation in Africa from the Bottom Up: New Evidence from Tanzania", The World Bank Economic Review, 34(Supplement_1): S58–S62. https://doi.org/10.1093/wber/lhz035
Eslava, M, J C Haltiwanger, and A Pinzón (2019), "Job creation in Colombia vs the US: 'up or out dynamics' meets 'the life cycle of plants'", National Bureau of Economic Research, w25550.
ILO (2022), "Guide to Recommendation 189: Job creation in small and medium sized enterprises Recommendation", International Labour Organization.
McKenzie, D (2017), "Identifying and Spurring High-Growth Entrepreneurship: Experimental Evidence from a Business Plan Competition", American Economic Review, 107(8): 2278-2307.
Navarro, L (2018), "The World Class Supplier Program for mining in Chile: assessment and perspectives", Resources Policy, 58: 49-61.
Rodrik, D and R Sandhu (2024), "Servicing Development: Productive Upgrading of Labor-Absorbing Services in Developing Economies", CEPR Discussion Paper 19249.