National industrial policies can be effective, but they carry risks: IMF

More countries are seeking to reshape their economies using public support for specific firms and sectors, but subsidies and other industrial policies can be costly and may not be effective unless carefully utilized, the IMF said on Friday.

The International Monetary Fund, in a chapter of its forthcoming World Economic Outlook, said industrial policies can help countries bring production onshore and catch up with other global players in a targeted sector, but they can also drive up consumer prices and lead to a misallocation of resources.

The chapter, which examined industrial policies in the European Union, China, Brazil and South Korea, concluded that well-designed and targeted support could help sectors, but subsidies needed to be carefully crafted with clear objectives and implemented alongside structural reforms. It did not include data on recent industrial policy moves in the US.

A global slowdown in growth, rising geopolitical tensions and increasing concerns about risks to supply chains and energy security have led to a sharp increase in industrial policies, which use subsidies and other preferences to aid targeted businesses and boost growth, job creation and greater self-reliance.

A third of all industrial policies implemented between 2009 and 2022 were focused on the energy sector, it said.

To be successful, the IMF said industrial policies should be carefully evaluated, re-calibrated and seek to improve the overall business environment.

The report does not mention the U.S.; the administration of President Donald Trump has adopted some industrial policy tools in recent months, including taking equity stakes in troubled companies like chipmaker Intel.

Even when well-targeted, industrial policies can be costly, the global lender said, noting that it could cost the EU about 0.4% of its annual gross domestic product to fund a clean technology subsidy sufficient to onshore a significant share of production.

China, which has long used industrial policy tools to support prioritized sectors - such as electric vehicles and semiconductors - is estimated to have spent about 4% of its GDP on industrial policies between 2011 and 2023, the IMF said.

Despite some success, structural modeling showed that these policies had lowered China’s total aggregate productivity by 1.2% and its GDP by as much as 2%, the IMF said.

In the EU, state aid to firms peaked at almost 1.5% of GDP in 2022, the IMF said, noting that funds provided by national governments risked skewing competition and eroding the level playing field in the EU’s single market.

It said modeling showed that state aid provided a lift to recipient firms, increasing revenues and employment, but only temporarily. It also tended to crowd out non-recipient firms that operated in the same industry, it said.

If state aid was needed to address specific market failures, this should be done at the EU level instead of by individual member states to mitigate adverse spillovers, the IMF said.

The IMF study included a comparison of industrial policy in South Korea and Brazil in the 1970s, concluding that the Asian country had been more successful in helping to expand targeted industries, boosting manufacturing and GDP.

South Korea pursued an export-oriented model based on large private business conglomerates, while Brazil focused on state-owned enterprises and domestic consumption.

South Korea also created structured oversight and a performance review of its efforts, with export goals ensuring that firms that failed to meet targets risked losing access to state support. Brazil lacked comparable safeguards, it said.

Separately, Zimbabwe’s economic growth is expected to rebound to a 6% rate this year, the International Monetary Fund said, citing improving agricultural production, record-high gold prices and robust remittances from its citizens who live abroad.

Economic growth in the southern Africa nation, which is engaging with creditors to clear arrears and restructure its debt, fell to 1.7% last year, mainly due to a drought that cut crop output and hydroelectric production.

“Despite lingering policy challenges, Zimbabwe is experiencing a degree of macroeconomic stability,” the IMF said in a statement late on Thursday after a review of Zimbabwe’s economy.

The government’s growth forecast for this year is 6.6%. Growth could, however, slow to 3.5% in the medium term, the IMF said, due to persistently low confidence in the “durability” of economic stabilization plans and government reliance on local borrowing, which could squeeze private credit growth.

The government has been issuing Treasury bills to raise funds to pay off a significant build-up in domestic arrears since last year, the Fund said. It called for a tighter fiscal stance to deal with the financing challenges. The government is also still struggling with a gap between its official and parallel foreign exchange rates, the IMF said, in spite of the introduction of a gold-backed currency called the ZIG in April last year.

Reuters