Chapter 4: On Being Competitive (Cont’d)

Microeconomic Environment Enhancing Competitiveness

The macro environment is important, but it is only the enabling condition. It is at the micro level where the nurturing environment is crucial for enhancing productivity. When individuals and companies are productive—creating increasing output for the same input—only then will this translate into increasing prosperity for that society.

What happens at the local level are eventually reflected nationally, both in economic and non-economic spheres. I illustrate this with the tin industry. Tin has been mined as early as the fifth century in Malaysia, with the element shipped to India for making bronze religious icons. The mining process was primitive—simply panning the tin-laden earth over water—and thus could be done by illiterate and unskilled coolies. Smelting too was equally simple. It was this simplicity in both mining and smelting that attracted hordes of unskilled immigrants from China in the late 19th century.

The industry changed substantially with technology, the vastly more efficient mechanized dredges introduced in 1912. Unlike the primitive hydraulic mining that was very labor intensive (employing thousands) but cheap, these dredges were very efficient but capital intensive (expensive). Only the colonial Brits could afford them, and only they had the skills to operate and manage such sophisticated operations. The far fewer but much more skilled personnel were consequently paid considerably more than the unskilled Chinese coolies. While the coolies barely survived and could only fantasize of someday returning to China, the British miners lived in luxury, frequented their clubs, and took annual Christmas vacations back in old England. They could do that as they were like the American rice farmers discussed earlier in being very productive. One British miner could produce as much tin as a thousand Chinese coolies; he deserved to be paid considerably more.

This had ramifications beyond economics. Those coolies, now displaced from the only vocation they knew, had to leave the mines. Some returned to China, others moved to the towns and tried other endeavors like petty trading. That helped diffuse the increasingly explosive social situation in these congested mines. As could be expected, such large concentrations of human beings created social problems like prostitution, gangs, and secret societies, not to mention the horrendous public health hazards.

Even though the industry employed far fewer workers, nonetheless the country benefited immensely, first by the vastly greater amount of tin mined with the highly efficient dredges, and second, in getting rid of the social pestilence at these overcrowded mines. This is important as most leaders today are obsessed with “jobs, jobs, and jobs.” In this case, losing thousands of unskilled mining jobs was good from all aspects.

Had the colonial government been consumed with such mushy liberal concerns as being “kind” to those displaced workers, and introduced rules preventing their retrenchment, the industry would forever remain hampered and inefficient. Worse, those unskilled Chinese coolies would be perpetually trapped. Because they were forced to leave the mines, they had to venture into other activities. A generation later, their descendents had the Malaysian retail market unto themselves.

The third consequence was the saving of the environment. Hydraulic mining was highly destructive, with entire hillsides washed away and the muddy effluent silting and polluting streams and rivers, with the residue creating dangerous quicksand and other unstable areas.

The focus must be on the all-important issue of increasing productivity; everything else follows from that, including the beneficial effects on society and the environment. There will be inevitable short-term dislocations as unemployment. The solution is not to block such productivity-enhancing innovations but to deal with the dislocations separately.

Imagine the consequences had those dredges been introduced a few decades earlier. For one, it would have obviated the need for bringing in hundreds of thousands of coolies from China, and the subsequent social and economic history of Malaysia would be far different. For another, the country would have been spared the devastating environmental degradations from hydraulic mining.

The microenvironment in which our mines, companies and other enterprises operate must be conducive to enhancing their productivity. We must not hamper productivity-enhancing innovations in the name of some dubious “do good” goals. If having those dredges meant having to bring in massive amounts of foreign capital and investments, so be it. In the long run, that would be far better than having massive migrations of people and the consequent social upheavals.

Next:  Porter’s Business Competitive Index (BCI)

Chapter 4:  On Being Competitive (Cont’d)

Macroeconomic Environment Enhancing Competitiveness

At the macro level, the prime prerequisite for enhancing growth and competitiveness is obvious:  the absence of war, turmoil, or civil disturbance. During such times the nation’s efforts would be directed at non-productive endeavors as killing and destroying. Nothing good could come out of that, the competition being which party could inflict the greater destruction. Besides, money spent on armaments and the military has little multiplier effect, meaning the resulting spending does not percolate or multiply much in the economy.

Had the billions Saddam Hussein spent on his army tanks been diverted to buying tractors for his farmers, Iraq would have had a very productive agricultural sector, and his country would have benefited greatly. The only purpose served by those expensive tanks was as easy target practice for American pilots.

The view that war is good for the economy is an illusion. During the Korean War, Malaysia enjoyed an economic boom with the price of rubber skyrocketing. That war may have been good for Malaysians but it was hell for the Koreans. Malaysians have conveniently forgotten their own hell of World War II.

The “war is good” thinking in economics emerges from the “broken window” effect. [Note:  Not to be confused with the “broken window” syndrome in law enforcement where if minor acts of vandalisms like broken windows were ignored, that would encourage other more serious crimes, and soon a general breakdown of law and order. The American sociologist James Q. Wilson first made this observation. See Chapter 8 under “Institutions of Law Enforcement.” Imagine a storm breaking the window of the local bakery. The baker would now have to spend money to fix it, which money would now flow to the window fixer. He in turn would have to buy the glass window, and thus part of that money would now flow into the glassmaker’s pocket. The glassmaker would now have to order more materials and the money would now flow into the silica miner’s pocket. Thus the money-flow goes on, percolating through the economy. The same dynamics would occur with damages wrecked through war.8

The flaw with this thinking is to imagine what would happen if that window had not been broken. The baker would now spend the money on building an addition. The same multiplier and ripple effect would occur, as with fixing the window except that the baker has now an additional space that he could rent out or expand his business. He would be adding productive capacity instead of merely replacing it.

War activities do not add to the productive capacity; on the contrary, they destroy it. Further, the multiplier effect of military spending is considerably lower. [Not to be confused with the “broken window” syndrome in law enforcement, where if minor acts of vandalisms like broken windows were ignored, that would encourage other more serious crimes, and soon a general breakdown of law and order. The American sociologist James Q. Wilson first made this observation. See Chapter 8 under “Institutions of Law Enforcement.”] When you fire a bullet or drop a bomb, there is no multiplier or any beneficial effect, only destruction.8

Spending on war and the military is wrong morally; it is also economically non-productive.

Yes, there were advances like jet engines and nuclear power from military spending that benefited society. Those benefits are coincidental; we would accrue them just as well if not better without having to go to war, as with the peaceful joint outer space exploration.

The negative effect on the economy applies not only to war but also to civil unrests and disturbances. One of the smartest moves Mahathir did as Prime Minister was to sign the peace treaty with the Malaysian Communist Party (MCP) in 1989. The organization, which once dared to take on the mighty British, was well on its way out save for a few raggedy stubborn old men wandering in the jungle. With that treaty, the government was spared the huge expense of maintaining a military presence near the Thai border. In a magnanimous gesture, even though the MCP was technically defeated and the treaty essentially a surrender document, the government included in it prohibitions against gloating or using any term to suggest the reality—a surrender.9 The proud old men in the MCP maintained their tattered dignity, and Malaysia had peace and its ensuing dividends. The surprise is that this brilliant maneuver by Mahathir is not more widely lauded and appreciated.

Malaysia’s first Prime Minister Tunku Abdul Rahman saw early the wisdom of having peace. After getting a commitment of independence from Britain, he quickly sought the MCP’s leadership for peace talks.10 Tunku was even wiser in that he refused to give away the store in search of peace. He intuitively knew the difference between peace and appeasement. When the Baling Peace Talks collapsed, the Tunku prudently secured a defense treaty with Britain as an insurance policy. Thus a newly independent Malaysia was able to divert funds from the military to schools. The country’s subsequent impressive economic performance was due in large part to that early investment in education.

In contrast, neighboring Indonesia was consumed with buying the latest expensive armaments while its schools and other institutions were left to deteriorate. Today, the difference between the living standards of the two people could not be more different.

Threats to Malaysia’s stability can arise both externally or internally. In the early 1960s there was the needless konfrontasi with Indonesia. That crisis sapped resources from both sides that otherwise could have been devoted to nation building.

All of Malaysia’s neighbors could potentially threaten Malaysia’s stability. Ironically, despite the daily headlines of squabbling with Singapore, I do not consider that tiny republic a threat at all for the simple reason that its citizens are enjoying a First World standard of living and would have the most to lose from hostilities between the two neighbors. Being rationalists, they will restrict their ranting to only verbal volleys across the causeway. The more serious and credible threats come from Indonesia, Philippines, Thailand, and more distantly, China. I will revisit this issue of regional security in Chapter 13.

My Diamond of Development presumes that there is peace and stability, for only then could Malaysia prosper.

Next:  Microeconomic Environment Enhancing Competitiveness

Chapter 4  On Being Competitive

The concept of competitiveness conjures many images. I begin by using the term in its ordinary context, as it is generally understood, and then develop its more specialized meaning.

I am a surgeon practicing in Silicon Valley, California, one of the most competitive healthcare environments. There are more surgeons in the area, both in absolute numbers as well as relative to the population, than in most countries, even those with a far greater population. In addition, there are three excellent tertiary-level hospitals including the world famous Stanford Medical Center within an hour’s drive away.

To be successful, a physician has to be competitive; he or she has to do something well to attract a sufficient number of patients. Stating this obvious fact is not very enlightening, its definition is essentially circular: If you are successful then you are competitive; if you are not successful, then you are not competitive. That is no revelation, nor does it help one in becoming competitive. We have to clarify the term better so others can learn to make themselves competitive.

The American Medical Association has its 3As for a successful private practice:  Ability, Affability, and Availability. Ability is obvious; it is the prerequisite. Without that you would not get your license or hospital privileges. Ability alone is not enough as all the doctors who come here have that. Affability, or your ability to be “nice” and accommodating to your patients, comes next. This can be in the form of your personal demeanor as well as having an attractive office with warm pleasant personnel to greet your patients. As for availability, I made sure that all potential referring physicians know my home and pager numbers, and that they can call me at any time. In the phone book my office phone is clearly marked as a 24-hour number, and I have an answering service so that calls at any time will always be answered by a warm human voice, not a voice mail. I also instruct my answering service on how and when to get hold of me.

Every doctor knows these facts, yet some are not successful. To be successful, you must distinguish yourself on at least one, or possibly two or better yet, all three. To let my colleagues know of my ability, I joined some of the prestigious surgical societies and obtained my fellowship. I also gave seminars and lectures, and listed my professional publications. To increase my profile in the community, I was active in my children’s schools and joined a number of local civic organizations. As for the affability factor, I selected my office in a garden-like professional complex in an established, prosperous middle-class residential area with convenient parking so patients do not have to walk far. This is important, especially for those who had recent surgery. As my town has a significant Hispanic population, I made sure that at least one of my staff speaks Spanish.

I may not be able to compete with those surgeons at Stanford on the number of papers published, but my patients sure do not complain of difficulty finding a parking spot or getting hold of me. To succeed, I do not have to be the “best” in all three or even one, rather I should distinguish myself in some ways so that enough patients would see me. In my limited sphere of private practice, that is the meaning of being competitive.

Looking At Competitiveness

More broadly, the concept of competitiveness can be looked at three different levels. First is the level of the individual; next where individuals come together for a common purpose (team, company, organization); and lastly, as a society.

An individual is competitive when he or she is better than most at a certain activity. A competitive swimmer is one who has won competitions. Competitiveness is defined as one’s performance in relationship to others. This implies ranking, which some may find abhorrent as it connotes an animalistic image of us clawing against each other to be ahead. This is the image the world has of Americans, and justifiably so, of individuals aggressively pitting against each other, the very antithesis of cooperation.

This concept of competitiveness brings to mind the story of the two hunters chased by a hungry bear. As the animal was fast catching up, one hunter turned to the other and said, “There is no way we can outrun the beast. Let’s think on how to frighten it away.” His companion retorted, “I am not trying to outrun the bear, I just need to be ahead of you!”

There are two problems with looking at competitiveness in this light. First, someone has to lose in order for another to win—a zero-sum exercise. Inevitably there will be many more losers than winners. One way of increasing the number of potential winners is to have many competitions at various levels. In sports, we have the Olympics where only a select few could be winners, but by having regional meets like the Asian Games, we substantially increase the number of winners. Then we could have competition at the national, state, district or even kampong level. You may be only a kampong champion this year, but with hard work and persistent practice, you may make it to the district level next year, and then the national or even international. These various levels of competition serve not only to increase the number of winners but more importantly to stimulate excellence.

Second, beyond a certain level there is little value in competing against one another; instead we measure ourselves by our own standards. While you are at the assistant or associate professor level, you may be competing against one another for the limited slots of tenured positions. Once you are tenured, you no longer compete with one another, instead against your own individual yardstick. Some would aspire for membership at higher professional bodies, others at scholarly writings, yet others at serving the government or businesses. At such lofty levels, it is not meaningful to match individuals against each other. “He is your average Nobel Laureate,” sounds silly!

Even at lower levels it is sometimes more meaningful to compete against one’s own standards. Consider this. My son’s high school track coach was starting a new program. He knew that his team would not do well against established teams from the other bigger schools. Were he to use the win/lose statistics to motivate his students, the team would be easily demoralized. Instead, he used each sports meet to measure the athletes’ individual performances against their previous record. Have they exceeded their personal best times? If they have, then they had become more competitive, that is, better then they were before. Winning is secondary. In this way the coach was able to motivate the students and bring out their best even when the team lost. If the team wins, that would be great, an extra bonus. Using this technique it did not take long for the team to win its first competition.

The problem with seeing competitiveness in this light, that is, pitting one against the other, is that it would be seen as the antithesis of cooperation. Going back to the bear story, the pair would be better off cooperating in trying to outmaneuver their common adversary. Many of our social problems are best solved through cooperation, not competition. Later (Chapter 5) I will relate the story of a young Muhammad (pbuh) before he became a prophet successfully converting a potentially destructive competition into fruitful cooperation.

At the next level, that of the group, team or company, the concept of competitiveness gets more involved. The bulk of the literature on competitiveness (like Porter’s work) is based on studies of companies and industries. There are also studies on sports teams, but in that arena, competitiveness is measured in the win/loss dimension only, and thus has little application elsewhere.

The most readily understood meaning of competitiveness refers to how well a company’s product is selling. Coco Cola is competitive because its products are popular, the measure of competitiveness being market share. The problem with this view is that, like the win/loss statistics, it is a zero-sum game. Coca Cola can only increase its market share only if there is a corresponding drop in the market share of the other brands. And if you sell your product very cheaply in order to capture market share, you could end up bankrupting your company.

There is another limitation of looking at competitiveness in terms of market share. China’s Tick Tock Watch Company may sell many more fake Rolexes (larger market share) than the Swiss company with its genuine product, but nobody would pretend that the Chinese company is more competitive.

Another measure of competitiveness is profitability. This too has limitations. Many highly competitive companies, especially in their early stages (Yahoo and Google), do not make much profit, yet their shares are highly valued. Further, as profits are taxed, it is the job of creative accountants to “reduce” companies’ profits and thus tax liabilities. Additionally, if a company were to make a million-dollar profit but had to spent $100 million to produce that profit, then it is not as competitive as one that had to spend only $5 million to achieve similar results. To account for such variables, accountants use the more reliable figure of “return on investments” (ROI) that factors in the capital expended.

Jack Welch, the legendary former head of General Electric, assessed the competitiveness of its various units on whether they were in the top two (by market share) in their respective field.1 If they did not perform, he would dispose of those units. Even with this seemingly straightforward criterion, there can be problems. Some executives could “game” it by narrowing their field so as to maintain the top status. Thus if you cannot be the top leader in Information Technology, simply focus on being number one in the narrower field of Medical Informatics.

I am reminded of the running joke I have with my colleagues. If you cannot be the best surgeon in the country, then simply settle for being best in the state or county. Failing that, the best in town. If all else fails, you can always strive to be the best this side of Coyote Creek!

This concept of competitiveness becomes even more problematic when applied to nations. Nations, unlike individuals, do not compete against one another, at least not in the traditional sense. Their companies and citizens do, but not the sovereign states.

Nations are not like companies, economist Paul Krugman noted, for another reason. It would be difficult to define its profitability, bottom line, or market share. Nor can a country file for bankruptcy.2 China floods the world with inexpensive shoes because of its cheap labor and other costs, but that does not mean that its manufacturers are more profitable, more competitive, or even more efficient. Indeed the common sense view is that Chinese shoe companies are way less competitive and productive than Italian ones. We can readily surmise this by comparing the quality of their products and living standards of their workers.

Some governments mistakenly use this market-share concept to remain “competitive.” A common but misguided strategy is to devalue their currencies. Such “competitive devaluations” may make the country’s products more competitive (that is, cheaper) abroad, but they would make imports more expensive. The country’s citizens would be effectively getting a pay cut, with the lowering of their living standards. That is the fallacy of such competitive devaluations.3

This last observation points a way of defining a nation’s competitiveness in a more relevant and meaningful manner, by relating it to the prosperity and improved living standards of its people. Intuitively we can readily accept this definition. Switzerland is more competitive than India because the average Swiss has a higher standard of living (longer life span, better health, more education) than the average Indian.

This begs the question as to why the Swiss are more competitive than the Indians. The most direct and obvious answer would be that the Swiss are “better” at doing things than the Indians, at least in those things that are in demand by the world. The Indians may still be better than the Swiss in yoga, arguing, and snake charming, but those are not what the world wants or values.

Next:   Competitiveness and Productivity

Chapter 3:  Diamond of Development  (Cont’d)

Primacy of Individuals

Goh Keng Swee, Singapore’s longtime Economics Minister and the man credited for the remarkable transformation of that republic, attributed the success less to the sound policies and strategies planned by him and his fellow leaders, rather to the collective decisions of the average Singaporeans.(12)  As parents they encouraged their children to study English and pursue the sciences instead of shunning those tough subjects. It was individual citizens who decided to tame their nationalistic zeal and encouraged their children to take up English. It was their individual decisions to forego current consumption in favor of savings, thus enabling the nation to have its stupendously high saving rates to fund its ambitious development projects.

Yes, the government (leaders) provided the broad policies and executed them well. It built schools with well-equipped laboratories and well-trained teachers, and mandated pensions so workers could save some of their earnings. It ensured that the funds were prudently managed to benefit the workers as investors as well as from the jobs and services provided by those wise investments. Those workers saw and experienced the tangible benefits resulting from their savings, which encouraged them to save even more.

Just as individuals and their enterprises produce the goods and services, likewise it is their actions and initiatives that push society forward. When the first hunter-gatherer settled down, it was the decision of individuals. He may have been a rebellious member not sufficiently deferential to tradition and was left out by the wandering tribe. Or an inquisitive hunter who discovered that the seeds he threw out the season before were now sprouting and bearing fruits. So he tried a primordial experiment of intentionally planting them and staying put to see the results. He succeeded, and the rest of his tribe followed his example. The tribe certainly did not have a meeting and decided that they had enough of the wandering life and wanted to try something new like staying put.

They were successful; others seeing how well fed they were picked up on the idea. They too began settling down and cultivating the land. They amplified on the original idea; instead of eating all their harvest they stored the juiciest, biggest and sweetest seeds for planting in the next season. Before long the whole valley followed suit, spelling an end of the hunter-gatherer lifestyle, and with that, a quantum leap in the progress of mankind.

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The first domesticated animals probably came along the same way. Again the tribe did not suddenly decide to capture some wild animals to domesticate them. More than likely, a doting father gave his son a pair of baby wild sheep that were orphaned after their mother was killed. The little boy became attached to the pair and would not let their father slaughter them. The pair bred, and suddenly the tribe had another sheep without having to hunt. The enterprising young boy also discovered that the milk the lamb suckled tasted good, and a primitive dairy industry was begun. A few animals later, the tribe discovered that the hides could be used for clothing, footwear, and bedding. A millennium later and with a few enhancements along the way, we have fancy Armani shoes and handbags.

The tale may not have gone as described. The first fellow who stayed behind and not followed his fellow hunter-gatherer tribesmen may not have been successful planting his seeds, and did not survive to tell his story. Similarly, the first man who tried to domesticate an animal may have chosen the wrong specie like a prehistoric rattlesnake, thinking that it could solve the rat problem of his cave simultaneously. He too did not live to tell his tale.

Nonetheless there were enough inquisitive and enterprising individuals who were not satisfied with the status quo and decided to try something new. One or two succeeded, and their ideas were copied, amplified, and improved.

           Throughout history, human progress has been the cumulative result of such individual efforts. The emancipation of the Arabs and the beginning of a great faith began with one man. Prophet Muhammad (pbuh) did not form a committee to explore the possibility of a new faith.

The discovery of the New World and inventions like the steam engine were all the result of the ideas of individuals, likewise with the great ideas of today. If a society aspires to progress, it must respect its most important asset, its members. Individuals drive progress. Society must respect the primacy of individuals, and provide every opportunity for them to develop fully their God-given talent.

Government does not create wealth; individuals, companies, and industries do. Economic growth occurs when people take resources (physical, human and others), rearrange them, and then make them more valuable or desirable to users (consumers). The same ingredients in the hands of the resourceful would result in the creation of untold wealth. Put the same resource in the hands of the untrained and unprepared, and it would be squandered.

A kitchen metaphor will illuminate this point. With the same set of ingredients, a skillful chef would whip up a gourmet omelet; a klutz, an overcooked tasteless egg. That same tasty omelet served on fine china in a fancy restaurant by an attentive waiter would cost RM10; served on a banana leaf by a sweaty server in tattered T-shirt at a roadside stall across an open drain and it would fetch 50 cents, at best. The same ingredients and almost the same product, but all the other seemingly unrelated factors cumulatively accounted for the twenty-fold difference in value.

The key to Malaysia’s competitiveness is to ensure that its citizens are equipped with the necessary knowledge so they can effectively leverage the wonderful assets of the country. In Part Two, I will delve into greater details on each of the four cardinal elements of my Diamond of Development, relating them specifically to Malaysia. Before doing that, I will first explore what it means to be competitive, and examine the consequences of progress.

Next:  Chapter 4:  On Being Competitive

Towards A Competitive Malaysia #12

Chapter 3:  Diamond of Development  (Cont’d)

Knowledge in the Village

Knowledge has supplanted the traditional factors of production in creating wealth. Those traditional factors of land, labor, and capital are still important, but their value can be leveraged considerably through the application of knowledge.

Consider two rice farmers, Ahmad and Bakar; both equally hardworking and have the same acreage of rice fields of comparable fertility. Every year they planted the same amount of rice seeds, put in the same amount of work, and not surprisingly, reaped the same amount of harvest. Their traditional factors of production—land, labor, and capital (in this case, seeds)—are the same; hence their output (harvest) is also the same.

In the classical understanding of economics, output could only be increased by increasing the input of the factors of production. Double the land under cultivation, and you double the yield; likewise, with increasing the labor input by planting two crops in a year.

There is a limit to what could be increased with the factors of production. Increasing the area under cultivation by taking land from another farmer would not necessarily increase the community’s total yield, and the supply of new arable land is also finite. There is also a limit as to how much harder a farmer could work. There comes a point when the harder he works, the less of a proportionate increase in harvest he would get, a diminishing marginal return. If he works much harder, he would risk injuring himself and becoming no longer productive.

Revisit the two farmers, this time from the perspective of the K-economy. One day Ahmad had an insight (or learned about it somewhere) and decided to plant his rice in the evening rather than the morning, as was the tradition. He noted that when he sowed in the morning, the birds would immediately swoop down and eat some of his freshly sowed seeds. He reasoned that by planting in the evening, his seeds would have a 12-hour head start before the birds would discover them the next morning. With the overnight dew, the seeds would become swollen and be less attractive to the birds, or be covered by the moist soil. Armed with this knowledge, he changed his ways. Meanwhile farmer Bakar stuck to tradition; his ancestors had always planted rice thus and who was he to mess around with a proven formula and defy tradition.

At harvest time Ahmad indeed enjoyed a greater yield, perhaps 30 percent more than Bakar, the increase from seeds that previously would have been eaten by the birds. The two farmers still have the same input of the traditional factors of production, but Ahmad’s output is now considerably more. This increase isattributable solely to the new knowledge Ahmad had acquired. Because of that, he is now more productive (getting more for the same input).

This simple story is the essence of the K-economy, encapsulating what the new theory of economic growth says of knowledge supplanting the traditional factors of production in creating wealth.

Before we get too smug and claim that we have understood the “new growth theory” by this simple example, let me add this caution. What made Ahmad think of changing his ways by sowing in the evening instead of simply following tradition? That implies a willingness to try something new and the courage to buck tradition, or at least not put too much deference to it. It also implies something else: the willingness to learn from your environment, to be observant and receptive. More importantly, it signifies the willingness to take risks, to take new paths—to be enterprising. When Ahmad planted his rice seeds, he did not simply do it mechanically without thinking. He had observed what those birds did to his seeds, and thought of ways to solve the problem. Most of all, Ahmad had the conviction of his belief and was willing to bet his future by applying his new insight, that is, to experiment.

The remarkable aspect to this new knowledge that Ahmad had acquired is that it is not exclusive to him. Bakar and every other farmer in the village are free to benefit from Ahmad’s insight. The only gain Ahmad gets from his knowledge is the 30 percent increase in his harvest. If the other farmers were to adopt his technique, they too would get comparable results. The more people using Ahmad’s knowledge, the more the benefits would be. Unlike the traditional factors of production, the law of diminishing returns does not apply. On the contrary, we have the new law of increasing returns. There is literally no limit to the increase in benefits if every farmer in the country were to adopt Ahmad’s insight.

This explains why developed countries continue to outstrip poor countries in wealth creation notwithstanding the conditional convergence discussed earlier. They do it with knowledge (and technology, insight, wisdom). Their preexisting wealth gives them a head start in further expanding their knowledge base.

Granted, Ahmad did not gain anything more than his 30 percent increased yield from his insight, and perhaps the gratitude of his fellow farmers who were enjoying a free ride on his innovation. Nonetheless there were ways for Ahmad to capitalize on his discovery. He could follow up his observation and discover that the same effect could be achieved by soaking the seeds overnight. Or, that by adding a mild detergent to the water to reduce its surface tension, he could have the same effect by soaking for only a few hours instead of overnight, thus saving precious time. He might further discover that by mixing the seeds with solutions of bitter roots he discovered in the jungle, he made the seeds even more unappetizing to the birds, and thus further increasing his harvest.

Having discovered this secret concoction, he could patent it. Now anyone who wanted his special formula would have to pay him. Soon he would not need to be a farmer anymore but simply market his new product. He could use his land only as an experimental farm to test his many novel ideas. A few years down the line, Ahmad would have a thriving company, employing many workers, and bringing immense benefit to his community. Meanwhile Bakar was still tending to the same plot of field and harvesting the same yield as before. Yet both started out with the same resources, the same “factors of production” of land, labor, and capital. The contrasting difference in economic returns between the two is due to knowledge.

This tale may not have the happy ending I described. Ahmad may have lost everything when he changed his time of sowing. His seeds could have been destroyed by the overnight mildew. If the community had no tolerance for new ideas, Ahmad would have been ridiculed if not condemned, and forever made an example to the rest of the village on the dangerous consequences of challenging tradition.

To encourage the Ahmads, the culture must be forgiving of new ideas and methods, and those who challenge the accepted ways. The culture must go beyond mere toleration of the adventurous few who dare seek new paths, it must encourage and nurture them if society were to progress.

For those who are skeptical of my simplified fictional account, consider this. In the 1950s and 60s, there were widespread gloomy predictions of global famine as exemplified by the Club of Rome pronouncements. Thankfully, through the insight of the University of Minnesota biologist Norman Borlaug, the world was spared this gruesome fate.9 Although his work was initially on high-yield, pest-resistant wheat, it was later adapted to rice, and helped usher in the Green Revolution. The fact that he is not more well known or as wealthy as a Bill Gates is another issue. Borlaug did win the Nobel Peace Prize in 1970.

Pramoedya Ananta Toer writes in his This Earth of Mankind, “Knowledge has given me a blessing whose beauty is beyond description.”10 In this new economy, one of the blessings of knowledge is that it gives bounty beyond imagination. There is truly no limit to the creation of wealth through knowledge, ingenuity, ideas, innovation, technology, or whatever we want to call it. This is the excitement behind the insight of this new “endogenous theory of growth” which underpins the K-economy.

Revolutionary inventions like the steam engine and computers improved productivity in readily apparent ways. Inventions and innovations need not necessarily be dramatic to have an impact on productivity. Often simple and obvious (at least after they have been discovered) inventions can cumulatively be significant. The explosive growth in international trade owes as much to the insights of economists and political leaders as to that simple invention: containers. That one device did away with the battalions of dockworkers and ship handlers while reducing port pilferage and other losses. This greatly increased efficiency and reduced shipping costs, enabling consumers to enjoy cheap goods. In the past it took days to load and unload a ship, today mere hours. It is estimated that shipping costs fell from about $5.83 a ton in 1956 to a mere 15.8 cents today, a steep drop of over 97 percent.11 Phenomenal improvement!

To prepare Malaysia for this new endogenous growth, the environment must be supportive. It must encourage and nurture knowledge, and reward creativity and innovation. Malaysia must tolerate if not actively encourage those who do not pay too much deference to precedents and traditions, and those who dare venture along untracked paths, that is, our Ahmads.

Merely adding more years of schooling or more universities would not do it. For if all our students learn is to obey authorities blindly, adhere to traditions slavishly, and accept their fate passively, then I would argue that the fewer years spent in formal education the better.

The type of education that would best prepare citizens for the K-economy is one that would develop their powers of observation, harness their innate curiosity, and encourage them to experiment. They should be able to evaluate new information and think critically. In short, an education system steeped in the modern liberal tradition and well grounded in the sciences.

We must instill in citizens the attitude that it is within their power to change their condition; it is not divinely destined. Nor do they need to wait for a benevolent and paternalistic government to provide them with the answers; rather it is within them to seek the solutions. We must encourage them to undertake changes, even and especially those that may appear counterintuitive and against the accepted notion. We must tolerate if not actively encourage those who challenge traditions. This implies a willingness to tolerate some disorder, and challenges to the status quo.

We must encourage citizens to pursue paths less traveled by not denigrating or putting “guilt trips” on them. We should not view that as an expression of ingratitude or disrespect, rather an expression of their curiosity to discover the larger world beyond the familiar.

To encourage the likes of Ahmad, we must have an environment where property rights, including the all-important intellectual rights, are respected so that citizens would have the incentives to pursue their ideas and inventions.

Above all, there must be an atmosphere of freedom, the freedom to pursue dreams and ideas. If we control everything the citizens read, view, or do, then we will necessarily limit the chances of these discoveries. We do not know where, when or from whom the next brilliant spark would emerge. Nor could we predict what that brilliant idea would be. Hence we must be receptive and open, and encourage as many participants as possible.

Malaysian leaders keep harping on the urgent need to prepare the nation for the K-economy. They should also be mindful of these other equally important and supportive factors, and not simply and blindly equate the K-economy to more years of formal education.

            Next:  Diamond of Development

Chapter 3:  Diamond of Development  (Cont’d)

Romer’s “Ideas Matter”

We are in the Knowledge (K)-economy. Hardly a day goes by without some ministers or even the Prime Minister reminding us of this fact. What I am uncertain of is whether these leaders really know the significance of their statement or whether they are merely mouthing the current cliché.

While these leaders are busy exhorting us to acquire knowledge so we may thrive in this new economy, they fail to appreciate the vital ingredients and necessary environment needed for the effective acquisition, creation, and application of knowledge. While they incessantly urge us to acquire knowledge, they will not hesitate to censor and ban books and publications deemed “undesirable” or not supportive of the establishment. The strong censoring arm of the government is felt in the academy, publishing houses, and editorial desks. The government insists on controlling every aspect of the citizens’ life, especially what they read, hear, and view. The message is clear, by all means seek the truth and knowledge, but only those officially sanctioned.

The Muslim philosopher Maulana Saidina Ali had this observation on knowledge. Unlike wealth, knowledge protects its owners under all circumstances.4 With wealth we may be able to afford the best doctors, but if we have the knowledge of healthy living, we would not need (or not as often) the expensive services of a physician.

The world may crumble, but with my knowledge as a surgeon I can still contribute my skills. Likewise for the farmer, he can still use his knowledge to grow food and feed others. War, inflation, and economic crises may threaten and erode our wealth, but our knowledge stays. We may even become wiser and more knowledgeable after experiencing these adversities.

Knowledge is amplified and enhanced when shared, while wealth gets diluted. The remarkable advances in science are attributable to the fact that knowledge, discoveries, and insights are freely and widely disseminated within the scientific community. To me the knowledge that breastfeeding is healthy and should be encouraged is not new. Besides, that knowledge has no value to me now that my children have grown up. If I were to share it with young kampong mothers, I may well save them from grief by sparing their babies from being fed formula mixed with polluted water. To them, that same knowledge could be potentially life saving.

In Shahnon Ahmad’s celebrated novel, Ranjau Se Panjang Jalan (Obstacles All The Way), a gripping portrayal of the dehumanizing effects of rural poverty, the main character Lahuma ultimately succumbed to an infection from a sliver in his foot. (5) Had he the knowledge that such an infection could be easily treated, he would have sought medical help sooner. Lahuma had some knowledge all right, acquired from his misguided religious teachers, that is, everything is preordained. To him, that infection was the manifestation of the will of the Almighty, perhaps divine retribution for some long-forgotten sin he had unknowingly committed. Nothing could alter that fact; he simply had to endure, and in the end, tragically succumbed to it.

The question remains, how did Lahuma acquire that misleading knowledge, and how could he have updated it and thereby saved his life? Put another way, how could he be so ignorant of elementary health knowledge? Sending him to spend more years in a religious school would not help; it would only reaffirm his belief that what he endured was divine punishment. Had he gone to a modern school where they taught elementary hygiene, or had a nurse as a neighbor, or if the local television stations were to carry programs like Emergency Room or Discovery Health instead of the mindless propaganda that is their regular staple, then Lahuma might learn a thing or two about modern medicine.

That knowledge in the “Knowledge-economy” has a much wider meaning. It means ideas, smarts, creativity, innovation, and technology, among others. It also means the willingness to learn and respect knowledge, and all the associated activities.

In the view of classical economics, new technologies and innovations have always been considered as exogenous, outside the usual calculus of the traditional “factors of production.” (6) The new thinking is that ideas, knowledge, innovations, and technologies are integral part of growth itself. Growth generates its own knowledge, and thus its own resources for further growth. It is self-amplifying; hence the endogenous (arising from within) theory of economic growth.

The intellectual giant behind this innovative idea is the Stanford economist Paul Romer. He puts it best, and succinctly, in ascribing the importance of knowledge in wealth creation: “Ideas matter!”(7)

American investments in basic research, R & D (research and development), and technology led to “high-tech” boom and improvements in productivity of the late 1990s. The subsequent bust did not in any way detract from the importance of such investments. Today America leads in such research and investments with all the other countries including China rushing in to follow in the same footpath. Top Chinese universities are now requiring their top students to take English in order for them to be at the forefront of science and technology. Malaysia ignores such trends at its peril. Young Chinese are now emulating the Japanese and South Koreans; no more chanting the Red Book on the “Thoughts of Chairman Mao.”

The thrust of this new thinking is that wealth creation depends more on our ability to do things better or in new innovative ways through the application of knowledge; hence the emphasis on education and research. The new “Endogenous Growth Theory” is thus better known as “The Innovation Policy.”

In the Islamic tradition, the importance of knowledge, of acquiring it, and of individuals who possess it is best encapsulated in these two well-known hadiths. The first is, go to China if you have to in order to seek knowledge, China being the epitome of the end of the earth at the prophet’s time. The second, “Verily, men of knowledge are heir to the Prophet.”

Warsh is his book, Knowledge and the Wealth of Nations, recounts the discovery of Romer’s and other economists’ insights on the role of knowledge. ( Consider the familiar wisdom: Give a man a fish, and he eats for a day; teach him how to fish and he feeds himself for life. Give him the knowledge of fish breeding, sonar fish detectors, or deep-sea fishing, and he feeds the world, Warsh adds. There is literally no end to the economic multiplier effect with the application of knowledge.

If we were to simplistically equate knowledge with more years of schooling, then we would be missing the essence of the K-economy. There is no point sending our children to extended years of schooling if at the end we get human robots, able only to follow and regurgitate orders. “Menjunjong Titah” (Your order is my command!), as Malay peasants would say to their sultans. It would be akin to sending Lahuma to many more years in religious school; nothing would have changed with his life.

The difference in thinking associated with the “old economy” and the new K-economy can be illustrated with this example. In the early 1980s, Malaysia spent billions trying to control the tin market. The details of this fiasco have yet to be accounted for even to this date. That attempt failed, but not before Malaysia lost billions and the tin market nearly destroyed. The rationale behind that foolish maneuver, again reflecting the old thinking, was that by cornering the market, Malaysia could manipulate it and reap untold profits.

If Malaysian leaders had been thinking in the new K-economy mode, they would have invested the funds in knowledge creation, like finding new ways of using the metal. Tin could be combined with numerous other elements and compounds to make innovative new alloys. Tin-containing paints today are widely used in the maritime industry to prevent fouling of ships’ hulls. Then there are bronze and pewter, both tin alloys. Tin is now widely used in electronics to replace lead. With further research, there is no limit to the potential new uses and applications. Yet today not a single Malaysian university has a dedicated program engaged in tin research. Meanwhile Malaysian leaders keep harping on the importance of the K-economy.

Next:  Knowledge in the Village

Chapter 3:  Diamond of Development  (Cont’d)

Barro’s Determinants of Economic Growth

Meanwhile another Harvard scholar, economist Robert Barro, initiated a massive cross-national survey to discern the commonalities that might explain why some countries experience superior economic performance and their citizens enjoy high standards of living, while others remain economic laggards and their citizens trapped in poverty. The assumption is that these successful countries must be doing something right, worthy for others to emulate. The other premise is that the misery endured by the Rwandans and Romanians, and the affluence enjoyed by the Swiss and Singaporeans are not the result of some divine design rather the consequence of the policies of their leaders, institutions, and governments. Meaning, progress and economic development just do not happen; they can be planned and executed.

Barro collected voluminous data from over 100 countries spanning over three decades.3 Using sophisticated statistical techniques he isolated the many variables and examined their individual impact on economic growth. A formidable task! Imagine having first to standardize the data to ensure their comparability, and then to analyze them. He was able to do so and presented a number of interesting observations, some expected, others surprising.

As expected, countries with highly educated citizens, strong rule of law, favorable trading activities, low inflation, and where the government has low levels of expenditures (except for defense and education) tend to have high economic growth. Growth also goes hand in hand with high life expectancy, higher male secondary schooling, and low fertility. These are also indictors of the quality of their human capital.

Surprisingly, freedom (and democracy specifically) is not critical for economic development. This is best illustrated by contrasting South Korea (little freedom and democracy but high economic growth) to the Philippines (freewheeling democracy to the extent that it interferes with the formulation and execution of sound economic policies). The Filipinos may have more political freedom in the sense that they can take part in elections and remove leaders they do not like, but unlike the South Koreans, the Filipinos lack that most basic of freedom—to be free from privation. No sane South Korean would wish to trade places with the Filipinos.

Freedom and economic growth are linked on an inverted U curve. At low levels of freedom, an expansion of these rights stimulates growth. Once that is achieved, further expansion of these rights reduces growth. The democratic system of governance responds to popular political demands; this generally means focusing on redistribution policies (generous social welfare programs and entitlements) at the expense of growth.

In America, powerful interest groups lobby the legislatures at all levels for favorable treatment. The greatest obstacle to sound economic planning in America and other mature Western democracies is the unrestrained growth in entitlements like social welfare and pension plans. It is impossible to have rational discussions on these issues because they have huge and deeply entrenched constituencies.

The Philippines apes America in this sorry respect; the Filipinos’ freewheeling democracy produces nothing but gridlock, with the president and legislators engaged in endless squabbles while their citizens starve.

A benevolent and wise dictator-like leader could formulate sound and effective policies, and then execute them efficiently without having to face needless opposition. We see this in South Korea and Singapore. On the other hand, if he turns out to be a corrupt and malicious dictator like Saddam Hussein, the damage inflicted would be irreparable and long lasting. At least with a functioning democracy, the authoritarian tendencies of these leaders could at least be checked and restrained. Mahathir was a great leader, but had he had his way without the restraint of Parliament and the opposition parties, how many more scandals like Perwaja Steel, London Tin, and Bank Bumiputra would there be?

Barro’s remarkable research demonstrates that the poorer the country is to begin with, the more pronounced would be the effects on growth of these various factors, a phenomenon referred to as “conditional convergence.” This should be an impetus for poor countries to pursue these proven pro-growth policies.

One reason for this conditional convergence is the law of diminishing returns. Spending on education is conducive to economic growth, but there is a limit to this. After the basic primary and secondary schooling, the added costs for providing more education do not produce commensurate increases in returns. This applies not only to education but also other endeavors.

The experiences of multinational corporations that had moved their plants to the Third World bore this out. Their workers are not as well educated as in the West; most have only primary level education. Despite that, these companies discovered that with the proper on-the-job training, the lowly educated Mexicans and Chinese could perform their work just as well as their highly educated counterparts in the West, much to the chagrin of Western union leaders.

We cannot carry this assumption too far, for while it may be true for simple manufacturing and assembly work, it may not be so for other jobs. Experiences in Japan and South Korea, where the workers have much higher education and are well versed in science and mathematics, show that their productivity is much higher than those in the Third World. They are also more receptive to and better prepared for innovations, and more easily re-trained to meet changing market conditions.

A well-educated citizenry is important for other reasons. They would be more informed and less likely to be swayed by chauvinistic leaders. Besides, before a nation could leap onto the next trajectory of development—the innovative-driven stage—it must have a highly educated workforce.

This conditional convergence phenomenon, carried to its conclusion, would result in poorer countries ultimately achieving the status of and be on par with developed countries. Unfortunately, the reality is far different. Conditional convergence notwithstanding, the gulf separating poor countries from the rich continues to widen. For an explanation of why developed countries continue to grow faster and defy the laws of diminishing returns, I turn to the novel ideas on economic growth postulated by among others, Paul Romer.

Next:  Romer’s “Ideas Matter”

Chapter 3: Diamond of Development (Cont’d)

Role of Government and Public Policies

In addition to the four factors, Porter postulates two others: the role of luck, and that of the government. Chance or luck is by definition unpredictable. Malaysia was fortunate to discover vast oil and gas deposits that gave it a windfall. Unlike the Arabs, Malaysians use that windfall to good purposes for the most part, although it could stand some improvement.

The Canadian province of Alberta is also blessed with vast oil sand deposits. Unlike Malaysia, it uses the windfall not to bail out failing banks and airlines or build grandiose skyscrapers but to create its Heritage Fund to finance universities and medical research. Today, the province is at the cutting edge of medicine, pioneering such breakthroughs as islet cell transplants to treat diabetes, with the University of Alberta now ranking among the finest globally. Quite a legacy! Imagine had Malaysia followed Alberta’s example! The Norwegians took a different tack. It “sterilized” its oil windfall by diverting it into a Trust Fund, thus sparing the nation a runaway inflation and otherwise disturbing the equilibrium of its existing economy. Today the fund is the largest investment unit in the world, quite an achievement for a nation of only a few million. The Norwegians are now assured that when their oil runs dry, as inevitably it will, their way of life would not be disrupted.

To be fair, Malaysia has done better than Indonesia and most Arab countries where the oil wealth merely fuels the greed and corruption of their leaders.

The role of government cuts both ways. The world is replete with examples of both where government is the major problem, trampling on the rights and aspirations of its citizens, as well as where it has truly enlightened and transformed the lives of its citizens. The governments of the Philippines and Indonesia could not be more different than those in Malaysia and Singapore. The fate of their citizens reflects this glaring difference. I will explore the role of government and institutions in greater depth in later chapters.

Porter does not discuss the role of religion. I am struck that all the top ten nations are essentially secular. The possible exception might be Italy, but there the role of the Church is limited to within the Vatican. Ireland is much more Catholic than Italy. The influence of religion on economics is complex, but suffice to note that religious people who are not exposed to modern science and technology have a fatalistic worldview. Muslims refer to it as takdir (It is so written); the Christians, predestination. The Philippines and a huge swath of Latin America have this same belief wrapped in their Catholicism. I do not imply that religious beliefs interfere or are in conflict with economic pursuits. Later I will discuss the transforming effect of the innovative thinking of John Calvin and other reformists on traditional Christian (specifically Catholic) beliefs that later gave rise to capitalism.

Going back to Porter’s diamond, you do not need all four elements to be favorable in order for a company or industry to thrive. Suffice that one or two are favorable, and then exploit that fully.

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Stages in Economic Development

The relative importance of the four factors depends on the stage of economic development of the industry or country. National economies, like industries, go through stages in their development. The first stage is “factor-driven,” with the economy based essentially on the traditional factors of production: natural resources, commodities, and availability of cheap power and labor. This was Malaysia of the 1960s and 70s, its primary competitive advantage being its cheap resources (rubber and tin), land and labor, and favorable tax treatment. These advantages were not only limiting but also transient. When commodity prices dropped, Malaysia lost its competitive advantage. When China entered the game with her endless supply of even cheaper labor and land, Malaysia could hardly compete. During this phase, the basic source of competitive advantage is obviously the “factor conditions” of the diamond.

The next stage is investment driven where the competitive advantage is governed by the willingness of firms and nations to invest in modern factories, upgrade the skills of their workers, and adopt efficient technology. Factor conditions are still important, but in addition, the fourth—firms’ strategy, structure and rivalry—becomes the major determinant. This is where Malaysia is currently.

The third stage is innovation driven where all four points of the diamond are in full play. This is where Malaysia aspires to be. With all four points in equal play, the relative role of factor-driven variables like cheap labor and commodities becomes relatively less important. Singapore Airlines is able to pay its staff globally competitive salaries; it no longer depends on cheap labor as a competitive advantage as the airline caters to premium class passengers.

Porter adds a fourth stage—wealth driven—where the emphasis is on wealth preservation. Companies and nations risk losing their competitive advantage and start their downward spiral. This was the Britain that Margaret Thatcher inherited in 1979, deep in its winter of discontent. This was the America of the 1980s when its major industries were clobbered by the Japanese and South Koreans. This is the Japan of today, unable and unwilling to change, and content with enjoying the wealth their parents had created.

In this phase, senior leaders are concerned with and distracted by financial engineering. They are preoccupied with mergers and acquisitions, creation of special purpose vehicles, and other paper-shuffling activities while ignoring the real issues on the factory floors. General Motors and Ford profit more from their finance subsidiaries than from their cars. Their board and senior executives pay more attention to their MBAs and accountants than the engineers.

Britain just before Thatcher and America before Reagan were similarly preoccupied not with creating wealth but with its redistribution, all in the name of social justice and equity.

Something happened to Britain under Thatcher, and to America in the1990s that reversed this downward spiral. What transformed both nations was the power of ideas. I will explore this later in the chapter under Romer’s “Ideas Matters.”

Next: Barro’s Determinants of Economic Growth

Chapter 3  The Diamond of Development  (Cont’d)

Porter’s Diamond of Competitiveness

 

Porter discerned four basic conditions that promote the competitiveness of companies and industries. These elements interact with and feed on each other, forming a self-reinforcing synergistic virtuous cycle. He schematized the relationship with his famous “diamond diagram,” with each element forming the angles. Two-way arrows connect each corner to the other three, representing the mutually reinforcing relationships.

The four elements are:

 

Factor conditions: These are the economists’ traditional factors of production: land, labor, capital, and infrastructure.

Demand conditions: The characteristics of the domestic market, including the size, demand, value, and sophistication.

Related supporting industries: The presence of suppliers and supporting industries that are equally competitive and of high quality.

Firm strategy, structure, and rivalry: The regulatory and other governmental environment in which companies are created, organized, and managed, including the nature of the domestic competition.

 

Favorable factor conditions include efficient infrastructures (good ports, communication system) and availability of skilled workers. These would be conducive to and enhance heavy industries like automobile manufacturing. Similarly, the availability of large areas of arable land permitted the development of America’s massive agribusiness. Some of the factors like availability of land and natural resources are the natural or geographic attributes of the nation, “inherited” as it were. Others like the availability of capital and skilled workforce are created or “acquired” traits. The factors critical to higher order and more sustainable competitive advantage are created rather than inherited, as seen with the remarkable successes of such resource-poor nations as Singapore and South Korea.

The absence of these favorable factors, the competitive disadvantages, may at times work in favor of a nation by forcing it to innovate and compensate for the disadvantage. Japan, with its the high energy costs, is forced to produce energy efficient machines. Its narrow streets, the consequence of critical land shortage, were the stimulus for developing a niche for compact and subcompact cars.

The role played by demand factors is illustrated by Italy’s well-regarded leather craft and fashion industry. It is the consequence of its stylish, sophisticated and demanding domestic consumers. They demand high fashion and are not satisfied with any rag to wrap themselves. Italian designers and manufacturers have to cater to those demanding tastes, ushering Italy to lead the world in this sector. Afghanistan and Saudi Arabia are unlikely to lead the fashion world; their consumers are satisfied with the formless and colorless robes and burkas. American onsumers too are discerning; they seek high quality products. They do not hesitate returning a toaster that does not work. Unlike in Malaysia and the Third World, Western manufacturers and retailers are loathed to blame their consumers; instead they focus on improving their products and making them safer and better.

To compete effectively in a demanding market, American retailers have liberal “No Questions Asked!” return policy; they in turn demand rigorous standards from their suppliers and manufacturers. Each returned item represents a loss for the retailer, supplier, and manufacturer. As these companies have to satisfy a demanding domestic market, their products are continually being improved, which in turn make them more in demand in the global market.

Companies in protective markets or where their customers are passive and not demanding have little incentive to improve or innovate. This is the fate of Russian industries. With globalization, and deprived of their protective market, they simply cannot compete. Russian plane designers are among the most talented, yet they hardly make a dent globally. In America with the ending of the Cold War, once leading defense contractors like Lockheed and McDonald-Douglas, long dependent on lucrative “cost plus” military contracts, have either been adsorbed by others or disappeared entirely.

In Malaysia, a major and persistent problem with Bumiputra enterprises is that they rely substantially if not exclusively on government contracts. The government in turn, because of political pressures, does not demand high standards. As a result, these companies are rarely competitive locally, much less abroad. With the 1997 economic crisis and the consequent drying up of government projects, these companies simply folded, much like the Pentagon contractors with the ending of the Cold War. They could not compete. The government is clearly misguided in protecting Bumiputra companies. What they desperately need is more, not less competition.

I am not suggesting that these companies be thrown open to the harsh market right away. The weaning must be cautious and not disruptive, with the competition initially restricted to within the Bumiputra community, and later enlarging it to other Malaysian, and thereafter, regional and international competitors. The important concept is that they must be continually exposed to ever increasing competition. That is the only way to create truly competitive enterprises.

Malaysian leaders point to the Japanese experience to justify protecting domestic, especially Bumiputra, enterprises. The Japanese were initially protective of their “infant” industries, and only after they had become strong would they enter the international arena. Unfortunately Malaysia in its eagerness to ape the Japanese is learning the wrong lesson. As Porter has clearly shown, the truly competitive Japanese industries like automobile and electronics have survived brutal domestic competition. They did not receive any support or preferential treatment from their government, nor has it singled them to be in the “strategic national interest” and therefore be protected and subsidized. The much-coddled Japanese banks and other financial institutions on the other hand failed miserably when exposed to international competition. Likewise its retail sector, long protected because of political pressure, is the least productive. The added costs of that inefficiency are borne by Japanese consumers. Even Japanese-made goods cost more in Japan than elsewhere! Porter’s observation on Japan is equally valid for Malaysia.

The third determinant of competitiveness is the presence of other equally high quality and competitive supporting and related industries and conditions. Italy is rightly famous for its quality leather fashions with such premium brands as Gucci and Bruno Magli. This is possible because Italy has well-developed leather industry and many talented designers. Similarly with the computer industry; the ready availability of skilled engineers and the confluence of Stanford, the University of California, Berkeley, and others in the area, together with innovative venture capitalists willing to take risks, made Silicon Valley a reality. Add to that the openness and lack of deference to tradition and precedence that is the hallmark of the California lifestyle.

Malaysia has much less success with its Multimedia Super Corridor (MSC) in replicating the Silicon Valley experiment, despite its bold attempts. Knowing that the country lacks venture capitalists, the government created its own firms. Unfortunately, they have only the appearance of a venture capital fund; in style and operations they are like the usual conservative and risk-averse banks. Their staff—essentially civil service types—together with the reward system would ensure that the atmosphere remains that of the civil service, the very antithesis of a “high risk, high reward” culture of a venture capital enterprise.

Malaysia also grants companies in the MSC considerable autonomy, like greater leeway in employing foreigners, freedom from onerous regulatory burdens, and significant tax advantages. Still, Malaysia has a long way to go before it recognizes the importance of giving its citizens, especially its intellectuals, entrepreneurs, and risk takers, greater freedom. The crudest and most egregious expression of this Neanderthal “control freak” mentality was demonstrated when the government seized the computers of the Internet news portal Malaysiakini.com in January 2003. By mid 2006 the government was openly mulling censoring the Internet.

Nor have Malaysian universities done their part in producing much-needed qualified personnel. The few graduates are so poorly prepared that companies have to recruit foreign workers even for low to mid level jobs. While America has expedited visa programs to recruit talented foreigners, Malaysian companies have to go through hoops. It reflects the perverted thinking—and priorities—of those in power that it is much easier to bring in hordes of unskilled Indonesian maids and Bangladeshi laborers than talented foreign PhDs and engineers.

Porter introduces the concept of clustering, the interrelated and reinforcing supporting industries and infrastructures. Silicon Valley has the cluster of high-tech companies like HP, Intel, National Semiconductor, and others big and small. One would think that these companies would mortally cannibalize each other, clobbering each other through brutal competition. On the contrary, such competitions and clustering enhance the competitiveness of the industry as a whole.

The fourth element, firm strategy, structure, and rivalry, includes the regulatory and other environments in which firms and companies are created, organized and managed. Senior personnel in German, Japanese, and American firms often are individuals with scientific and technological training. They are fast to grasp the implications of scientific or technological initiatives. Executives with non-scientific background have to be briefed exhaustively by their technical staff.

Most multinational firms are home based in America and Europe rather than China and other Asian countries. Japan and increasingly South Korea are the exceptions. The cultural and social make up of their societies have as much to do with this. Switzerland is made up of three or four major European stocks (Germanic, French, Italian, Flemish). The Swiss are used to living with and exposed to persons of different cultures and languages. Their circle of trust readily extends beyond their cultural and linguistic group. This is also true of Americans. When I give seminars to “high tech” companies in Silicon Valley who are sending their employees to Malaysia, the one item that strikes me is the diversity of their workforce. American managers are attuned to and encourage this diversity; it comes in handy in this era of globalization. American and European executives thrive in foreign cultures.

In contrast, East Asian societies are ethnically and culturally homogenous; their people are parochial, their circle of trust rarely extends beyond family and clan. They do not trust anyone not like them. In Malaysia, few Malaysians have reached the upper reaches of management in Japanese, South Korean or Taiwanese companies, as compared to that of American or British, Asian solidarity notwithstanding. The few senior Malaysians in Taiwanese companies are ethnic Chinese. It would take a major change in mentality for East Asians to break free from their clannishness.

The various components in the cluster synergistically reinforce each other by their close proximity. They stimulate innovation, facilitate the distribution of supplies and products, and allow for close interactions among the participants.

Malaysia’s Multimedia Super Corridor (MSC) clearly lacks many of the elements that made Silicon Valley a thundering success, in particular the lack of high-powered educational institutions to spur research and to provide the necessary skilled manpower. Most importantly, Malaysia lacks the culture of openness and receptiveness to new ideas.

Next:  Role of Government and Public Policies

 

Chapter 3:  The Diamond of Development

The five largest countries in terms of population are (in descending order) China, India, United States, Brazil, and Indonesia. Combined they have over half of the world’s population.1 Except for America, none of the other countries have personalities, companies, or industries that have an impact globally. As for the few Chinese and Indians whose contributions are of global significance, many do so only after they have left their homeland. As for the Indonesians, they have given the world and themselves only brutal and inept dictators: Sukarno and Suharto. The only Indonesian who commanded respect worldwide was the gifted writer Pramoedya Ananta Toer, and his books are banned in Indonesia! As for Brazil, she can rightly be proud of her soccer legend Pele.

Again excepting America, none of these countries are known for providing premium goods and services. Consider the leading brands of today. Nestle foods and Rolex watches come from Switzerland, population over just six million. Nokia phones, the gadget Malaysians cannot seem to be without, are from Finland, population under five million; the luxury car Volvo, Sweden, population eight million; and Shell Oil, the Netherlands, 14 million.

The example of Shell is particularly pertinent considering that the Netherlands does not even have oil. One would have expected that an Al Sheikh Arabi Oil Company or some such Arab entity to lead the global petroleum market. About all the Arabs could do was to invite others to explore, extract, refine, and market their oil. Then with the ensuing fabulous wealth, the Arabs managed no better than to squander it on expensive armaments for killing and destroying each other.

China and India were once cradles of ancient and sophisticated civilizations. The Indians gave us the concept of zero and other valuable insights in mathematics. The Chinese, as intimated earlier, had all the ingredients that could propel them into their own Industrial Revolution.

It is unlikely for the Chinese and Indians to have undergone any biological change in the interim to explain their subsequent decline. Nor have the climate and geography of their native lands changed. We have to look elsewhere for more satisfactory explanations of what makes Switzerland capable of creating companies that can bring out products like Nestle Foods and Rolex watches while China and India, each with a population several hundred times more, can hardly run their airlines. Air India is one of the worst airlines; even the Indians avoid it. Chinese airlines have equally lousy services, and an atrocious safety record to boot. Yet Singapore Airlines, run essentially by the same ethnic entity, is the envy of the world and consistently raking in profits.

A common refrain among Malay leaders in trying to explain Malay backwardness in commerce, especially when compared to the Chinese and Indians, is that they (Chinese and Indians) somehow have this mysterious instinct to excel in business. They are born with this talent, so how could Malays compete effectively with such divinely favored groups? Hence the need for special privileges for Malays! No less than former Prime Minister Mahathir subscribes to this view. A brief visit to Bombay and Beijing would quickly disabuse these misguided Malay leaders of their silly notion.

This chapter deals primarily with the development of societies during a much shorter time scale of a few generations. The literature is voluminous; I will touch on some of them later, but in this chapter I will explore three highly influential modern ideas: Michael Porter’s concept of competitive advantage, Robert Barro’s determinants of economic growth, and Paul Romer’s new theory of endogenous growth.

Porter’s Competitive Advantage

Searching for answers on why some countries are more successful in creating companies and industries whose products and services are in demand worldwide led Michael Porter to his breathtaking study that resulted in his seminal tome, The Competitive Advantage of Nations.2 With over 800 pages, it is presumptuous of me to summarize it in a few paragraphs, but I will for now to keep the narrative.

In the classical view, nations could best take advantage of their comparative advantage by engaging in trade. The simplified example was the comparative advantage Portugal had with its balmy Mediterranean climate over Britain in growing grapes and producing wine. Britain on the other hand had the advantage of having abundant coal, a cheap energy source. By exploiting their comparative advantages through mutual trade, the Brits get to enjoy fine Portuguese wine while the Portuguese can warm their homes and winery by importing cheap British coal. Sensible enough.

It was cheaper for the Portuguese to import the coal; if they were to provide their own energy source by cutting down their forests, fewer Portuguese would be available to make their fine wine. Similarly with the Brits; if they were diverted to making wines that were of poor quality anyway, there would be fewer to work the mines, and less coal to sell to the Europeans.

Porter introduces the novel concept of competitive advantage. What is critical is not that Britain has cheap coal and Portugal is blessed with a climate suited for vineyards, rather how each country could use those resources to maximal advantage. To follow through the example, yes it is more expensive to grow grapes in Britain because of its erratic weather, fewer sunshine days, and frequent crop failures, nonetheless the British could still beat the Portuguese in wine making by using some smarts. By harnessing the brilliance of its scientists, Britain could produce biogenetically engineered grapevines that could withstand frosts and pests, and then concentrate producing only premium wines. Though it would cost more to produce, it would command a higher price and therefore bigger profit margins. Meanwhile let the Portuguese capture the mass low-profit cheap wine market.

Similarly, the Portuguese need not be at the mercy of Britain for energy. They could develop solar panels to tap the energy source of its abundant sunshine, or design special turbines to tap the massive tidal wave energy of the Atlantic Ocean. Both sources would be infinitely less polluting, sparing the pristine beauty of the country’s bucolic vineyards. With no thick smoke bellowing from the smokestacks of its coal generators to soil the air and blight the landscape, the Portuguese could now turn its countryside into a vacation haven for the sunshine-starved Brits, just as the Californians are doing with their Napa Valley wine country.

Porter studied successful industries and companies of ten leading trading nations. Among them, three are major industrial powers (United States, Japan, and Germany); two small Asian states (South Korea, and Singapore); and three small (Denmark, Sweden and Switzerland) and two relatively large (Italy and Britain) European nations. These ten countries accounted for an amazing 60 percent of the world’s economy and 50 percent of its exports, while having about 10 percent of the population and 8 percent of the land mass.1

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