ABSTRACT
In this chapter, I build a theoretical foundation for Ha-Joon Chang’s historical finding (2002) that almost all of today’s rich countries used East Asian-type industrial, technical and trade policies (hereafter ITT policies) and purpose-built institutions when they were themselves developing countries. I start by examining Ricardo’s theory of comparative advantage. This is a static theory that explains comparative advantage if there is no productivity growth. In the real world, countries that specialize in dynamic industries with increasing returns make gains, and those which specialize in decreasing returns lose. I build a dynamic theory of comparative advantage, introducing a concept of dynamic industries and value added per unit of labour (VAL). In dynamic industries, VAL increases with the increase in productivity and then eventually decreases, since the volume of product increases with productivity growth, but value added per product will eventually decrease with diffusion of technology and the falling relative price of output. Dynamic comparative advantage depends on the difference between VAL and wages. Historically, real wages tend to increase in proportion to average productivity growth. Dynamic comparative advantage does not last for ever, because of the eventual decrease of VAL and increases in wages. Countries have to make their industrial structures more sophisticated, and move to new dynamic industries to keep their international status. Therefore, all successful countries have to rely upon interventionist ITT policies and purpose-built institutions.
