Optimal entry restriction program for a new industry

Optimal entry restriction program for a new industry -...

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Optimal entry restriction program for a new industry- How Japan nurtured comparative advantage with policy p p (Henry Wan, Jr.) 1 * Department of Economics, Cornell University q 9 {l 9 (Yunfang Hu) 2 Graduate School of International Cultural Studies Tohoku University Abstract Lucas (1988) recognized that trading new goods is of paramount importance to endogenous growth. At the foundation of the trade pattern in the growing world economy today, there is a basic asymmetry. Developing countries usually find it difficult to start a socially desirable industry, where the entry of one firm may benefit another. The conventional wisdom may regard this as the classical decreasing cost industry of Marshall, where firms interact instantaneously and symmetrically. In those economies that manage to take off, initial restriction on entry often becomes relaxed gradually, inviting the interpretation that in correcting past intervention with current liberalization, it is the vested interest that slows down the progress. The time profile of relaxing restrictions is viewed as a meaningful index of the economic performance, and the optimal program presumably should end in free entry. We show that all these perceptions can be totally wrong. In fact, these are definitely false, in the documented recent economic history of Japan, a country that changed its growth prospect by economic policy. The initial difficulty was due to the prospective free riding on the pioneer, and the gradual relaxing of entry constraint is exactly the optimal, 1 * Corresponding co-author. Email: [email protected] 2 Email: [email protected] 1
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feasible policy. For a constructed example, the algorithmic proof of the existence and non-uniqueness of the optimal solution demonstrates that equally optimal paths can coexist, ending with either free entry or perpetual oligopoly. JEL Code : D62 L52 M13 N65 Key Words : New Industry, Industrial Policy, Externalities, Entry Restriction 1. Introduction This paper studies entry restriction as a tool of industrial policy to launch industries and nurture competitive edge. Many developing economies find it difficult to start certain industries under laissez faire . It is well understood the inter-firm interactions are such that if one firm has been established, it is far easier for other firms to follow suit, but it appears so hard to have anyone breaking the ice. Furthermore, among those economies which manage to develop, there is a historically common pattern around the economic take-off, that there is a phase of entry restriction by the government in certain sectors followed by a phase of liberalization, not in one shot by through gradual relaxation. Oftentimes, the perception is that such industries resemble the Marshallian case of decreasing cost industries, where the external economy in production implies firms would produce too little than what is socially optimal. To pursue a modified laissez faire regime, what firms need from the government is subsidy for, and not the restriction over, entry. The eventual economic take-off
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This note was uploaded on 04/29/2010 for the course ECON 4450 taught by Professor Wan during the Spring '09 term at Cornell University (Engineering School).

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Optimal entry restriction program for a new industry -...

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