Government 'Picking Winners' Holds Risks

"The rollout of the federal $53 billion semiconductor subsidy program dubbed Chips on Tuesday marks a historic embrace by the U.S. of "industrial policy" -- the explicit use of government resources to foster favored sectors.

There is a reason such forays have been rare in the U.S. Governments seldom know better than markets which technologies will succeed, and often burden the effort with objectives having nothing to do with helping the targeted industry thrive.

Such reservations are fading. Geopolitical competition, a pandemic-driven attention to supply shortages, and the transition to zero-carbon energy have governments everywhere putting their thumbs on the scale of industrial development. Chips is one of two such U.S. efforts approved last year, along with the Inflation Reduction Act, which pours billions of dollars into electric vehicles and other green energy.

History suggests that in the U.S., industrial policy has been most likely to succeed with a well-defined objective, such as putting a man on the moon or developing a Covid vaccine. It has been least successful when aimed at reversing economic decline or pursuing scattershot social and regional development objectives.

The program documents released Tuesday suggest Commerce Secretary Gina Raimondo has both learned from that history yet risks repeating some of its mistakes.

Industrial policy, often called "picking winners," is sometimes seen as un-American by elevating the judgment of politicians and bureaucrats over that of the free market. The U.S. has a long history of intervening to support particular industries. Alexander Hamilton, the first Treasury secretary, favored protection for U.S. manufacturers to help them compete with the U.K.

In the 1950s and 1960s the Pentagon and the National Aeronautics and Space Administration helped draw capital into nascent technologies, from jets to lasers. In need of semiconductors to guide ballistic missiles and the Apollo spacecraft, they were early customers for the likes of Texas Instruments Inc. and Fairchild Semiconductor International Inc., whose top engineers went on to found Intel Corp.

This model of industrial policy via "induced demand" was replicated with considerable success by the Trump administration with Operation Warp Speed, which spent billions of dollars financing the development and purchase of experimental Covid-19 vaccines. The result: several highly effective vaccines using breakthrough technology such as messenger RNA now being repurposed for other diseases, including cancer.

Along the way, the U.S. accumulated many examples of failed industrial policy. Efforts to develop supersonic airliners and fast-breeder nuclear reactors flopped. A flat-panel-display factory that Taiwan's Foxconn Technology Group promised to erect in Wisconsin at former President Donald Trump's urging remains unbuilt. Congress and presidents repeatedly turned to tariffs, quotas and other trade measures to protect industries deemed vital to the national interest. President John F. Kennedy used quotas to protect textiles. Mr. Trump used tariffs to protect steel and aluminum. The result has usually been higher prices for U.S. consumers and continued decline for the industry.

The lesson is that industrial policy is most likely to succeed when the goal is narrowly defined and leverages private sector incentives.

It is less likely to succeed when it is used to solve several social goals disconnected from the industry's economic viability.

Former Treasury Secretary Larry Summers, generally a skeptic of government intervention, says, "I like industrial policy advisers how I like generals. The best generals are the ones who hate war the most but are willing to fight when needed. What I worry about is the people who do industrial policy love doing industrial policy."

Many Republican legislators, generally reluctant to intervene in markets, joined Democrats in supporting Chips because of the industry's unique character. 

Semiconductors are vital to civilian and military technology, but in recent decades a growing share of their fabrication moved to China, South Korea, and Taiwan. That leaves the U.S. acutely dependent on one potentially hostile (China) and two geopolitically vulnerable locations. Treasury Secretary Janet Yellen has referred to this vulnerability as an "externality," economist-speak for a cost, like pollution, that doesn't enter a private actor's calculus, thus justifying government intervention.

Commerce officials say they have taken these points on board. The funding criteria Ms. Raimondo laid out Tuesday target specific types of semiconductors that are vital to national security and for which production capacity is lacking either in the U.S. or its allies. That, they said, sends a clear signal to private industry where to put its resources. The criteria make it clear projects must be commercially viable once Chips funding ends, and encourages the development of two new industry clusters of suppliers, deemed essential for a viable ecosystem.

But in other ways, the Biden administration is pursuing broader social goals, the sort of mission creep that can undermine success. Funding recipients must provide "affordable, accessible, reliable, and high-quality child care for both facility and construction workers," pay union-scale wages for construction and, preferably, use unionized labor.

They can't use federal subsidies to pay dividends or buy back stock. They can't enter into joint ventures or licensing agreements in China. They will have to share windfall profits with the federal government.

By adding to recipients' costs and reducing their financial flexibility, they make the program less attractive to companies. A lack of participation would undermine the goals of Chips.

To be sure, these conditions haven't dampened interest yet. Commerce officials note many chip companies already provide child care and pay high wages, and that some criteria, like union wages and buyback limitations, are required by the enabling legislation. They say the windfall profit-sharing keeps applicants honest about how much subsidy they need.

These companies have alternatives. Japan, the European Union, South Korea, Taiwan, Canada and India are all offering or considering offering incentives of their own for chip production, and China's ambitions haven't slackened.

This highlights a final risk: when so many countries pursue the same industrial policy, it is harder for any one to succeed. 

With so much public money chasing chip factories, a glut could materialize. 

Ms. Raimondo said she's talking to U.S. allies to avoid that. While good in theory, it remains to be seen if such coordination can be achieved in practice. [1]

1. Analysis: Government 'Picking Winners' Holds Risks
Ip, Greg.  Wall Street Journal, Eastern edition; New York, N.Y. [New York, N.Y]. 01 Mar 2023: A.1.