DAIKIN

Green To Great Industrial Policy

As the world takes incremental steps towards sustainable development and a lower-carbon economy, should India place bets on manufacturing solar panels? Or electric vehicles? How about batteries for stationary and mobile applications? Or superefficient appliances, such as refrigerators and air conditioners? It could support research and development for ultra-low carbon steel, or find ways to make its small and medium enterprises more energy-efficient. There is nothing wrong if India manufactured some or all these products, or their components, by becoming more innovative and competitive. How can India carve room for itself in the green industries of the future while avoiding the pitfalls of cherry-picking winners?

In major economies, there is renewed interest in industrial, particularly green industrial policy, namely measures to align economic structure with sustainable development, supporting clean tech or helping industries clean up their act.

The rationale rests on combating market failures. There is underinvestment in clean tech because their positive impacts are not fully accounted and the negative impacts of environmental externalities (air, water and land pollution, biodiversity loss, climate change) are not correctly priced.

Advanced and emerging economies (including Brazil, China, France, Germany, India, Japan, the Netherlands, the UK and the US) have employed an array of support measures. Germany has given billions of euros for R&D on wind, solar photovoltaic, solar thermal, geothermal and renewable energy integration technologies. After the 2008 financial crisis, the US gave $20 billion for research and investment in green technologies. Germany offered low-interest loans for renewables and set up dedicated funds to support energy efficiency, energy storage, e-mobility and refrigeration, or for bilateral cooperation to export German technology. China allocated tens of billions of dollars in low-interest loans for its domestic RE industry, in addition to offering tax holidays and rebates and cheap energy infrastructure. It has spent $59 billion to subsidize electric vehicles, becoming a world leader in EV manufacturing.

There are other motivations. There is growing mercantilism to protect domestic firms and capture market share rather than create long global supply chains in clean tech. There is some merit in supporting green technologies to get the first-mover advantage and shift rents to local firms. In 2002, Japan dominated solar PV manufacturing; by 2012, seven Chinese firms were among the top 10 manufacturers. China also rapidly established itself in pole position in high-speed railways, building the largest network in the world and now out-competes traditional industry leaders like Germany and Japan in export markets.

Such motivations come with the risk of regulatory capture and policy distortion. India used local content requirements (LCR) and safeguard duties to promote solar PV manufacturing. But LCR policy was distorted (resulting in overuse of thin-film technology) and manufacturers found that tariffs on imported inputs exceeded tariffs on final products. Consequently, Indian solar PV manufacturing continues to remain under stress.

The temptation to follow Chi­na’s model should be tempered by understanding what worked under which special conditions. China’s entry into the World Trade Organization coincided with its decision to build a domestic solar industry, giving its manufacturers access to markets in Europe and North America. However, in the past decade, rising WTO disputes over clean energy mean that new entrants in green technology cannot take market access for granted.

Also, Germany spent billions to support solar via feed-in tariffs (FiT), which subsidized consumers and, in turn, Chinese exports of solar PV. Wind energy got a smaller share of FiTs, so support measures went more directly to German wind component manufacturers, which have managed to remain competitive.

What can India learn from these experiences? First, clearly define the objective of green industrial policy. Combining other goals (say, protecting jobs) with environmental goals has generally hampered discipline and accountability. Second, when designing challenge prizes, it is better to establish stringent technical and performance standards rather than favor specific technologies. This would be particularly applicable in nascent industries, such as EVs and energy storage.

Third, “horizontal industrial policies” that apply across sectors are less susceptible to capture. The Council on Energy, Environment and Water identifies nanotechnology, industrial biotechnology and advanced materials among key enabling technologies that could have maximum impact on industrial value addition in many sectors.

Fourth, India must leverage the size of its domestic market. In China, university research on renewables did not quickly impact RE manufacturing. China benefited more from knowledge transfers via turnkey projects and foreign technical experts. India, too, must create incentives for tech collaborations with other countries, with provisions for knowledge transfer embedded in them.

Fifth, without greater R&D spending, technological leadership is unlikely. Indirect measures such as subsidizing consumers or giving tax breaks to project developers have had less impact on clean tech development. Direct approaches, such as taxing environmental externalities, are likely to trigger more innovation. Industrial policy and innovation policy must go hand-in-hand.

Sixth, encourage competition rather than protect inefficiency. In India and Mexico, trade liberalization and import-induced competition made local firms invest more in energy efficiency. Direct support measures work better when linked to proof of growing competitiveness in domestic or export markets. Favoring individual firms will increase the chance of private investors gaming the system. Information asymmetries between public officials, innovators, entrepreneurs and investors could be reduced through improved monitoring.

Soon, a new government will have to think about the intersection between industrial growth and sustainable growth for India. Creating enabling conditions for effective green industrial policy is hard, but it is the only way towards becoming a great economy that shapes the future.―Business Standard

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