Western Economies Embrace State Intervention, Emulating Asia

By Tom Fairless and Stella Yifan Xie

FRANKFURT -- Western governments are taking a page from their Asian rivals and moving away from the free-market doctrine that defined their economic thinking for decades, instead embracing greater state control of business activity.

The shift reflects a deep anxiety about the West's ability to maintain its living standards and technological edge while competing with giant state-backed companies in China and elsewhere in Asia.

The trend is being accelerated by the Covid-19 pandemic, which has prompted a rethink of the balance between the state and private sector, as well as fresh ideas about how giant stimulus programs in Europe and the U.S. could be deployed to reshape economies.

In the European Union, an export powerhouse that had long prized laissez-faire policies and free trade, leaders last month vowed to erect barriers to foreign competitors, repatriate production of key technologies, reduce dependencies in sensitive industries such as health, and create new digital champions.

Italian state-backed lender Cassa Depositi e Prestiti last month took a stake in European exchange operator Euronext NV to support its buyout of the Italian stock exchange. Germany's government recently demanded a 20% stake in national flag carrier Deutsche Lufthansa AG, which was privatized in 1997, and two supervisory board seats, in return for a $10 billion bailout.

In the U.S., both main political parties are moving toward a stronger role for the government on economic issues. The administration and lawmakers from both parties also are pushing for additional funding to help the U.S. semiconductor industry keep its edge over China, offering incentives to chip firms to build factories in the U.S. and funding technology research. So far, Congress hasn't agreed on funding to put the plans into action. Should former Vice President Joe Biden prevail in the presidential election, he has said he would put huge funding into industrial policy efforts.

"It's a major historical development," said Adam Posen, a former Bank of England policy maker who is now president of the Peterson Institute for International Economics in Washington. "It's a reaction to China. It's a reaction to Covid-19 and wanting to have more reliability and government control."

The changes reflect a fundamental philosophical shift away from the market-oriented consensus dominant in the West since around 1980, which emphasizes a reduction in state support for businesses, the removal of regulations impeding competition, and trade liberalization.

Now, as Western governments wield enormous stimulus packages, they are pouring money into industries traditionally considered beyond the remit of the state.

Italy plans to spend 2 billion euros, equivalent to $2.3 billion, to buy and refurbish hotels devastated by the crash in tourism. In France, authorities plan to spend hundreds of millions of euros to buy local stores to support quintessentially French businesses such as bakeries and cheese shops.

In the U.K., Prime Minister Boris Johnson's government has signaled it will pursue an aggressive industrial policy of state aid to businesses after Brexit, risking a rift with the EU.

"The public are prepared for the state to play a bigger role in all sorts of things," said Gus O'Donnell, former head of the U.K. civil service.

Across Europe, businesses and policy makers are fearful of being squeezed out of new digital industries dominated by U.S. and Chinese companies.

Meanwhile, the pandemic has driven Asian countries to double down on the tradition of state intervention that has fueled extraordinary growth and produced winning industries such as electronics manufacturing in South Korea and Japan, and China's solar power and semiconductor industries.

"One thing we could learn [from China] is to make a strategy and stick to it," especially in new digital industries, said Margrethe Vestager, executive vice president of the European Commission, in an interview.

The Trump administration's trade policy, which requires China to buy more goods from the U.S., depends on Beijing ordering state-owned companies to increase their purchases. Administration officials say they are simply accepting Chinese economic policy as it is, rather than trying to compel China to rely more on market forces.

There are risks to the new approach. Some governments have demonstrated limited expertise in picking the companies and industries to invest in, with Asian countries pouring money into such efforts over decades, some of it without success.

In China, concerns are growing among some economists that a fresh wave of government spending on power, gas and water-supply infrastructure -- which it hopes will lift the economy -- will exacerbate overinvestment in those sectors.

In Europe, the Common Agricultural Policy became infamous for generating huge inefficiencies -- so-called butter mountains and lakes of wine. The Italian government has spent billions of euros trying to make airline Alitalia a success, only for it to continue losing money.

While large-scale government and military programs helped seed important industries during World War II and later led to the creation of the internet, the pendulum swung back to small government in the 1980s, when Western governments got out of businesses such as telecoms, utilities and transport.

Economically successful East Asian nations including Japan, South Korea and Taiwan have a history of government intervention and encouraging big export industries. Close ties between governments and the private sector are widely credited for having lifted the region out of poverty.

The aftermath of the 2008 financial crisis eased decades of skepticism toward big government. The countries that intervened most, such as the U.S. and China, emerged strongest, while those that were most stringent, including Southern Europe, were hobbled for years.

Chinese state-owned enterprises doled out more than 4 trillion yuan, equivalent to $600 billion, to build bridges, airports and other infrastructure. Between 2012 and 2018, the value of Chinese state companies' assets grew more than 15% annually, well over twice the growth rate of the country's economy, according to the Peterson Institute for International Economics.

"The sheer scale of China's economic growth has raised the global profile and attraction of the state capitalist model," said William L. Megginson, professor of finance at the University of Oklahoma.

Efforts to bolster certain industries have gained urgency in the West as China's focus shifts from cheaper goods to the more expensive products that U.S. and European companies specialize in.

China is pouring tens billions of dollars into industries it has identified as strategic priorities, such as semiconductors and robotics, while Chinese authorities use favorable policies to nurture homegrown high-tech companies. Covid-19 has led to more trade protectionism, prompting Beijing to speed up efforts to reduce dependence on foreign core technologies.

In Germany, businesses are calling on the government for help advancing in future technologies as the nation's large auto sector sags -- and countering an increasingly competitive China.

"In some areas we are losing ground to China, such as the electronics industry," said Toralf Haag, chief executive of Voith Group, a German engineering company. The huge investments needed to foster new technologies are "too big of a project to lift for companies alone."

In Brussels, European lawmakers are pushing to relax rules limiting state aid in a bid to spur the creation of national champions.

Meanwhile, Asian countries are focusing on the state-centric model.

South Korea in July unveiled a plan worth 5 trillion won, equivalent to $4.4 billion, to protect its supply chains against disruptions, which includes incentives for firms to repatriate production. Japan is spending $2 billion on efforts to bring production back from China or to diversify it into Southeast Asia.

Chinese state-owned enterprises including China Mobile Ltd. and China Railway Group Ltd. created more than one million new jobs earlier this year as private businesses cut spending, according to state media.

Still, some economists argue that China also has a poor record of picking winners, and that its stunning economic growth has been driven by the private sector.

"Many of the Chinese interventions...have been failures, but China has enjoyed enough success in promoting key industries such as solar power, steel and artificial intelligence that it is perceived as winning," said Mr. Megginson.

Businesses -- especially in export-oriented countries such as Germany, Italy and South Korea -- worry that renationalizing trade and supply lines will increase costs while hurting innovation and productivity.

Recently departed Japanese Prime Minister Shinzo Abe put the government's muscle behind an effort to export infrastructure such as nuclear-power plants and bullet trains to Europe and developing nations, an effort that ended mostly in failure as the recent collapse of a Hitachi Ltd.-led nuclear-power project in Wales shows.

"I'm not sure the government has a particular knowledge in terms of which sector might expand. Industrial policy leads to bureaucracy," said Carlo Cottarelli, a former Italian government official who headed an ill-fated attempt to cut government waste.

--Eun Young Jeong contributed to this article.

Write to Tom Fairless at [e-mail] and Stella Yifan Xie at [e-mail]

(END) Dow Jones Newswires

11-05-20 0614ET