The poor performance of many developing economies in recent decades has many explanations. Thought leaders such as prominent mainstream economists, the World Bank and the IMF tend to attribute failure to weak “institutions” which engender corruption, bureaucracy, lawlessness and poor human capital formation, and, consequently, result in a difficult environment for productive investments and capital accumulation to occur. In the countries themselves structural reasons often are preferred which tend to blame external forces: the legacy of colonialism and foreign oppression or the inequitable dependency of the “periphery” (developing countries) on the “center” (rich countries). A third approach, put forward by experts on historical technological cycles, gives significant incremental insights on the question, and, more importantly, guidance on a path to better performance in the future.
The Russian Nikolai Kondratiev and the Austrian Joseph Schumpeter developed the idea during the 1920s that long technological waves drive the course of economic growth. Both of these “political economists” sought to understand the miraculous growth created by the industrial revolution over the previous century to better explain the post W.W. I environment.
Schumpeter is best remembered for the idea that “creative destruction” is fundamental for progress and occurs in a recurring process: innovations made by scientists and tinkerers are turned into inventions by profit seeking entrepreneurs; eventually, the wide diffusion of disruptive technologies lead to widespread creative destruction as entire industries and sectors are transformed.
The chart below, from Visual Capitalist, summarizes the long-term technological cycles defined by Kondratiev and Schumpeter. Though the precise dates are debated by historians, the chart seeks to cover the entire era of the “Industrial Revolution.” Five distinct “long waves of innovation” are described, each one of which was deeply transformative, not only for the firms and industries involved but also for the socio-political fabric of society. This framework puts us today in the fifth wave of technological progress, the Information and Communication Technologies Age (ICT).
Following in the path of Schumpeter, the Venezuelan economist Carlota Perez and others have advanced the discussion of technological waves by incorporating the role of capital markets and exploring the implications for the development of “periphery” countries. Perez’s book, Technological Revolutions and Financial Capital (2001), has been hugely influential and is required reading in Silicon Valley boardrooms and venture capital firms.
Perez talks about technological revolutions as “great surges of development” which cause structural changes to the economy and profound qualitative changes to society, and she sees capital markets at the core of the process. Her “revolutionary waves,” as shown in the chart below are in line with Schumpeter’s, but she increases the scope to show the broad reach of these technologies on communications and infrastructure and, consequently, trade and commerce and society as a whole.
Perez’s technological cycles are divided into three distinct phases, which are determined by the diffusion rate of technologies.
During the initial phase – Installation – new innovations are slowly adopted by entrepreneurs with disruptive business models. As the kinks are worked out and the technologies become cost effective more entrepreneurs adopt the technologies with the backing of financiers (e.g. venture capital) who seek the high potential payoff of backing a future champion. This leads to a frenzy of capital markets speculation, which invariably results in overinvestment, hype, financial bubbles and financial crisis.
As shown below, every Installation phase has ended in a bubble, followed by a financial crisis, which Perez call the Turning Point. The canal mania of the British industrial revolution, the British railway mania of the Age of Steam, the global infrastructure mania (sometimes called the Barings mania) of the Age of Steel, the roaring twenties stock market bubbles of the age of mass production and the Telecom, Media and Technology (TMT) bubble of the ICT revolution all ended in financial crises.
For illustration purposes, the chart below shows Perez’s process at work for the current Information and Communications Technologies (ICT) revolution that we are currently living. The cycle is a typical S-curve which has a long incubation period of slow growth, followed by a sharp ramp up and an eventual flattening. The current cycle can be said to have started in 1971 with the launch of the first commercial micro-processor chip by Intel, but this was only possible because of a prior decades-long incubation period of scientific research and tinkering. Financial speculation built up between 1995-1999 led to the great TMT bubble and the crash in 2000-2001. Following the crash, the Deployment Phase has caused the rise of the major winners through a consolidation process (FAANGS). (These consolidations are normal, according to Perez. For example, hundreds of auto companies engaged in brutal competition before consolidating into the three majors in the 1920s).
The Deployment Periods, which Perez calls the “Golden Ages”, is when the technologies become cheap and ubiquitous, and their benefits are widely diffused through business and society. Perez argues that we are on the verge of another “golden age” today, as we approach broad access to smartphones and the internet and massively powerful micro-chips are becoming almost ubiquitous in basic consumer products (the chip in an Iphone has a trillion times the computing power of those used by IBM’s mainframe computers in 1965.)
If it doesn’t feel now like we are entering another “Golden Age” it is because we are still experiencing the after-shocks of the previous phase of financial frenzy and economic collapse and its consequences: high inequality and populism. Perez argues that the successful countries of the next decades will be those that have governments that understand the moment and can actively promote the diffusion of ICT technologies to achieve broad societal goals (e.g. “green” technologies).
Technology Cycles and Emerging Markets
Looking back at history, one can see how this process has played out before for developing countries. We will focus on the last three technology cycles: The age of steel and mass engineering, the age of oil and mass production and the current ICT revolution.
The age of steel and mass engineering (1875-1908): This was the age of the wide diffusion of the steam engine and steel through mass engineering to provide the infrastructure for the first wave of trade globalization. The rise of Japan (the first of the Asian Tigers) occurred over this period as it methodically diffused all of the technologies developed in the West. Latin America experienced its own “Belle Epoque,” as steamships and railroads made its commodities competitive in global markets. During this time, Argentina and Brazil were considered at the level of development of most European countries and attracted millions of European immigrants.
The age of oil and mass production (1908-1971) – Interrupted by two devasting world wars and marked by profound socio-political change, this age still generated wide-spread prosperity, though China, India and Eastern Europe did not participate. Initiated by the launch of Henry Ford’s Model T automobile in 1908, it saw the diffusion of the internal combustion engine, electrification, and chemicals under the structure of the modern corporation. Following the Second World War, broad diffusion of these technologies led to a “Golden Age” of capitalism throughout the Western World. This was also a period of “miraculous” growth throughout Latin America as the wide diffusion of the mass production process, supported by import substitution policies and foreign multinationals, created abundant quality jobs in manufacturing and the rise of the middle class consumer.
The Information and Communication Technologies (ICT) Revolution (1971-today): All phases of technological revolutions overlap with their predecessor and follower as the diffusion process plays out. In the case of the ICT revolution the overlap has been particularly important and has created unexpected winners and losers. China’s economic reforms (1982) and the fall of the Berlin Wall (1989) had the effect of radically expanding the length and scope of the Mass Production Age at a time when the “creative destruction” of the ICT Age should have been undermining it. Instead of increasing productivity German corporations moved mass production to Eastern Europe and American corporations outsourced to China, to exploit cheap labor. Companies also were able to avoid expensive environmental costs by offshoring carbon-intensive, heavily polluting industries to China and the Middle East, delaying the diffusion of “green” technologies for decades. The Mass Production Age, with its high environmental costs, was extended to the enormous benefit of China and a few countries in Eastern Europe, at the expense of workers in Europe and America who were pushed into low-productivity service jobs, and the “Golden Age” of the ICT revolution has been delayed. ( U.S. productivity and growth have declined and inequality has risen sharply while Amazon makes it ever easier to buy Chinese-made goods.)
The slow diffusion of the ICT age and the extension of the mass production age has had very uneven consequences for emerging market countries. The winners of the ICT age have been those countries that were late comers to the mass production paradigm and understood that the ICT revolution would lead to massive reductions in communication and transport costs and a new wave of globalization. The Asian Tigers (Korea, Taiwan, China, Vietnam) and to a lesser degree Eastern European countries (Poland, Czech, Hungary) have been the champions by integrating themselves in global mass production value chains and assiduously working to add value. South-East Asian countries (Indonesia, Thailand, Malaysia) initially did well but increasingly find themselves sandwiched between newcomers like Vietnam and Bangladesh, which are competitive in low value-added products, and China for higher value-added products. Both India and the Philippines almost completely missed out on the mass production age revival but have made small niches for themselves in the ICT world with Business Process Outsourcing (BPO) and IT Services Outsourcing.
The big loser of the ICT age has been Latin America, which has undergone severe deindustrialization and has become mired in the middle-income trap. Mexico has suffered the greatest frustration. This country, led by its brilliant technocrats, did everything right to position itself for the mass production to ICT transition, entering into the groundbreaking NAFTA trade agreement with the U.S. and Canada. The thinking behind NAFTA was brilliant. It would facilitate a smooth transition out of mass production to ICT for U.S. firms while extending the benefits of the mass production age to a friendly neighbor operating under controlled conditions (labor, local content, subsidies, environmental, etc…). Unfortunately for Mexico, the dramatic rise of China as the factory of the world undermined all of these objectives, as China successfully dominated global value supply chains without having to meet any of the conditions Mexico had to comply with.
South America has not fared better. As high-cost producers with very volatile currencies and economies, these countries were unprepared to compete with China. These disadvantages were compounded by (1) the false hope created by the commodity boom (2002-2012) which resulted in a typical boom-to-bust cycle and a vicious case of Dutch Disease (natural resource curse) that these countries have yet to recover from and (2) the adoption of “Washington Consensus” financial opening dogma (free movement of capital) which increased volatile flows of hot money and destabilized currencies.
The following chart shows economic convergence since 1980 (in terms of USD GDP/Capita) for a sample of developed and emerging market countries, which is illustrative of the winners and losers of the ICT Revolution.
The Golden Age of ICT
If Perez is correct and we are on the verge of a Golden Age of extensive diffusion of ICT technologies through all segments and geographies what should countries be doing?
Perez and Raphael Kablinsky in his recent book, Sustainable Futures, An Agenda for Action, argue for activist government using its resources to incentivize private investment to achieve desirable societal goals (e.g., environmental sustainability, equal opportunity). The Biden Administration’s recent Inflation Reduction Act (IRA) and the Chips and Science Act are both in that spirit, aiming to promote investment in clean energy and energy efficiency and the re-shoring of semiconductor production away from the Asian mass production value chain. These initiatives, as well as President Xi’s Made in China 2025 Plan, all assume that the great Mass Production Age extension through China-centric global value chains has run its course, and that ICT diffusion will now result in, without excess short-term costs, a return to more local/regional manufacturing and a more autarkic or segmented global trade system. Through massive state subsidies China already has taken a commanding lead in the production of “green” products such as electric vehicles and batteries and solar panels.
The return of activist government, coming after a 40-year period of neo-liberalism and government retrenchment, raises the question of what policies countries should pursue to fully reap the benefits of this final phase of the ICT Revolution.
Perez recommends two basic courses of action that many emerging economies and developing countries can pursue. First, governments should be active in promoting ICT diffusion in industries where competitive advantages are evident. For example, commodity rich countries like Brazil, Argentina and Chile can increase productivity by being at the forefront of ICT innovations applicable to farming and mining and, at the same time, aggressively move up value chains for these products. (Brazil, with its low carbon-dependent economy and enormous potential in solar, wind and biofuel energies, is well positioned to become a global leader in “green” farming and mining). Second, Perez sees large opportunities for countries or regional groups to capitalize on climate change initiatives by deploying alternative energy sources and capturing their value chains through localized production. (Once again, Brazil with its large local market opportunity can achieve leadership).
The consulting firm McKinsey provides a roadmap for the future in a recent article, “Accelerating Toward Net-Zero; The Green Business-Building Opportunity” (Link). The following chart from McKinsey maps out the sectors expected to have the largest economic importance in a “greening” economy and, consequently, where governments and firms are advised to focus their efforts.
