If the past is another country, the future of Australia’s economy after COVID-19 will be a different universe. Every crisis provides an opportunity, but few have the far-reaching implications of a global pandemic. This crisis challenges us to reshape our economic and social direction for years, possibly generations, to come. Not only has it exposed the gaps in Australia’s manufacturing supply chains, but it has also more broadly demonstrated the vulnerability of a commodity-based economy to external shocks, and the need to reverse the hollowing-out of our manufacturing capability. And, most significantly, it has become an opportunity to ‘rebalance the imperatives of social solidarity with the dynamism of the market to enhance the legitimacy of government’.1
In capitalising on this opportunity, no one could claim that past experience has been an unalloyed success. Australia’s historical reliance on import tariffs, which enabled infant industries to grow in a protected domestic market and distribute productivity gains across the workforce, was eventually superseded by the need for international competitiveness in a more open economy. While we subsequently enjoyed almost thirty years of continuous economic growth, our record has been marred in more recent times by a structural deterioration in our productivity performance, masked only by the terms-of-trade boost associated with the mining boom. This productivity slowdown, which afflicts a number of advanced economies, has been accompanied by wage stagnation, increasing social inequality, and the ‘financialisation’ of large corporates as they preference share buybacks and executive bonuses over investment in research and innovation.
Moreover, we have had to endure a paralysing decade-long debate over climate change in which evidence has mattered less than ideology. As a result, we have become disempowered bystanders to the existential consequences of global warming and environmental degradation, including the recent catastrophic bushfires, species extinction, and coral bleaching on the Great Barrier Reef. We are fortunate that the war on climate science, and the populist resistance to remedial action, did not carry over into the health and medical assessments of COVID-19 and subsequent policy response, as it did in some other countries.
Economic complexity
If there is a single factor linking the constituent parts of this experience, it is Australia’s overwhelming reliance in recent years on the export of unprocessed raw materials to drive our growth and prosperity. However sophisticated the method of resource extraction, the truth is that we sustain our First World lifestyle with a Third World industrial structure. This was the message of the Harvard Atlas of Economic Complexity, which in 2019 ranked Australia at the bottom of all OECD countries for the complexity of its economy, measured by the diversity and research intensity of its exports.2 It is also the logical endpoint of the theory of ‘comparative advantage’, which asserts that we maximise gains from international trade by exploiting our abundant natural endowments in return for imported consumer goods from places that produce them more cheaply.
Even if this theory were true in the past, it no longer holds in a world in which manufacturing is undergoing massive transformation in a fourth industrial revolution—known as Industry 4.0—encompassing robotics and automation, artificial intelligence, machine learning, bioengineering and data analytics. This transformation will be accelerated by the current crisis as part of the wider process of Schumpeterian ‘creative destruction’.3 In this process, manufacturing is not just a vertical industry sector but also a horizontal enabler of technological innovation and change across all ‘industries of the future’.4 Australia’s commodity boom was an unrivalled opportunity to build this transformational capacity, but we let it slip away in the name of a neoclassical ‘black box’ economic model. Now we must do so in less favourable circumstances.
In countries such as Germany, Switzerland, Japan and Korea, manufacturing and related services underpin high-productivity, high-skill jobs. Competitive advantage is achieved through ‘smart specialisation’ in global markets and value chains, with an unrelenting focus on quality, design and innovation.5 By contrast, Australia has allowed its manufacturing sector to decline to dangerous levels: now 6 per cent of GDP, down from 30 per cent in the 1960s and 1970s. Even when we take into account services excluded from this measure, such as computer science, engineering and design, no other comparable country experiencing manufacturing decline is as precariously placed as Australia, and some retain high-value manufacturing at up to 20 per cent of GDP.
The problem is that many of the companies that survived the removal of tariff protection in the 1980s and 1990s eventually succumbed to the exchange-rate volatility associated with the mining boom and have not bounced back. While Australia has recently recorded trade surpluses, due largely to a spike in iron ore prices, the underlying deficit in manufactured goods is increasing year on year, particularly in research-intensive ‘elaborated transformed manufactures’, which represent the future of manufacturing in high-wage economies.6
Some economists argue that this is not a problem at all, but ‘structural change’ that results in an optimal reallocation of labour and capital. The deficiency of this approach is that it confines itself to asking how a fixed quantity of resources can be efficiently allocated. Consequently, it sees industry assistance as a zero-sum game, with some firms benefiting at the expense of other producers and consumers, for no net economic gain. However, an alternative approach is to model capitalism as a ‘dynamic system’, in which change is the only constant. It is increasingly understood that because innovation is risky and expensive, and information is costly to acquire and use, government has a role in reducing risk and encouraging the uptake of new technologies and skills. This is the role of what influential economist Mariana Mazzucato has termed the ‘entrepreneurial state’.7
Post-mining-boom transition
Despite expectations of a post-mining-boom transition to a more diverse, knowledge-based economy, current examples of Australian manufacturers with a global presence are few and far between. While some are the best at what they do, they also tend to be small players in specialised markets. It is noteworthy that Scandinavia, with a comparable population, has six global manufacturers in the Fortune 500 list. By contrast, Australia has only mining companies and banks in the list. Moreover, Norway has demonstrated how to manage resource extraction not just for a short-term consumption boom but for longer-term economic benefit. With a 76 per cent resource rent tax, the Norwegian Government established what has become the world’s largest sovereign wealth fund to underwrite its research and innovation infrastructure.
While the COVID-19 crisis has exposed the deficiencies in Australia’s past economic policy approach, it also provides the opportunity for a fundamental redesign of our outdated industrial structure.8 Clearly, this does not require a return to tariff protection. Australia is a relatively small, interdependent economy and would reject globalisation at its peril.9 But that doesn’t mean we can’t take steps through a national industrial strategy to rebuild and reinvent our manufacturing capability, with an eye to new global opportunities as well as addressing domestic supply chain gaps.10 The Australian Sustainable Finance Initiative has emphasised the importance of an integrated approach that ‘responds to both the immediate economic recovery from the pandemic whilst also addressing our climate and social goals’.11
Previously, in response to the huge loss of manufacturing jobs associated with the mining boom, the Rudd/Gillard Labor government established a taskforce not unlike the one formed recently by the National COVID-19 Coordination Commission. It produced a detailed report, Smarter Manufacturing for a Smarter Australia, that made recommendations to encourage greater local participation in major projects, reboot investment and economy-wide productivity growth, establish innovation precincts and networks for deeper business-researcher collaboration, build enterprise capability and absorptive capacity, and improve workforce and management skills. The government accepted most of the recommendations ‘in principle’, but on advice from Treasury ruled out gas reservation and a sovereign wealth fund. In any case, there was little time to implement the recommendations before Labor lost office at the subsequent election.
The economic reconstruction that will be necessary in the wake of COVID-19 is a further opportunity to shape Australia’s future economic direction. The prime minister has called for ‘a new industrial compact between workers, employers, unions and government to boost employment and forge a remodelled economy after the pandemic’.12 Labor leader Anthony Albanese has committed the party to ‘revitalise high value Australian manufacturing using our clean energy resources’.13 This is a promising start in an area that should be natural territory for the Labor Party, but we await the substance of the commitments.
National industrial strategy
While the framework for a national industrial strategy can draw on the experience of other countries, it should also be adapted to the specific conditions of the Australian economy. Clearly, there is no one-size-fits-all model for industrial transformation—current examples around the world include Germany’s ‘High-Tech Strategy 2025’, Sweden’s ‘Smart Industry’ strategy, the United Kingdom’s ‘Industrial Strategy’ and China’s ‘Made in China 2025’ strategy, as well as major initiatives in the United States.14 Karl Aiginger and Dani Rodrik characterise contemporary industrial policy as:
a systemic approach that coordinates innovation, regional policy, and trade policy, with manufacturing at its core, while affecting upstream and downstream industries, sectoral change, clusters, and networks. It should be steered by societal goals that lead to sustainability and responsible globalization.15
Australia has had a long history of industrial intervention, with mixed results. Some measures have been effective, such as the ‘structural adjustment’ programs of the 1980s and 1990s, particularly the National Industry Extension Service (NIES), while others have been poorly targeted and open to rent-seeking, such as the massively expensive diesel fuel tax rebate, which equates to about half of the $10 billion annual Commonwealth spend on research and innovation. Since it is apparent that the future of high-value manufacturing cannot be left to the market forces that precipitated its decline, the time has come for Australia to devise a more coherent, evidence-based industrial strategy with a focus on rebuilding manufacturing capability and performance in a globalised, carbon-neutral economy.16 The following are five basic building blocks for success.
1. Industrial strategy commission
We must overcome the fragmentation and under-resourcing of institutional policymaking in Australia. A report for the 2015 Senate Innovation System Inquiry found that funding for research and innovation is spread haphazardly over thirteen portfolio areas and 150 budget line items.17 A new national industrial strategy commission or similar central agency should be established to develop national priorities in consultation with industry sectors, aimed at growing industries of the future with new technologies, skills and business models. The initial task of this agency would be to identify areas of current and future competitive advantage for Australia, as well as gaps and opportunities in domestic supply chains. This means addressing not just areas of market failure but of ‘system failure’, where coordination, targeting and evaluation of publicly funded programs is lacking, more often than not due to institutional path dependency.18
While reporting to the industry minister, any new agency should have its own representative board, specialist staff and responsibility for industry-facing programs, including most of AusIndustry, the Entrepreneurs’ Programme, Rural R&D Corporations, Industry Growth Centres and the Industry Capability Network. A major rethink is overdue and should also include a substantial shift of funding from the R&D Tax Incentive, which has doubled in size as a proportion of government spending on research and innovation, to directly targeted programs.
2. Industry-research collaboration
There has been a longstanding, widely acknowledged need to deepen collaboration between industry and research organisations around the CSIRO’s designated ‘national missions’.19 This calls for an immediate reversal of the decline in both government and business expenditure on R&D, now at 1.79 per cent of GDP in Australia, far below the OECD average of 2.4 per cent. We should aim to make our R&D goal at least 3 per cent of GDP. In doing so, funding agencies will need to address the increasingly evident research mismatch between industry and universities. Recent data indicate that while funding is abundant for health and medical research, enabling Australia to grow a small but world-competitive medical technology and biosciences sector, it is hopelessly inadequate for engineering and information technology, which is an essential driver for broadly based manufacturing and related services.20
In addition, national missions will require an implementation strategy at the enterprise level, or they will simply remain abstractions.21 Other countries have developed mechanisms to bring together companies and public research organisations into collaborative hubs of technology, design and commercial expertise. Examples include Germany’s Fraunhofer Institutes, the United States’ Manufacturing Institutes and the United Kingdom’s High Value Manufacturing Catapult Centres, which also serve as a magnet for foreign investment.
Along with CSIRO and the university sector, Australia’s Cooperative Research Centres (CRCs) have done much of the heavy lifting for manufacturing collaboration over the past three decades but were not provided with funding certainty or a defined role in an overall strategy. There is a strong case for building on the CRC model with a national network of industry-led research and innovation hubs, with continuity around medium- to long-term missions. An early prototype is the Queensland-based Advanced Robotics for Manufacturing (ARM) Hub, which brings together a range of public and private stakeholders.
3. Start-ups and precincts
We should not overlook the contribution of entrepreneurial start-ups to economic renewal, including integration of the digital and physical dimensions of manufacturing, which is an essential feature of Industry 4.0. Governments everywhere facilitate start-up activity, as well as scaling up new ventures for global opportunities, through support for innovation precincts in cities and regions.22 These precincts provide an opportunity for developing a manufacturing culture among entrepreneurs and investors through design-led innovation in ‘maker spaces’ that provide common-use facilities at low entry cost for prototyping, testing and developing new products.23 World-competitive manufacturing is invariably associated in advanced economies with world-class design, as well as a ‘design thinking’ mindset.24 Perhaps the time has come to resurrect and repurpose the Australian Design Council.
While the Commonwealth’s role in supporting start-ups is to establish a robust, properly funded national policy framework, the states should carry much of the responsibility for delivering business services and infrastructure, particularly for industry clustering and place-making initiatives.25 The innovation hubs referred to above should ideally be funded and administered as a joint Commonwealth-state program, drawing on the European Union principles of ‘subsidiarity’ and ‘additionality’. This was the model of the successful NIES program of the 1980s and 1990s. The value of such a model has since been demonstrated by the multiplicity of overlapping and uncoordinated programs at state and federal level, which undermines their cost-effectiveness.
4. Public procurement
The government can make a big difference for small and medium enterprises with public procurement policy. Too often we see local tenders overlooked in favour of large international companies on a narrow ‘value for money’ basis, when these large companies themselves might owe their existence to another country’s more imaginative procurement policy. Measures such as the US Small Business Innovation Research program are a powerful instrument for technology-driven enterprise capability-building and the development of critical mass in local supply chains.26 They can also supplement foreign direct investment attraction programs, when these are designed to enhance research-intensive manufacturing at home. The argument against developing such programs in Australia—that they might breach World Trade Organization rules—is wearing thin.
An efficient freight and ports system is important in facilitating increasingly data-driven operations in manufacturing logistics and supply chains, but Australia’s container ports lag behind international counterparts in their productivity performance, adding to the costs of both importers and exporters. As Infrastructure Australia has recently noted, our trading connectivity would be greatly enhanced by a new east coast deep-water container port able to accommodate the global shift to ultra-large container vessels.27 Given that existing capital-city ports lack the capacity to handle these vessels, there is a compelling case for restrictions on port competition to be removed. In New South Wales, this would have the added advantage of facilitating the diversification of one of Australia’s major economic regions while contributing to ‘congestion-busting’ in built-up metropolitan areas.28
5. Skills and education
Finally, it is widely recognised that industrial transformation in Australia will depend ultimately on the adequacy of our workforce and management skills,29 a key element of ‘non-R&D’ innovation. International evidence suggests that these skills in Australia are lagging behind comparable countries, and that they are atrophying further with the decline of manufacturing and economic complexity. Education and training must be an integrated contributor to any new industrial strategy framework, along with provision to draw on workers’ talent and creativity at the enterprise level. Involving workforces in the range of decisions that affect them contributes to superior productivity performance; we should encourage this practice—or even mandate it—in the context of workplace reform.30
Most immediately, substantial public funding will be needed to repair the damage to the TAFE system from market contestability, and to place vocational education and training at the heart of the strategy to rebuild manufacturing capability. This applies as well to the potentially devastating COVID-19 impact on university finances. It is still not well understood that Commonwealth funding for higher education does not cover the real cost of domestic teaching, let alone research. Uniquely in Australia, international student income not only cross-subsidises teaching but makes up a significant proportion of research funding.31 In the absence of an alternative business model, the loss of this income will seriously damage the capacity of Australia’s university sector to contribute to long-term growth and jobs.
Repositioning for the future
The time has come for a thoroughgoing reassessment and repositioning of Australia’s industrial structure. This was the conclusion of last year’s CSIRO-NAB Australian National Outlook,32 and its implications have been taken even further by Ross Garnaut in his compelling proposal for Australia to become ‘an economic superpower of the future post-carbon world’.33
The way forward will require the design and implementation of a comprehensive national industrial strategy, in conjunction with new forms of global interdependence and cooperation.34 However, concern has turned to the unprecedented level of public debt that will be incurred by the COVID-19 rescue package. So how can the government commit to even greater expenditure on an ambitious new industry policy direction? Historically, this problem has always accompanied the recovery from wars and crises, but it has always had a straightforward solution: a return to productivity-enhancing innovation and economic growth.35
The challenge of this crisis is to devise a growth path that doesn’t simply replicate what came before but addresses the broader issues of climate change and social inequality in conjunction with the imperative of technological change and innovation. To succeed in this challenge means creating a more dynamic, sustainable and inclusive knowledge-based economy, with a major role for advanced manufacturing.
There will be those who claim that Australia cannot afford to undertake such a radical and untried reconfiguration of its conventional policy approach. In fact, we cannot afford not to do so, particularly at this critical turning point for the world’s production systems and supply chains. We may not be able to rewrite our history, but we must be ready to shape the future, before it shapes us.