Local economic development as an evolutionary process

Modern evolutionary economics is about 20 years old now, and many research programmes continue to add to the content of the subject. I think that development practitioners have a lot to learn from this subject. When we work at the local level, with local stakeholders and local resources, we are often confronted by the failures of traditional economic models (for instance the obsession with supply and demand). For instance, traditional economics often focus on distribution or allocation of wealth, while in evolutionary economics the focus is more on wealth creation. Traditional economic models assume that you can use the data of the past to make reliable predictions about the future. Just this simple insight will already change many LED approaches that emphasize working with the youth and the marginalised (solving an allocation problem) towards understanding the systemic interaction of economic technologies, social technologies and physical technologies that co-evolve to create wealth.

To be more precise, an economy should be recognised as a complex adaptive system (Beinhocker, 2007; Ramalingham, Jones, Reba and Young, 2008). This means that the economy is a system of interacting agents that adapt to each other and their environment in a complex way. Complex adaptive systems are sub-systems of open systems. It recognises that change and advancement are forces within the system created by the agents, and that it takes energy to create and process information, and to create order.

Dosi and Nelson (1994) explains that “evolutionary” implies a class of theories that tries to explain the movement or change of something over time. It furthermore involves both random elements which generate or renew some variables, as well as mechanisms that systematically create variation. Central to these theories are the concepts of deductive and experimental learning and discovery.

Beinhocker explains a simple formula that is common to all evolutionary systems. Firstly, a system needs to create variety (for instance through many innovators trying new things), and then there must be some selection or fitness criteria (often this is provided by markets). Next there is a selection process, where the ‘best’ or rather most-suitable designs are selected, and thereafter these choices are amplified or repeated (also known as imitated).

So if you think of your local economy, then consider how certain businesses came about. The variety of businesses is a direct result of novelty or variety creation, and how they ‘fit’ to the criteria of local consumers,resulting in these business models being ‘chosen’. Every now and then, a business person with a new or different idea comes along, and this in many cases may even result in local consumers changing their fitness criteria. This describes a process where economic resources (as well as labour and technology) are continuously being allocated to those who are able to combine or create new ideas, new products, and new business models.

In the next few posts I will try to delve deeper into this topic, as I believe that it holds many important insights to why local economies grow in such an unpredictable and dynamic way, and why so few local governments or organised business in Southern Africa struggle to have any real positive and leveraged effect on local economies.

References and additional reading:

BEINHOCKER, E.D. 2007.  The origin of wealth. Evolution, complexity, and radical remaking of economics`. London: Random House.

DOSI, G. & NELSON, R.R. 1994.  An Introduction to Evolutionary Theories in Economics. Journal of Evolutionary Economics, Vol. 4(3).

NELSON, R.R. 1995.  Co-evolution of industry structure, technology and supporting Institutions, and the making of comparitive advantage. International Journal of the Economics of Busienss, Vol. 2(2) pp:171-184.

RAMALINGHAM, B., JONES, H., REBA, T. & YOUNG, J. 2008. Exploring the science of complexity. Ideas and implications for development and humanitarian efforts.  Working Paper 285, London: Overseas Development Institute.

Bring back the ox and plough….Are you serious?

This morning I read the announcement by the Director General of Rural Development and Land Reform, Thozi Gwanya, that small and rural farmers should revert to the proven method of ploughing with oxen. My first response was “oh, come on! This is 2010!!!”. While making coffee to recover from my initial shock I started to doubt my own response.

Why my initial shock? Well, it seems like going backwards to return to such an age-old method. But then, I have also

Indonesian farmer with ox and plough

visited several rural farms where land transfers are taking place, where farmers were sitting on un-used lands because they were waiting for a ‘tractor’ contractor. The same happens with small farmers supported by several municipalities. So in these cases, using oxen to plough would already be a step in the right direction. However, then the Director General motivates this advice on the basis that using a tractor to till a small piece of land will emit to many gases. I am not so sure that many poor farmers would just give up farming with a tractor on this argument alone….

Furthermore, the news article makes reference is made to India. Well, I have seen farmers ploughing with oxen in Thailand and Indonesia as well. As long as they can keep their production costs below market prices, I guess it is worth pursuing. A huge visible difference between Southern Africa and Asia is that farmers in Asia seem to get by with extremely little government support, agricultural extension and modern farming equipment.

OK, so now that I have my cup of coffee in my hands I am willing to reconsider my initial response. Perhaps the Director General should have said “instead of waiting on someone else, use oxen!”.

Can any of the readers of this blog with more experience in rural development perhaps comment or contribute on this issue?

Stimulating the formation of manufacturing business in South Africa

My international readers must please forgive my focus on my beloved home country in this post. But this is a topic that is close to my heart that we have to resolve in South Africa to secure the wealth and prosperity that our nation so desire. But perhaps you have faced the same challenges wherever you work.

I receive many requests to assist with the ‘creation of industrial businesses’ in South Africa. As this is a topic that is close to my heart I usually respond very enthusiastically to these requests. But in the last year or two the reality of the difficulty of establishing these kinds of businesses have dawned on me. Let me take you through my thinking.

Lets look at what it takes to start a manufacturing business. Firstly, you need an entrepreneur. This person must take the lead and mobilize and marshal the right resources, people and processes to take advantage of some opportunity. I think you would all agree with this statement. But if you unpack this sentence then you find three potential bottlenecks:

a)      you need an entrepreneur;

b)      this person must take the lead and mobilize the right resources, people and processes

c)       you need an viable opportunity

Point a) is a challenge. To start a manufacturing business the entrepreneur stands a far better change if the individual has technical or scientific competency or experience in the industry. With the current incentive environment many black or female candidates with the required competencies are better of in the corporate world, where large salaries and other perks are available. With the shortage of experienced or highly qualified advisors, most white candidates that meet this requirement have incentives to rather provide consulting services to government or large business. Many development programmes try to work around this problem by taking young inexperienced people, or even worse, vulnerable unemployed people, and try to establish them as entrepreneurs despite the fact that they would prefer employment rather than being a business person. I can go on for pages about this issue, but let me stop here.

Point b) is a second challenge. The role of an entrepreneurs goes beyond having a bold vision or being able to spot a great opportunity. The entrepreneur must mobilize resources and recruit sufficiently experienced or qualified people to work towards exploiting the opportunity. It doesn’t end here, as the most important role of the entrepreneur is to use their leadership skills to organize their mobilized resources and people into business and manufacturing processes. The latter is really difficult if the entrepreneur does not have management or manufacturing experience. Of course, we can all think of examples of individuals who have built viable businesses without management or technical skills. These cases are rare for many reasons, and it often depends on the character of the individual and the tolerance of their customers to pay for the steep learning curve that small under-resourced or under-managed enterprises have to go through. Say for instance, an entrepreneur can secure enough capital to start a manufacturing business, but they do not have any manufacturing experience. Unless they are able to recruit and trust a suitable qualified and experienced person that can take the responsibility on the technical side of the business, their investment is doomed. The inverse is also true. When a person that is technically competent starts a business, they might have trouble with the management of the administration and business processes of the enterprise unless they are able to recruit staff with sufficient experience to reduce the risks on that side of the business.

The third point is around the opportunity, and the ability of small enterprises to pursue them. One of the huge business process innovations of the last decades is the emergence of franchises. In a franchise, a proven and tested business system is replicated throughout a market. Think of a car-rental business. If you wanted to start a car rental business 15 years ago, you would need finance for several cars, staff at your outlet, technical staff, and cleaning staff. Now the likes of AVIS and others have mastered their business and technical systems to the point where a franchise in a small town can use tried and tested methods to run an office. The person managing the branch or franchise earns far less than you would be satisfied with, and plugs into a national (or even global) administrative system that manages salaries, vehicles, insurance and logistics. It would take a very brave business person to try and compete with such a hugely refined and efficient business system. And if you think of it carefully, then some of the basic rules of economies is that these kinds of system makes a society wealthier, as the productivity of each person working in that franchise branch is much higher than it would have been in your independent outfit. To compete against these business innovations (the innovation of a decentralized management and administrative system backup up by a highly efficient logistical system) you would need to have a highly differentiated business with many innovations. I am not saying it is impossible, I am simply saying it will not be easy.

OK, that is a service business example. For an entrepreneur to pursue the manufacturing of almost any product, they need suppliers, service providers, process information, marketing channels. The days where a single business making a completely integrated product are over, as these opportunities are often only profitable in a large scale. Manufacturing now takes place in ‘value networks’. So if I wanted to manufacture speakers, I have to establish myself within these networks. Despite the fact that almost an electronic student knows how to create a set of speakers, without knowledge of these networks and industrial systems it would be very difficult to establish a profitable and competitive speaker manufacturing business. So unless my product is completely unique or differentiated, I have to depend on existing systems to build my business.

Why are there so few serious entrepreneurs pursuing detergent mixing, or candle making or many of the other business formats that are often promoted by small enterprise promotion agencies? I think the main reason, is that the opportunity to build a business where a viable return on investment can be secured is limited. This means that vulnerable people are being helped to establish businesses where most sensible investors would not even venture into. If anyone can copy your business model even without acquiring the right skills or technical competencies, then how would you secure your investment?

We need to rephrase the objective of small enterprise development in South Africa. What we need to promote in South Africa is that experienced and technically competent people working in large corporates must have incentives to quit their secure jobs in order to pursue higher risk business opportunities. We need people with management skills, or with scarce technical skills, to start tinkering and designing new businesses, new products, new management systems in order to gain an advantage or an ability to secure a return on investment. Let these people create the jobs for the people that are lacking entrepreneurial skills or technical skills.

Let me know what you think!

January lazy linking

Excuse me for being a bit slow….but I cannot shrug off the holiday feeling yet.  So to make up I provide you with links to some interesting articles in other blogs that I have read in the last few days:

Urbanisation,complexity and poverty – or why aid agencies should be reading Jane Jacobs

This is an excellent article about the famous Jane Jacobs and how she described cities as living ecosystems. The author describes several insights that development agencies should learn from Jane Jacobs and other complex systems authors.

The author of the “Aid on the edge of chaos“, Ben Ramalingam, is also the lead author of a fantastic paper  of a 2008 Overseas Development Institute working paper ‘Exploring the Science of Complexity: Ideas and Implications for International Development and Humanitarian Efforts’.  This is a publication worth reading!

By the way, you will see me post more on the topic of complexity, as my December reading list finally convinced me that traditional economics cannot provide the answers to the complex and adaptive economic system that we are part of.

Finance now SA’s biggest sector

In a new report by the SA Institute for Race Relations (SAIRR), it is reported that the financial sectors contribution to the country’s GDP in 2008 was 22%, the manufacturing sector 19%, while government itself added 15%. Mining is at 9.5% and agriculture at 3.3%. The report confirms statistics from Statistics South Africa that shows that Gauteng now contributes 34% to the national GDP, with KZN at 17% and the Western Cape with 14.5%

Traditionally the manufacturing sector is the largest contributor but over the last decade this contribution is declining, while the business and financial services sector grows. If you think of it, South Africa has a really advanced knowledge intensive business sector, and strangely this sector is not recognised as a strategic asset by the government. This business and finance sector is closely related to manufacturing, as well as other financial services. Aside from this 1st class service sector, there is a whole consulting and NGO sector that has emerged to supply state-subsidised services to small enterprises. Unfortunately, the services of these service providers, nor the customers that they serve, are competitive.  And because these services are often driven by templates and recipes, they are not knowledge-intensive. For small enterprises to take markets from larger competitors, or for local firms to excel in the region and globally, they need knowledge intensive services. Something that is expensive, but valuable. OK, I got a bit side tracked there!

The point is that the knowledge intensive inputs into manufacturing is increasing. This implies that South Africa is shifting from simple manufacturing (where few intermediary services are required) towards integrated or advanced manufacturing, where a lot of business service (or intermediary) inputs are required. My research earlier this year showed that some manufacturing enterprises in the electronics and metals sector are depending on more than 50 of their product value from contributions from specialised service providers. Wow!

So if you are working with manufacturing enterprises, wean them from wanting to use free or subsidised services and get them to engage with specialists. There is no other way to compete!

Shifting towards innovation and technology application

Have you also noticed that increasingly local economic development is captured by the public sector, often from a governance perspective, while the role of the private sector and its own development gets reduced to a consultative stakeholder? I find this amusing, as the private sector is the acknowledged driver of growth and increased wealth. I have already shifted my attention to the stimulation of technology use and innovation in the private sector, as I cannot imagine a more strategic way to create a new future for our region.

But strangely, the private sector, at least at an organised level, has only in a few places in Southern Africa taken the lead in its own development. While the media and government complains about job losses, firm closures and the increased uncompetitive performance of the industries, industry itself seems to be waiting for government to bail them out!

At the moment I see only a few ways out of the hole that our industries are in. Firstly a more pro-active approach towards the use of technology and innovation is required. Government is not going to donate the machines, and nobody will give a firm the research. Firms need to invest in new technology. Secondly, at a collective level, industry bodies need to move from advocacy towards a more proactive approach of building value chains and industrial networks. Many famous developmental fads like value chains, incubators, clusters etc have their origins in the private sector, even if these instruments are often widely used and abused by the public sector. Why are we seeing so little investment in these instruments by the private sector for the benefit of a specific industry? Thirdly, industry needs to realise that both increased competition and increased globalisation have changed the rules. Just as governments have to deal with immigration and passport issues, business should become a bit more obsessed with shaping the economic, education and science policies of their countries.  If industry does not as a collective become more vocal about education standards, research missions or industrial support then we are in for a tough 20 years!!

Hey, what do you think we can do to inspire our industries in Southern Africa to become better organised and more involved?

How can we get businesses to start investing in the latest technology?

How do we get business to not only innovate in marketing and advertising (we are good at that) but also to invent new business models, new technologies and new solutions to the problems of the world?

Any ideas or proposals are welcome!!

Two attitudinal trends about human mobility in Southern Africa

There are two attitudinal trends that emerge when you work with government officials responsible for economic development in many Southern African countries. The first, is that foreigners with skills pose a threat to locals, and that they should be kept out of the country to protect local jobs. Despite popular belief, this is not a position that is unique to Africa (ask anybody who tried to get a VISA to Germany recently!).  The second, is that rural people should be kept (by force or incentives) in the rural areas, and that jobs should go to rural areas to make sure that people do not migrate to cities.

Both these trends are disturbing as it limits our options to makes economic development reach its objectives. It is so important to attract people with skills to a developing country, as research shows that the best skills and knowledge transfer in developing countries does not take place through knowledge transfers from universities, it takes place through knowledge transfer from suppliers, customers and competitors (UNCTAD LDC report 2007 and others). When you attract foreigners with skills to your country, you basically save education costs as these individuals were trained and gained their experience at the expense of another country. Unfortunately, xenophobic propaganda that is often fuelled by insecure local politicians have succeeded in making it very difficult for foreigners with skills to feel comfortable or safe in many communities in our region. Governments also use the ‘scarce’ definition to basically make it extremely difficult to attract people with scarce skills. For instance, a UNIDO study in the SADC region found that most small enterprises lacked accounting and basic management skills that undermines their chances of surviving or thriving. Yet, accounting and business management skills is not recognised as a scarce skill in most of the SADC member states. Fortunately that may be changing soon in South Africa, but it may still take time for the government to figure out the new relaxed rules and procedures to make it easier to attract foreigners with ‘scarce’ skills.

The 2nd trend is that government officials want to fight the flight of people from the rural areas to the urban areas. The World Bank 2009 World Development report is still one of the best publications to describe the new rules of human mobility. It is a fact, people (for now) are moving to cities and towns. And it is also a fact that people are more emotional or sensitive about this topic than many other development topics. Yet, statistics show that people are engaging less in subsistence agriculture in many Southern African countries, and farm labourers that used to exchange manual labour for food and tenure on commercial farms are increasingly left without jobs due to changes in labour laws and value systems  in many countries.

In a recent interview with a father that moved his whole family from a rural area in South Africa to a squatter camp (informal settlement) explained that it was better to unemployed in the city than employed in the country side. His kids are going to a school that offered much better education than the rural school, so even if government succeeded in creating jobs in the rural country side, people like his family may still choose to take their chances in the city. Even though many people may choose to move to the city, there are still large numbers of people that are not as mobile, due to personal health, cultural or other reasons. With every skilled or capable person that decides to leave a rural area, the remaining people are increasingly marginalised as the options to create jobs for the remaining people dwindles as the average skill level in the region declines. For instance, if a person with some farm management skills leaves and area, the chances of creating jobs through effective farm management competencies goes down. Therefore, one of the most important government interventions into the rural areas should be education, as this at least makes it easier for future generations to exercise their choice of whether they want to stay or move. In any case, people with better qualifications (and experience) are more likely to succeed in an enterprise (or farm) in a rural area.

I moderated a conference in the region recently, where several participants felt that people from the rural areas SHOULD NOT BE ALLOWED into cities! I was quite shocked by how many others publicly endorsed this opinion. Basically this argument will enforce a new divide, those with shops, banks cinemas, traffic congestions, better jobs and good schools, and those without. I cannot even imagine going back with my family to the small town where I grew up.

So as development practitioners we have to embrace the new challenges of mobile human beings. We have to make our counterparts aware of ‘scarce’ skills that are missing in the system, and the benefits of attracting people into local systems that have gained expertise and qualifications elsewhere as a means to build local competencies. Furthermore, we should not fall in the trap of believing that people from rural areas and other countries are here to steal jobs.

Also do not fall in the trap of stereotyping all people living in informal settlements as uneducated. The father I mentioned earlier is a qualified diesel mechanic that used to work in a rural tractor dealership. Understand that job creation in rural areas are difficult because of low volumes and the fact that people with skills and experience are (for now) moving to the urban areas. But we cannot prevent people from moving as this is an important choice for families to make. Rather, our spatial planning and city development strategies must deal with the fact that in the medium term more people are coming to cities.At the same time, the urban dynamics are changing. Cities are becoming the lifeblood of our African economies, and people live and work differently in these spaces. This also has an impact on our city management and our economic development opportunities. I sometimes wonder whether the poor public transport systems in South African cities are designed on the assumption that all the commuters will soon go away to where they came from.

The age of human mobility is upon us, and this is not only a luxury of only the wealthy. The poor, the desperate and the under valued people are also mobile, and when they move, they change the economic potentials of the spaces they leave behind as well as their destinations.

From good governance to good development governance

In its latest Least Development Country Report , UNCTAD is reflecting on the impact of the financial crisis on the 49 LDCs and is stipulating a move from “good governance” to “good development governance”. The report describes the weaknesses of the current “good governance” trend that has trapped many development agencies and governments, and provides recommendations on how to improve the impact of good governance interventions through a move to good development governance.

Development governance is about the processes, policies and institutions associated with purposefully promoting national development and ensuring a socially legitimate and inclusive distribution of its costs and benefits

 

http://www.unctad.org/Templates/webflyer.asp?docid=11721&intItemID=2097&lang=1

The UNCTAD LDC reports are an annual highlight, I strongly recommend that you take a look at this document.

 

Thin solar technology commercialised in South Africa

I was delighted to read in the South African Mail and Guardian this morning that a public-private partnership between the University of Johannesburg and several other partners (Sasol, the Central Energy Fund (CEF), the National Empowerment Fund and the University of Johannesburg) are working on a plant to commercialise thin-film technology in South Africa. The new technology is known as Thin Film Solar panels, and consists of micro-thin metallic film (only 5 microns thick) that converts light into energy at a fraction of a cost of the current Photovoltaic technology. Germany is a global leader in micro-film technology due to its huge investments into alternative energy technology, and the equipment needed to make the Thin Film Solar modules will be imported from Germany to the Western Cape province to establish a production facility in Paarl.

This is great news for several reasons. Firstly, researchers at Stellenbosch university are also working hard on new solar technology, thus creating a regional technology cluster effects (click here and here for more information). But perhaps the timing of this announcement is more important, as it coincides with the announcement that Escom wants to increase its energy prices by 45% for the next three years. At the moment, solar panels are still extremely expensive in South Africa.

A Google search for “thin film solar” found several sites that explained the technology, and it seems that similiar technologies have been commercialised elsewhere. It was not possible for me to determine whether the South African design differed than the technology described on Wikipedia.

South Africa have other reasons than our electricity shortage and price increases to invest in new climate friendly technology. Not only do we have to worry about our environment, but alternative energy could assist in overcoming the costs of connecting rural households to the grid. But at the moment the costs of alternative energy in South Africa is still very high. I cannot wait for the day that I can disconnect from the mainline power grid for environmental and cost reasons! Bring on the technology!!!!

This blog post was inspired by an article in the Mail and Guardian online, the original article can be found at  http://www.mg.co.za/article/2009-10-13-sas-thinfilm-solar-tech-at-commercial-stage

Innovative firms

Have you ever wondered why not all firms are innovative? If you are a development practitioner like I am, then you must have come across hundreds if not thousands of small and large firms that are not very innovative. This results in these firms also not being very competitive.

There could be many reasons why so many firms are not innovating, and one of these is that the firms are serving undemanding customers. This very often happens in rural or isolated areas, of where companies provide convenient goods and services.  Another reason why firms do not innovate is that innovation requires change, and this change is uncertain. This makes innovation not only risky, but also potentially expensive.

One of the reasons why development practitioners should try to stimulate the competitiveness of firms that they work with, is that increased competitiveness requires innovation. Again, this does not simply imply new products or processes are developed or improved, but also that firms try new management innovations. However, many development practitioners are not comfortable with competition, or do not understand the importance of competition to the socio-economic development of a society. There is a tendency in the field to try and get groups of individuals or firms to compete together against a competitor ‘out there’. This is a first step in the right direction, but we must also try to get our local firms to compete against each other. Thus we must try to create opportunities to collaborate, but at the same time we must try and increase or stimulate the local competition against each other. With this I am implying the nice and healthy kind of competition.

What is often forgotten in economic development, is that we are not only concerned with the health and the well-being of the business owners. Firms must also innovate to create better, healthier and more stimulating jobs, attract foreign investment, skills and knowledge into our areas, and finally, provide improved goods and services to local communities. The latter is usually overlooked. Thus, we want firms to be competing with each other, and together also competing with others, not only to make business owners and managers rich, but to ensure that our society in itself becomes wealthier and more innovative. This will then lead to more innovative and competitive businesses, and so the virtuous cycle is complete.