In this blog, we discuss the resurgence of industrial policy. And how successful industrial policy can lay the tracks to help enable the green and just transformation.
by Lydia Korinek and Jakob Hafele
A prosperous future for Europe requires a thriving and decarbonised economy. An economy that provides people with decent work. And industries that embrace clean technology and are fit for the long-term future.
European industry needs to pivot to sustainable business models that are globally competitive. Industrial transformation is a prerequisite for the green transition, and the sooner the turnaround the less costly it will be, as European Central Bank studies point out.
To date, we are not on track. In 2022, the top five oil companies doubled their profits. According to the World Bank, more than 7 trillion US dollars are directed towards environmentally harmful subsidies per year. The reality is still an economy in which businesses can win when they harm the environment or exploit workers.
The European Commission estimates that we need roughly additional investments of 620 billion Euros every year to deliver the EU Green Deal. According to McKinsey, the market will not finance more than half of those investments because they do not have a business case in the short-term. But they are essential for the transformation.
Laying new tracks
With the revival of industrial policy, states can play an active role in shaping favourable conditions to speed-up the green transformation.
When we talk about industrial policy, we’re referring to the active shaping of industry through incentives and disincentives designed by the state. This can take various forms such as the creation of a predictable regulatory environment, for example through carbon pricing; access to funding, for instance by subsidising certain businesses and granting tax concessions, as well as fostering strategic international collaboration. These tools can help sustainable business models to develop.
Simultaneously, stopping public support – like fossil fuel subsidies – can accelerate the phase-out of industries that do not have a place in a future-fit economy.
We are now seeing governments stepping in and taking a much more proactive approach to shift the trajectory of their industries than we saw in recent decades.
The most prominent examples of recent industrial policy interventions include China’s ‘Made in 2025’ programme, the US’ Inflation Reduction Act, and the EU’s ‘Green Deal Industrial Plan’.
The EU plan lays out its intentions ‘to ramp-up net-zero technologies in Europe’, and ‘to ensure their competitiveness’. It includes identifying priority projects, simpler and faster permitting procedures, and creating a level-playing field for innovation, among other things.
Driving the green transformation
Industrial policy instruments can help to generate business cases for nascent technologies, for example by creating certainty for companies in the transition.
An example of this approach is being demonstrated in Germany, where the government is breaking new industrial policy ground with climate protection contracts to support the decarbonisation of industries that face international competition. With the ‘contracts for difference’ (CfD, Klimaschutzverträge in German), companies can get subsidies for costly projects, including through an electricity price cap. The Ministry was clearly surprised by the over 300 applications for the contracts, which apparently exceeded their expectations. The novelty of this instrument is that it does not subsidise the initial investment costs, (which is the usual approach), but instead ensures support for the high operating costs in the short term.
However, with any state support, governments should not just ‘pick winners’ upfront. It is crucial to ensure that public support is not a free gift to any companies. It should be verified that the recipients of public support truly contribute to the transition.
The best way to regulate this is to link any state support to the attainment of social and ecological performance goals. In case these goals are not achieved, any further support should be withdrawn. A simple general principle: businesses that meet social and ecological performance goals are supported; businesses that are not fully engaged in the transition are left behind. This way only the most productive, green and social firms survive in the long run.
The state as an orchestrator
The state has a major responsibility in this mammoth task. This is a matter of orchestrating a complex web of actors and processes.
For example, a successful transformation will hinge upon the mobilisation of enough skilled workers and (re-)training opportunities. Here, solutions are needed that take into account migration and the future of work as well as the possibilities offered by digitalisation and automation.
Access to funding is another important obstacle. Given that neither the state nor financial market will be able to finance the transition on their own, governments have a responsibility to create the conditions for investors and financial institutions to actively engage in the transition.
Successfully orchestrating the industrial transformation is key for ensuring a prosperous and resilient economy that meets the basic needs of citizens and future generations and delivers long-term stability. With an active and collaborative industrial policy approach, governments can lay the tracks so that companies can thrive which really do good for society and the planet – and that can only be a good thing.