How Companies Can Adapt to More Government Intervention

ALISON BEARD: Welcome to the HBR IdeaCast from Harvard Business Review. I’m Alison Beard.

Around the world, the relationship between government and business seems to be shifting. Prompted by the pandemic, climate change, rising geopolitical tensions and economic concerns, countries and groups of countries are once again using the power they have to intervene in the private sector, whether it’s investing in drug development, offering tax breaks for EV car buyers, or incentivizing domestic manufacturing.

Today’s guest says this marks a new era of industrial policy across North America, Europe and Asia, and he wants to help corporate leaders navigate the changes in a way that protects their businesses, workers and customers.

Willy Shih is a professor at Harvard Business School, and he wrote the HBR article, “The New Era of Industrial Policy is Here.” Willy, welcome to the show.

WILLY SHIH: Thank you for having me.

ALISON BEARD: Your article cites your late HBR colleague, Bruce Scott, as saying that business is an activity conducted on a playing field where the rules are set by the government. Talk about how you’ve seen those rules be changed over the past decade or so.

WILLY SHIH: Well, I think what we have seen is a lot more laws and initiatives. For example, new export restrictions or import restrictions, or perhaps things like tariffs, or investment restrictions. What we see is governments increasingly trying to intervene in markets, sometimes in specific sectors, sometimes more broadly, but increasingly, they want to take a hand and try to shape what the market does, rather than let market forces do it on their own.

ALISON BEARD: And so sitting here in the United States, I see those trends impacted by, certainly the political party in power, also attitudes about capitalism. How is it becoming a global trend rather than just isolated to certain geographies?

WILLY SHIH: Some countries, some regions in particular have long had industrial policies. People would say the Defense Advanced Research Projects Agency was a form of industrial policy, which was trying to aid the development of new technologies for defense purposes, and we’ve seen other policies like this.

For example, I cite Europe’s investment in Airbus as a way of helping foster a competitive European aerospace industry, overcoming some of those huge startup costs. I think people see some of these examples, and then they see some of the distortions caused by, for example, subsidies in some Asian countries. I think more and more, countries in particular are responding to some of the imbalances that have resulted from that.

While in the U.S., I think there’s long been belief in free and open trade, there’s more of a recognition that other countries that, for example, subsidize their industries, have led to some imbalances in some of those trade flows. I think, at the same time, there’s probably less faith in the market being able to do its job, and some might think of it as market failures. In other words, if we leave this to the market, it’s not going to produce a result that we in the United States or we in the EU feel that we’re comfortable with. What you see is countries saying, “I have to restore some of that balance. I have to intervene on our own.”

ALISON BEARD: It’s almost a coalescing of government leaders agreeing that some industrial policy is quite important in promoting domestic business?

WILLY SHIH: I would say it’s more a competitive response. For example, if you look at the Inflation Reduction Act, and the Infrastructure and Investment and Jobs Act in the United States, two policies that had very large both demand side and supply side subsidies targeting, for example, renewable energy, that really got the attention of European leaders who said, “Gee, this is going to draw investment out of Europe into the United States, because of the level of the subsidies.” And so what you see in Europe is a response that, “We don’t want to lose those industries. We don’t want to lose those jobs, those manufacturers. We’re going to have to respond in kind.”

I see this race, if you will, among countries who are, in some sense, competing to attract some of those businesses, or attract some of those sectors. I think that’s stimulating this rise of industrial policy, and as more and more countries see what others are doing, they feel compelled to respond.

ALISON BEARD: Certainly, one major competitive arena is the U.S. versus China.

WILLY SHIH: Certainly, but I think we see spillovers into other areas. Now, China has long subsidized many industries, and that has led to great success, for example, for solar energy. China dominates that. China has also had policies, I think you have to give them credit that they saw the electrification of motor vehicles as an opportunity to really change their position in the world market, because they didn’t have a leadership position in internal combustion engines.

They saw this as an opportunity, “Gee, we can lead in that.” So yes, they’ve had extensive subsidies, and policies that have encouraged the growth of that industry, and so now you see China really dominating the electric vehicle battery sector.

When you go to the U.S., and you go to Europe, you see, for example, auto manufacturing is the largest sector in Germany, and the Europeans saying, with this energy transition coming, they don’t want to lose that industry. The U.S. has done the same thing. You have a race in terms of subsidies, in terms of buyer incentives, and so really, very strong policy intervention to really try to reshape the market in that sector.

ALISON BEARD: You’ve mentioned a few industries that are affected, the auto industry, energy. Is it a widespread impact, or is it narrowly focused on some of these ones that you’re talking about?

WILLY SHIH: When you think about core technology, the impact will be fairly wide. For example, you see a lot of industrial policy initiatives targeting the semiconductor sector now. Semiconductors are a building block technology that are used in so many other things. The way to think about this I think is, is this a platform technology, or a sector that many others are dependent on? Those can have a very wide impact.

ALISON BEARD: What impact is this increased intervention having, both on businesses and consumers?

WILLY SHIH: Well, I think the main impact right now that we’re seeing is on a lot of investment decisions and location choices. A lot of the policy initiatives have been directed towards, for example, encouraging investments around the energy transition, and under the label of resilient supply chains, encouraging more domestic, or local manufacturing. I think the impact of that is going to be fairly significant, because I think we’re at the end of the golden era of globalization, where we had a long period of expanding trade, reduced trade barriers, and we had companies building scale in low cost markets for export around the world. We see a lot of these industrial policy initiatives aimed at reshaping a lot of those location choices, whether it be in the name of having more localized manufacturing for supply chain resilience, or because it’s about bringing jobs back, or what have you.

Now, I think it’s still an open question in my mind, what the longer term impact of that is. One thing that we’re starting to see is much more fragmentation of supply chains, where people might say, “I’ll have one supply chain to supply China, and another to supply North America, and then I might regionalize European supply chains as well.” A consequence of that will be, we’re going to lose some of those benefits that came from very large scale and efficient manufacturing, because as you start fragmenting your supply base, your costs are inevitably going to go up. I don’t think we have necessarily reconciled yet how we’re going to handle those higher costs. Who’s going to pay for them? There’s a bet that people will be able to get their costs down over time, but in some sense, there are a lot of contradictions as well.

ALISON BEARD: In the article, you talk about a swinging pendulum. We went very far to the free market, free trade globalization side, and now, we’re swinging back. Is that just a short term trend, or you see it as a much longer lasting one?

WILLY SHIH: Well, I think the swing towards globalization didn’t happen overnight either. It really took place over the course of several decades. A lot of people would argue that it really went too far, because of the benefits accrued to some people at the cost of others. A lot of jobs went offshore in exchange for much less expensive consumer goods, for example. But then who bore the cost of that in terms of the lost jobs and employment?

So in some sense, I would argue that some of what we’re seeing is a correction of maybe going a little too far on that. I’m not sure how long the swing of the pendulum will go, or necessarily how far, either. Definitely, the rules on the playing field are changing.

ALISON BEARD: I’ve heard you mention a few types of intervention. Are there some common types that you want business leaders, even workers in this new era of industrial policy to be more keenly aware of?

WILLY SHIH: To me, one of the very important distinctions is between supply side subsidies and demand side subsidies. Now, supply side subsidies or policies, they impact the cost of production, or they impact the cost of their R&D. They try to tilt the playing field in favor of a particular location, or, “I want you to use a particular technology.” You see these as grants, you see them as subsidies and tax preferences, and things like that. Demand side subsidies, or demand side tools typically affect domestic consumption of something that you want to encourage more of.

For example, what we see is credits to buyers of electric vehicles. That’s probably the most notable example. I tend to think that demand side subsidies have more of an appeal to me, because what they do is, they still preserve market competition. In other words, if I’m going to give you a credit for the purchase of a domestically manufactured electric vehicle, you still go into the marketplace, and you’ll have a choice of whoever is trying to respond to that demand.

There’s still some market competition, whereas on the supply side subsidies, depending on how specific they are, you’re favoring one player or another. The competition is not so much who makes the best product, but it’s who gets the subsidy. I think it’s important to understand that distinction. Now, some policies, for example, the Inflation Reduction Act in the United States, has been, many people would say, amazingly successful in terms of stimulating new production of, for example, electric vehicle battery plants, and electric vehicle assembly plants.

I think what’s interesting about the Inflation Reduction Act is that in it includes both supply side subsidies as well as demand side subsidies. You have, on the supply side, pushing, with the demand side pulling, and that seems to work very well. You can see, with the number of new electric vehicle plants and battery plants that are going up in the United States, how people are responding to that particular set of policy initiatives.

ALISON BEARD: Industrial policy, and the ability to influence it, is really the reason why the lobbying industry exists. Is part of the advice to business leaders to hire more lobbyists, and more government affairs people who better understand all of these interventions, and can make sure they benefit rather than hurt their companies?

WILLY SHIH: Well, I think my argument is that CEOs need to engage in this game, because as governments around the world change the rules on the playing field, what you’d really like them to do is have a better understanding of your business, your sector, things that affect your operations. I think it’s broader than just lobbying. I would argue that what you goal should really be is to help them make better policy, or better-informed policy.

I remind people that many people in governments who are career civil servants don’t necessarily have the exposure to how businesses operate. I observed that in some of these policies I’ve studied recently, where maybe a program will offer various incentives, but those incentives don’t necessarily reflect how cash flows through a company.

I think education is the key thing. During the COVID-19 pandemic, I saw a lot of attention being paid to supply chains, but oftentimes what I saw was, people would look one stage up in the supply chain if there was a bottleneck somewhere, or maybe one stage down, but it was very hard for people to get the big picture. What would’ve been most helpful to governments are people who could come in and paint the big picture, and how pieces are connected to each other and interdependent on each other. Not to be critical of lobbyists, but usually, they’re looking at interests within their realm, which tends to not span, for example, a whole supply chain, where a CEO might have a much better view of that, and might be able to do a more informed job of educating.

For the moment, set aside the narrow interests of your firm, but really try to educate on the interdependencies, interconnectedness, how, when you push here, it pops up there. We live in a very complex world, particularly when you look at some of these high-tech products, or pharmaceuticals, for example, or medical devices, or a wide range of product sectors. If you have the privilege of having that broader view, and you can explain that, and educate, I think it helps everybody. Most people who are trying to make policy are well-intended, but they need to understand all the different consequences, and all the moving parts.

ALISON BEARD: So that’s one way that corporate leaders, and not just at the CEO level, but the supply chain leaders, for example, can step up, and certainly industry groups. What do you advise the leaders of multinational companies when they’re faced with different and shifting policies across several markets?

WILLY SHIH: I think this is one of the great challenges today, because what we see is, we have very different interests in different parts of the world. The first thing to do is understand and recognize those differences in interests, but then you have to put together a plan for your firm, for how you’re going to reconcile those. How are you going to operate across those very different environments? We see more and more firms starting to compartmentalize some of their activities. For example, I’m going to handle China differently from how I handle the U.S. market, or Western Europe. I think it’s unfortunate that we’re going to a world like that, but I think it is the reality. It’s just going to be one of those hard realities that leaders are going to have to deal with.

ALISON BEARD: Yeah, I found myself thinking, how do you plan out budgets, and five-year strategies, and all of it, when all of these policies are in flux?

WILLY SHIH: We’re in a world where it’s no longer the case where you can have that predictability. There’s much more uncertainty. It says, your strategy making needs to be moving towards an era where you can cope better with uncertainty, you can do more testing, you can do more emergent strategy making, if you will. I think it’s going to demand adaptability and flexibility on business leaders, because it’s not going to be one size fits all anymore.

ALISON BEARD: That’s a tall order. Would you like to see businesses within industries, or across industry within countries, or even across borders and across industries, better collaborate to make government intervention and regulation more successful?

WILLY SHIH: Well, I’m a fan of collaboration. I’ve seen a lot of instances of what people call chicken and egg problems. “I’d like to transition to this new, cleaner fuel, but there’s no supply. If I buy this expensive asset that’s going to use the greener fuel, how do I know there’s going to be supply?” Meanwhile, on the supply side, people will say, “I don’t have any assurance of stable demand. Why do I want to build this bio methanol plant? Why do I want to build this new wind farm?”

ALISON BEARD: Yeah.

WILLY SHIH: What I’m seeing is a number of companies entering into agreements like off-take agreements. “If you build this bio methanol factory, then I will contract to purchase it.” Now, it gets complicated, because people have to negotiate the price for a long term. From the consumer’s side, then you get an assured source of supply, and from the producer’s side, your facility becomes investible, because you have a customer assured. There’s those types of collaborations, which I think we’re going to see more of. We saw that, for example, General Motors investing in a lithium mine in Nevada. Lithium mines, a new mine takes at least 10 years to turn a profit. To the extent that I know that I’ll have a customer for that, it makes my project much more investible. Some of these projects, responding to changes in policy, I think that collaboration will be essential.

ALISON BEARD: You have advice for CEOs and C-suite executives, for policy makers, what’s your advice to managers, and even workers trying to navigate all of this?

WILLY SHIH: Well, I think the most important thing, first of all, is to understand intent of a policy. What is this policy trying to achieve? In the formulation of the policy, I think it is helpful for business leaders to try to help educate, so that those who are making the policy have a more complete view of how the world works, and what the implications of that policy will be. I think flexibility is going to be important for everybody, because we’re moving into a more and more complicated environment, with all these policy initiatives, regulations, new rules, incentives. I think understanding them and then being flexible in terms of how you respond is going to be essential.

ALISON BEARD: Yeah, it certainly makes me happy that I’m the one asking the questions, not having to answer them. It is a very complex environment now.

WILLY SHIH: Well, I think the complexity comes, for example, in the United States, what happens when you get a policy initiative that both sides of the aisle can agree on? For example, the importance of restoring semiconductor production capabilities in the United States, both sides of the aisle agree on that.

Then, you have one of these vehicles that everybody tries to get their agenda woven into, because they say, well, this thing is going to pass, so let me make sure I attach this onto it. And then what you end up with is legislation or regulations or incentives that have all these conditions which make it very difficult for businesses to work with. And in some sense, it may diminish the effectiveness of that policy because people say, “I just can’t deal with all that.”

ALISON BEARD: Yeah, I know that’s true in the European Union, too. Is it also true in more authoritarian countries?

WILLY SHIH: Well, different countries have different political systems, obviously, and some can do things that would be hard to do in a democracy, for example. Sometimes that’s an advantage, but that also has its disadvantages. When has it ever been the case that one person had all the right ideas? That’s never been the case. On the other extreme, when you get everybody trying to get a piece of the pie, you’ll end up with a lot of inconsistencies and contradictions as well. There’s a middle ground somewhere.

ALISON BEARD: Yeah, and it does sound like the crux of it is better communication between the public and private sectors, no matter where you are in the world. Corporate leaders have a responsibility, and not just CEOs, as I said, but people throughout the organization who are experts in their domains have a responsibility to work with what they might call bureaucrats, to make sure they understand, and make sure they understand the industry, the various dynamics, and also, the consequences of the decisions they’re making.

WILLY SHIH: Yes, I think that’s right. I think better communication, and an effort to understand the big picture is really essential for everybody to come out in a better place, to result in better policy, to have more participation and more consistency.

ALISON BEARD: Yeah, terrific. Well, we can hope. Willy, thanks so much for being on the show.

WILLY SHIH: Thanks for having me.

ALISON BEARD: That’s Willy Shih, professor at Harvard Business School, and author of the HBR article, “The New Era of Industrial Policy is Here.”

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This episode was produced by Mary Dooe. We get technical help from Rob Eckhardt. Our audio product manager is Ian Fox, and Hannah Bates is our audio production assistant. Thanks for listening to the HBR IdeaCast. We’ll be back with a new episode on Tuesday. I’m Alison Beard.