HIST363: Global Perspectives on Industrialization

As a set of development policies, ISI policies are theoretically grounded on the Prebisch–Singer thesis, on the infant industry argument, and on Keynesian economics. The associated practices are commonly:

• an active industrial policy to subsidize and orchestrate production of strategic substitutes
• protective barriers to trade (such as tariffs)
• an overvalued currency to help manufacturers import capital goods (heavy machinery)
• discouragement of foreign direct investment

By placing high tariffs on imports and other protectionist, inward-looking trade policies, the citizens of any given country by using a simple supply-and-demand rationale substitute the less expensive good for a more expensive one. The primary industry of importance would gather its resources, such as labor from other industries in this situation. The industrial sector would use resources, capital, and labor from the agricultural sector. In time, a developing country would look and behave similar to a developed country, and with a new accumulation of capital and an increase of total factor productivity, the nation's industry would in principle be capable of trading internationally and of competing in the world market. Bishwanath Goldar, in his paper Import Substitution, Industrial Concentration and Productivity Growth in Indian Manufacturing, wrote: "Earlier studies on productivity for the industrial sector of developing countries have indicated that increases in total factor productivity, (TFP) are an important source of industrial growth". He continued that "a higher growth rate in output, other things remaining the same, would enable the industry to attain a higher rate of technological progress (since more investment would be made) and create a situation in which the constituent firms could take greater advantage of scale economies". It is believed that ISI will allow that.

In many cases, however, the assertions did not apply. On several occasions, the Brazilian ISI process, which occurred from 1930 to the late 1980s, involved currency devaluations to boost exports and discouraging imports, thus promoting the consumption of locally-manufactured products, as well as the adoption of different exchange rates for importing capital goods and for importing consumer goods. Moreover, government policies toward investment were not always opposed to foreign capital: the Brazilian industrialization process was based on a tripod that involved governmental, private, and foreign capital, the first being directed to infrastructure and heavy industry, the second to manufacturing consumer goods, and the third to the production of durable goods such as automobiles. Volkswagen, Ford, GM, and Mercedes all established production facilities in Brazil in the 1950s and the 1960s.

The principal concept underlying ISI can thus be described as an attempt to reduce foreign dependency of a country's economy by the local production of industrialized products by national or foreign investment for domestic or foreign consumption. Import substitution does not mean eliminating imports. Indeed, as a country industrializes, it naturally imports new materials that its industries need, often including petroleum, chemicals, and raw materials.