Clutches and breaks

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180 obvious once we compare our examples of different development varieties on the dimension of functional upgrading. As already noted in Chapter 4, although the structure of output in ECEs is very similar to that of the core European producers, the level of innovation in the sector is very low. ECEs are able to quickly transpose new technologies through the multinationals’

production networks, but produce practically none of their own, with barely one patent per 1000 workers per year. The rate of innovation in Mexico is even worse, with about one patent for every 30 000 workers. South Korea, on the other hand, shows very strong signs of domestic innovation, with almost as many automotive patents as Germany relative to the size of the workforce²³. The difference is easily explained by the structure of incentives for the lead firms in the two models. South Korean automotive industry is dominated by indigenous firms whose own profitability depends on their ability to develop new higher value-added products. In the process of hyper-integrationist development, such firms are pushed to the margins through high-level competition with the more productive foreign firms. Multinationals which dominate production networks in ECEs and Mexico do not face the same urgency to invest in technological developments in host locations, since these can be easily imported from their home countries. In other words, the very same process of substitution that accelerates upgrading in production seems to be responsible for the disappointing performance with regard to technology. This is not to say that functional upgrading in the independentist development model is simple or automatic: late developers, almost by definition, are strongly constrained by limited availability of local resources. In the hyper-integrationist development model, an equally important constraint lies with the overall, externally determined strategy of the lead firms.

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181 performance on the international markets. On the contrary, the sophistication and competitiveness of ECE’s automotive exports has increased tremendously, in a very short period of time, with the foreign transplants making up for the lack of indigenous skills. In the long run, however, the development of the region is likely to depend on its ability to overcome these limitations, either by steering multinationals towards more technology-intensive activities, or by finding an alternative strategy for development.

The former approach seems to be more likely than the latter. As discussed in Chapter 4, domestic capital in the region is already too weak to support large-scale technological investments. In the most competitive manufacturing industries, local firms operate on the margins of the value chain, where they mostly supply simple generic components. This problem is compounded by the fact that sourcing key investment capital from the outside has not contributed to a deepening of local capital markets. Although both stock market capitalisation and bank credit increased in the ECEs in the period before the crisis, capital to GDP ratio remains much lower in these countries than in most West European economies, and most of the increase in domestic lending was channelled into consumer loans, not capital investments (Šćepanović 2011; Bohle 2013). This casts serious doubts on the claims that the relative disadvantage of domestic firms is of a temporary nature and that in the long run the overall growth fuelled by the export boom will contribute to a healthy growth of local enterprises (see Chapter 4).

As noted above, this may not necessarily have a negative effect on these countries’

ability to remain competitive, so long as they continue to attract sufficient amounts of foreign capital. However, this continued dependency can easily become fodder for nationalist rhetoric, especially in times of economic downturn. Nowhere has this become more evident than in Hungary in recent years, where the contrast between the successful foreign owned sectors and the struggling domestic economy brought forth calls that the multinationals should be brought into check and forced to surrender “excessive profits” they have harvested in the country (for a recent example see Orbán 2013). While such resentment can result in a worsening relationship

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182 between the host authorities and the multinationals – a relationship which, as argued in Chapter 2, has been instrumental in building up the successful transplants in the first place – it is difficult to see how it could lead to a full reversal of the hyper-integrationist approach to development.

The ECE governments are fully aware that the dominance in key export industries has been the price of success. In spite of the inflammatory rhetoric, the Hungarian government’s show of strength has been mainly targeted at the sectors where the attractiveness of the domestic market can still compensate for the more onerous terms imposed on the multinationals, such as banking or retail. The export industries, in the meantime, have continued to enjoy favourable treatment, and the efforts to nudge them toward more cooperation with domestic firms and research institutions have been limited to highly publicised, but ultimately non-binding

“partnership agreements”.

It is therefore unlikely that even a nationalist backlash will disturb the balance of power in the export sector. In the meantime, major changes in the structure of international competition which floated up the hyper-integrationist model in the first place could make these countries’ inability to move towards more technology intensive investments even more costly.

The unprecedented rise of automotive industry in ECEs was closely linked to the restructuring of European, and especially the German vehicle manufacturing in the early 1990s, which coincided with the internationalization of the region. The perceived exhaustion of Germany’s

“quality production” model (Womack et al. 1990; Streeck 1995; Jürgens 2004) in the last decade of the 20^th century, and the near collapse of the European markets in the crisis of 1992 forced German carmakers to seek aggressive internationalization (Pries 2003; Pries 2004). The ECEs have profited disproportionately from this spatial fix – over the course of the 1990s and 2000s ECEs received more automotive investment from Germany than all other developing regions put together, including China and India (see Figure 6.1A in Appendix III). However, while they have been instrumental in improving the competitiveness of German exporters, their contribution as markets has been very limited. The more recent crisis has revealed new problems with the global race to expand production and cut costs. Especially in the developed world, the market

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183 glut, as well as the changing demographics and climate considerations are now pushing the manufacturers towards a different strategy that would involve a radical change in vehicle technologies. Experiments with electronic mobility are already changing the nature of the markets and putting a higher premium on technological innovation. It is unclear to what extent the ECEs will be a part of this new strategy, as they lack both the technological background and the market power to participate in the new industry shift.

Another problem with the lack of technological upgrading is that it limits the space for improvement of domestic skill profiles, and subsequently the possibility of moving the employment model from one based primarily on lower cost to one which balances high wages with highly skilled and productive labour. As shown in Chapter 5, expansion of the ECE’s automotive cluster has mainly resulted in growing numbers of semi-skilled plant operatives, with only a few jobs reserved for highly skilled engineers and technicians. While the region now exports more or less the same products as the core West European countries, it does so by relying on a much cheaper, more flexible and less secure workforce.

This conflict between the catching up in production profiles and lack of convergence in employment relations and skill content of production has already created some tensions in the ECE’s model of hyper-integrationist development. On the one hand, it has led to a widespread discontent among the ECE’s workforce, which manifests as a growing pressure on wages. On the other hand, the employers’ response has mainly focused on preserving the cost advantage, through various strategies of workforce segmentation, and only marginally on helping to improve the skill levels. In the short run, rising wages are unlikely to severely affect the region’s attractiveness to foreign investment, as its ratio of productivity to cost remains higher than that of any other production location in Europe. However, changes in the rest of the European economy might diminish this advantage. The crisis in the South European countries, for instance, has already led to falling real wages, and after many years of losing investment to Eastern Europe, Spain has recently managed to win a number of headline projects, many of

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184 them intended for production of the new generations of electric vehicles (see ANE 2013b;

2013a; 2013c).

The conflict between catch up and convergence has also added to the disenchantment with the horizons of development offered by the strongly export-oriented growth model. We have seen some signs of it in the rising militancy of the existing workforce, but even more in the reluctance of the new generations to take up careers in manufacturing. Limited convergence in wages and working standards, as well as the perception of manufacturing as inherently unstable, due to the ever-present threat of relocations, has increased the attractiveness of alternative paths – on the one hand migration, and on the other reorientation towards the service economy (Chapter 5). In some cases, this disenchantment can culminate in widespread opposition to the government policies designed to support the existing development model. The best example is probably the conflict over educational policy in ECEs, which has pitted the governments insistent on maintaining vocational training demanded by the multinationals against the students who fear that these tracks limit their career options to low-paid, insecure jobs. For their parts, the governments face an equally difficult choice of continuing to finance the shift towards mass tertiary education, in the hope that it may eventually attract more skill intensive investments, and risking an outflow of skilled workers due to migration if the economy fails to offer them adequate employment.

All of these are localized problems, which could yet be solved by the means available within the hyper-integrationist model. This would require some changes in the relationship between governments and investors, and a concerted policy effort to redesign incentives in order to steer foreign firms towards the new development goals. On the other hand, they are also indicative of a deeper discontent which arises from the mismatch between expectations of convergence which the integration was expected to bring, and the current achievements of the model. This expectation of convergence - of institutions, life styles and social contract that prevails in developed “West” - was for a long time the ultimate goal of ECE’s development, and the source of legitimacy which justified the costs of transition. Once these countries had become

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185 members of the European Union, it had become obvious that integration alone could not deliver on all these promises. It is yet to be seen how this realisation will affect their developmental paths in the future. It may well be that the current crisis in the European Union will force the citizens of ECEs to revise their expectations. After all, the strong manufacturing core in the region has held up surprisingly well in the crisis, which may have added new legitimacy to their chosen path. On the other hand, the crisis, and especially the downfall of the South European member states, has also made the promise of integration less appealing. The current political turmoil in some of the ECE states could well be a sign that they are beginning to seek an alternative path to prosperity.