With the spectre of deglobalisation looming large, developing economies are scrambling to devise new growth strategies. The most effective path to development in recent history – specialising in export-oriented, unskilled labor-intensive manufacturing – now appears to be blocked. The model that once propelled the economies of South Korea, Taiwan, Singapore, China, and Vietnam is becoming less accessible for countries in South Asia and Sub-Saharan Africa.
What made the traditional development model so successful was its reliance on exports, which enabled countries like South Korea to tap into virtually unlimited global demand, freeing them from the constraints implied by narrow domestic markets. Exporting also fuelled supply-side efficiency, and reliance on unskilled labour meant that the benefits of growth were widely shared.
Another key strength of the manufacturing-led growth model was that it ensured productivity gains were aligned with available labour resources, largely owing to the learning-by-doing dynamic that enabled countries to boost efficiency within existing sectors while gradually moving up the value chain. Economies could start with low-productivity exports and, as the workforce became more educated, shift to more skill-intensive and sophisticated export sectors. Consequently, growth was both rapid and inclusive, and thus more sustainable.
But those days are long gone, or so it seems. As the world braces for an era of protectionism and deglobalisation, two alternative development strategies have come to the fore. The first, proposed by Rohit Lamba and Raghuram G Rajan, suggests that developing countries – India in particular – should focus on skill-intensive exportable services.
While Lamba and Rajan’s proposal retains some of the advantages of the old manufacturing-led model – tapping into global demand and promoting efficiency – its biggest drawback is that only a minuscule fraction of the workforce can directly benefit from it. Even India – the posterchild for this strategy among developing countries – employed less than 2.5% of its workforce in the sectors that could be considered skill-intensive and tradable in 2024. For most poor countries, where skilled labour is scarce, such a strategy is simply not viable. And even where it is, pursuing it risks exacerbating inequality rather than fostering economic inclusion.
The second strategy, proposed by Dani Rodrik and Rohan Sandhu, contends that the window for labour-intensive exports has narrowed dramatically, and that emerging technologies like AI and automation will further erode manufacturing’s ability to generate new jobs. In response, they advocate focusing on productivity gains in non-tradable services. Since the bulk of economic activity and employment in developing countries is concentrated in these sectors, this approach has the potential to foster more inclusive growth.
The limitations of such a strategy are twofold. For starters, new technologies are just as likely to displace workers in non-tradable service sectors as they are in manufacturing. Moreover, as we have shown in previous research, non-tradable services are not uniformly low-skilled. Some sectors – such as telecommunications, finance, and real estate – are highly skilled and productive. By contrast, sectors like retail trade and care-giving are more accessible to unskilled workers but tend to have limited potential for productivity growth.
This dynamic, famously captured by the so-called Baumol effect, means that non-tradable services are unlikely to become engines of sustained, inclusive economic growth in the way that manufacturing once did. To be sure, there may be some exceptions: construction and tourism, for example, are labour-intensive sectors that could become more productive. But these gains typically depend on adopting new technologies that are inherently labour-displacing, thereby limiting their capacity to drive inclusive development. So, where does this leave developing countries? Surprisingly, while the traditional manufacturing-led strategy is not as effective as it once was, it remains a viable path for today’s poor countries – provided that middle-income countries vacate the export space they currently dominate.
Simple arithmetic helps illustrate this point. For example, Brazil, China, South Korea, Taiwan, and Mexico account for about two-thirds of low and mid-skilled manufacturing exports, which amounted to about $5.3 trillion in 2023. Over the coming decade, rising wages and geopolitical shifts – especially growing anti-China sentiment – will likely push these countries to move up the value chain or reduce their reliance on exports altogether.
Such a shift could open up space for low-income countries to step in. If they were able to capture even half of the vacated export markets, along with a share of China’s growing domestic demand, which we estimate to be at least a half-trillion dollars, they could more than double their current exports to $2-2.5tn.
