On the whole, economists have been highly critical of government efforts to target particular industries for protection or promotion. The actual policies of governments have, of course, been criticized for their clumsiness, their responsiveness to special interest groups, and often their sheer corruption. Beyond this critique of practice, however, economists have been extremely negative about the idea of industrial policy even in principle. The general presumption of most economic theory is that the best industrial policy is to let the market work – that the decentralized incentives of the market place will push resources to the places with the highest expected return, and that no second-guessing of market decisions is necessary or desirable.

The purpose of this chapter is to argue that whatever the failings of industrial policy in practice, there is in fact a pretty good case for such a policy in principle – and that recent developments in economics give us a reasonable set of criteria for thinking about which industries to promote.

This represents a change in position on my part. Like other economists, I have written a number of critiques of proposals for industrial policy (Krugman, 1983, 1984). These critiques reacted (correctly) against the crude misconceptions that seemed to underlie most proposed criteria for industrial targeting. They went on, however, to argue that, while there might be potential reasons for an active industrial policy based on more sophisticated criteria, it was unlikely that such a policy could actually do much good.