Science and Public Policy, 36(4), May 2009, pages 301315 DOI: 10.3152/030234209X436518; http://www.ingentaconnect.

com/content/beech/spp

Export growth, foreign direct investment and technological capability building under the maquila model: winding roads, few intersections
Ramn Padilla-Prez and Jorge Mario Martnez-Piva

In the 1980s and 1990s, Central American countries and Mexico moved towards a new growth model based upon the primacy of exports and foreign direct investment (FDI). The existing literature acknowledges that the expansion of international trade and FDI may be an important factor for developing local technological capabilities. However, in Central America and Mexico a fragile relationship between international trade and FDI growth and the development of technological capabilities has been observed, due to the low local content of exports, weak integration of multinational enterprises and local industry, the specialization of exports in the less knowledgeintensive activities of the value chain and weak absorption capacities. Science, technology and innovation policies have been rather passive and followed a linear approach, undermining the potential benefits arising from FDI and international trade.

Economic development ultimately derives from a home-grown strategy, and not from the world market. Rodrik (2001: 45)

N THE 1980S AND 1990s, Central American countries1 and Mexico (CAM) implemented farreaching economic reforms, opening up to foreign direct investment (FDI) and international trade. The central idea was to promote exports as an engine of growth and the private sector (instead of the state) as the driver. Trade openness, through export growth and FDI flows, would bring higher economic growth and better social conditions. Accordingly, CAM signed a wide array of multilateral and bilateral trade agreements and were benefited by trade preferential treatment programs such as the Caribbean Basin Initiative (CBI) and the General System of Preferences

Ramn Padilla-Prez and Jorge Mario Martnez-Piva are economic affairs officers at the United Nations Economic Commission for Latin America and the Caribbean (ECLAC), Presidente Masaryk 29, 12th Floor, Colonia Polanco, 11570, Mexico City, Mexico; Email: ramon.padilla@cepal.org; jorgemario. martinez@cepal.org.

(Schatan et al, 2007). CAM also liberalised FDI inflows and launched various FDI attraction schemes, based mainly on tax incentives (Padilla et al, 2008). Between 1990 and 2005, international trade in CAM expanded significantly: total exports in Central America grew at an annual average rate of 15.3%, while in Mexico they grew at 16.8%. By 2005, total exports in Central America amounted to US$24,520 millions and to US$230,299 millions in Mexico. Between 1990 and 2005, FDI in Central America amounted to US$18,175.5 millions and in Mexico to US$205,738 millions, accounting for 2.6% and 2.5% of gross domestic product (GDP) in 2005, respectively. Export growth in this period was led by manufactured goods, deeply transforming the structure and composition of exports previously dominated by natural resources and primary goods such as oil, coffee, bananas and sugar cane. In 2005, manufactured exports in CAM represented 64.4% of total exports in contrast to 36.7% in 1990. The so-called maquiladora industry was at the centre of that impressive export growth and structural transformation. One universal concept that defines the maquiladora industry cannot be found in the countries here studied, but for the purposes of this paper it is understood as export manufacturing industry (EMI) operating under various investment
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Ramon Padilla-Prez is an economic affairs officer at the UN Economic Commission for Latin America and the Caribbean. He holds a PhD in science and technology research studies from SPRU, University of Sussex, and an MSc in economics from the London School of Economics. He has conducted extensive research on science and technology policy, industrial policy and international trade in Latin America. Dr Padilla-Prez has coordinated and participated in diverse technical assistance projects in Central America. Previously he worked for Deloitte Consulting, where he participated in strategy and operations projects in manufacturing firms in Latin America. His research interests cover systems of innovation, technological capabilities, multinational enterprises and regional development. Jorge Mario Martinez-Piva has extensively worked on international trade matters. He has coordinated ECLACs diverse cooperation activities on trade capacity building in Latin America. He obtained a law degree at the Universidad de Costa Rica, a Masters degree in economics at the Universidad Nacional (Costa Rica) and a PhD in economics at the Universidad Autnoma de Madrid (Spain). He has recently published a book on intellectual property rights, innovation and development. Dr Martinez-Pivas academic experience includes lectures and research at universities such as Universidad Nacional (Costa Rica), Universidad Estatal a Distancia (Costa Rica), Universidad Autnoma de Madrid (Spain), and Universidad de Puerto Rico.

demand-side linear approach in which the private sector was supposed to act as the main science and technology bargain hunter (Cimoli et al, 2005). The reliance on market mechanisms resulted in neutral and horizontal policies oriented to minimise state intervention (Casalet, 2003; Cimoli, 2002; ECLAC, 2004). This paper aims to answer the following three research questions: Is there a positive relationship between export growth, inward FDI and technological capability building in CAM between 1990 and 2005? Did CAM countries undertake active STI policies aimed to take advantage of international trade and FDI attraction? and What underlying theoretical assumptions can be found in the economic reforms implemented in the 1980s and 1990s in CAM? Though different in size and economic structure, Central American countries and Mexico share common characteristics regarding their economic internationalisation, in particular an export manufacturing industry which has been benefited from taxincentive schemes and is dominated by foreignowned firms: the so-called maquila model. This paper is organised as follows. The second section reviews the existing literature on the relationship between trade openness and technological capabilities. The third section analyses this relationship in CAM, making use of quantitative and qualitative information. STI policies in CAM are also briefly examined. The fourth section concludes. The relationship between international trade and foreign direct investment, and technological capabilities There is a prolific existing literature on the relationship between technological capability building and trade openness, through international trade and FDI attraction. This section discusses the extant literature on the relationship between international trade and FDI, and the development of technological capabilities, which are understood as knowledge and skills needed to acquire, use, adapt, improve and create technology (see Stewart, 1984; Lall, 1992; Bell and Pavitt, 1993; Romijn, 1999). Trade openness may have a positive effect on technological capabilities through three mechanisms: exports, imports and FDI. In terms of export of goods, the access to new and bigger markets may generate economic incentives for increasing innovative efforts. Given the growing competition in international markets characterised by high-quality and differentiated goods, short times of response, rapid technical change, among other factors companies that intend to compete successfully in these markets, and indeed to survive, are obliged to

attraction and export promotion schemes, such as free trade zones and temporal admission.2 In 2005, exports of the maquiladora industry represented 55.4% of total exports in CAM. As will be further discussed in this paper, the maquiladora industry is characterised by heavy imports of intermediate goods and components, and weak linkages with the rest of the local economy. International trade and FDI are recognised in the economic literature as engines of economic growth. Their impact may be particularly relevant in terms of developing technological capabilities. Developing countries, which traditionally lack the capabilities needed to generate new technologies, commonly rely on international sources of knowledge to generate technical change (Bell and Pavitt, 1993; Lall, 1993). However, the effect of international trade and FDI on technological capabilities is neither automatic nor necessary. On the one hand, FDI may operate within enclave economies generating few technological and economic spillovers (Gallagher and Zarsky, 2007); on the other, long and sustained efforts to build capacity or undertake parallel investment in physical, financial and human capital in the local economy are frequently needed to take advantage of new access to international sources of knowledge (Moran, 1998; Radosevic, 1999; Agosn and Machado, 2005). Several authors have pointed out the importance of complementing trade openness with additional efforts of local actors, and in particular the central role of an active public policy (Rodrik, 2001; Machinea and Vera, 2006). However, industrial policies in CAM in the 1990s and the first years of the 21st century, and in particular science, technology and innovation (STI) policies, followed mainly a

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innovate. Additionally, foreign buyers are an important potential source of new technologies, and exposure to international markets may keep exporters informed of new products and processes. As for imports, local firms, to compete successfully in the domestic and international markets, demand foreign capital goods and intermediate components, which improve their competitive advantages and offer the opportunity to acquire the technological knowledge embodied in those goods (ECLAC, 2004; Machinea and Vera, 2006). FDI may have also positive effects on local capabilities. Multinational enterprises (MNEs), which set up subsidiaries to supply the host country and/or produce final and intermediate goods to be exported to third countries, may benefit the host country through three main mechanisms: 1. Backward linkages with the host economy. When supplying goods and services to foreign subsidiaries, locally owned subcontracted firms receive technical assistance, and technical specifications regarding product quality, delivery times, etc. Strengthening and deepening backward linkages also act as incentives to improve quality and reduce costs and, due to the large volumes usually demanded by MNEs, offer the opportunity to reap economies of scale. 2. Local firms may imitate technologies or organizational forms used by MNEs. This learning process occurs through both informal channels and formal inter-firm collaboration. 3. FDI is a source of knowledge and skills acquisition for local human capital. The learning process ranges from basic learning-by-doing to formal courses. Moreover, once domestic workers have gained knowledge and skills in an MNE, they can move to local firms or even set up their own businesses and take advantage of their experience and

learning (see Grossman and Helpman, 1991; Dunning, 1993, 1994; Blomstrm and Kokko, 1998; Romo Murillo, 2005; and UNCTAD, 2005). However, it is important to recognise that the existing literature also discusses the potential negative effects of FDI, related to driving domestic producers out of businesses, repatriation of profits and tight control on core technologies (Moran, 1998). The attraction of FDI, without complementary policies and efforts to strengthen the domestic industry, may result in crowding-out of local firms by FDI (Agosin and Machado, 2005). In addition, if MNEs operate in industries where there are substantial barriers to entry, their presence may even increase market concentration (Cardoso and Dornbusch, 1989). Three main streams of literature on the relationship between trade openness and technological capability building are here examined (see Figure 1). The first two streams adopt a linear approach, which, as will be analysed, presents some shortcomings to study the case of CAM. The first stream adopts a demand-led approach and states that opening the economy to free trade of goods, services and capital generates the demand conditions needed for the development of technological capabilities. The second stream assumes a supply-led approach and examines the effects of innovativeness and technological dynamism on trade performance, pointing out that a superior innovative performance leads to a better international trade performance, and that international trade patterns are technologically determined. Finally, the third stream, in line with evolutionary theories, recognises that the first two are complementary approaches to analyse the relationship between the development of technological capabilities and trade openness, and holds that economic, technical, political and social factors are crucial to explain this relationship.

Demand-led

FDI, International exports trade

Technological capabilities

Supply -led

Technological capabilities

FDI, International exports trade

FDI, International exports trade Evolutionary Technological capabilities Socio -economic factors

Figure 1. Exports, foreign direct investment and technological capabilities Source: Authors' own elaboration

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The central idea of the demand-led approach is that to open an economy to international trade creates the demand conditions necessary, and in the most extreme forms of the theory also sufficient, to develop local technological capabilities. This is based on the alleged positive effects that opening up to international trade has on technological capabilities through exports of goods, imports of intermediate and capital goods and FDI. One of the first contributions to this stream is the catching-up theory in its simple form. Veblen (1915) and Gerschenkron (1962) examined why countries such as Germany overtook the United Kingdom in terms of technological capabilities. One of their main conclusions was that relative backwardness in productivity level carries a potential to growth at higher rates than those of trade partners with higher productivity level. The most widespread demand-led theory is the market-friendly neoclassical approach, promoted by the Washington Consensus, which emphasises the role of the market to achieve socially useful outcomes. It argues that external competition spurs innovation, diffusion of technology and efficient use of resources, preaching the advantages of openness to trade and foreign investment. Consequently, government policies must be exclusively oriented to assure the correct functioning of the market, limiting its intervention to those cases of market imperfections or market failures (Balassa, 1991; Dollar, 1992; World Bank, 1991; Krueger, 1993; Kuczynski and Williamson, 2003). Another group of demand-led theories relates to FDI and technology transfer. The effects of MNEs on host countries technological capabilities are studied as spillovers. These are the positive external effects from FDI to the host economy arising from forward and backward linkages, migration of trained workers, informal collaboration agreements, and dissemination of information on foreign markets, among others (e.g. Blomstrm and Persson, 1983; Blomstrm and Kokko, 1998; Kohpaiboon, 2006; Kugler, 2006; Mulenga Bwalya, 2006). Supply-led theories have in common the assumption that international differences in technological capabilities are a fundamental factor in explaining the differences in both international trade patterns

and income among countries. The basic assumption behind the technology-gap theory is that technology is a free good, although it is not instantaneously and universally available. In a seminal paper, Posner (1961) developed an economic model to explain the patterns of international trade in manufactured goods, identifying the development of new products and processes as the main cause of international trade. Since particular innovations take place in one country: comparative cost differences may induce trade in particular goods during the lapse of time taken for the rest of the world to imitate one countrys innovation. (Posner, 1961: 323) The product life-cycle theory also explains international trade patterns on the basis of technological capabilities. Vernon (1966) developed an international trade model based on the stages of product life-cycle: entry, maturation and standardisation. Thus the international trade patterns are defined by innovative countries exporting new, knowledgeintensive products and importing standard, labourintensive products, and vice versa. Similar conclusions regarding technical progress and global industrial leadership were made in Freeman (1963) and Hufbauer (1966), and more recently in Soete (1990), Lall (1998), and Dudley and Moenius (2007). Other authors, in line with the neo-Schumpeterian approach, have recognised that the development of technological capabilities is a cumulative process and that the probability of technological advances by firms, organisations and countries is, among other things, a function of the technological levels already achieved by them. Therefore if technical progress is cumulative not only at the company level, but also at the country level, the comparative advantage of one country does not originate in any pre-set endowment of resources, but from disparities in knowledge and experience (Dosi et al, 1990; Fagerberg and Godinho, 2005). Both supply-led and demand-led theories state that there is a linear and mechanistic relationship between international trade and FDI, and the development of technological capabilities. First, both streams assume that technology is freely available at low cost for backward countries, and that it can be acquired effortlessly. Second, both streams do not take into account potential feedback effects between international trade and FDI, and technological capabilities. They do not incorporate either the analysis of the effects that techno-economic and institutional factors have on the development of technological capabilities. Third, the demand-led approach assumes that technology spills over freely to the host economy and no clear distinction is made between information and knowledge. The third stream, in contrast, recognises that the relationship between trade openness and development of technological capabilities is non-linear,

Supply-led theories have in common the assumption that international differences in technological capabilities are a fundamental factor in explaining the differences in both international trade patterns and income among countries

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i.e. it is not the immediate consequence of potential access to new technologies and sources of technological knowledge. This third stream, as will be shown in the next sections of this paper, seems to be more suitable for analysing the case of CAM. The key idea behind evolutionary theories is that to study the relationship between technological capability building and trade openness the complex and reciprocal interactions among scientific, technical, economic and social changes must be taken into account. These theories recognise that firms have a central role in technical change, but socio-economic and institutional factors matter in shaping what they do and how successfully they do it (Dosi, 1999: 36). One of the main assumptions of these theories is that technology is not a freely available good, which can be acquired immediately and effortlessly. In contrast, the process through which technology is created or acquired is cumulative, dynamic and costly. Several authors have pointed out the importance of complementing trade openness with additional efforts carried out by local actors, highlighting the role of public sector. For instance, Rodrik (2001) holds that robust public institutions, as well as a stable macroeconomic environment, are crucial to foster economic growth and promote market efficiency. Similarly, Machinea and Vera (2006) state that export growth and FDI attraction are a source of economic growth and development if they are accompanied by macroeconomic stability, robust institutions, local efforts to develop technological capabilities and strong production linkages. There is a wide array of studies that indicate the non-linearity of the relationship between technological capability building and trade openness. The development of local technological capabilities as a result of international trade and FDI is not an automatic result of the simple availability of imported technical knowledge. Heavy imports of technology have to be combined with strong indigenous efforts devoted to technical change (Bell and Pavitt, 1993; Lall, 1993; Radosevic, 1999; Lall and Narula, 2004). On the one hand, local firms must invest to take advantage of having access to new technologies and to strengthen their competitiveness through technical change (Enos and Park, 1988; Amsden, 1989, 2001; Hobday, 1995; Kim, 1997). On the other hand, efforts carried out by domestic firms have been complemented by improvements in investment in education and training activities, science and technology efforts, domestic infrastructure, strengthening of institutions, etc. (Pack and Saggi, 1997; Radosevic, 1999; Cantwell and Iammarino, 2003). Indigenous technological capability building, conducive to higher economic growth and development, is the result of joint efforts and interaction among individuals and organisations, as asserted in the literature on national innovation systems (Freeman, 1987; Lundvall, 1992; Nelson, 1993; OECD, 2002; Edquist, 2005).

Similarly, absorption of technological knowledge transferred by FDI, as well as the development of new technologies using the knowledge previously absorbed, demand coordinated and systemic efforts. The presence of MNEs and their interaction with firms and other agents in the host country can create virtuous or vicious cycles of technological capability building in the host country (Ozawa, 1992; Dunning, 1993; Young et al, 1994; Pack and Saggi, 1997; UNCTAD, 2005). Finally, trade openness is neither a necessary nor a sufficient condition to attract FDI, and even less to attract FDI in knowledge-intensive activities, since removing barriers does not create assets that MNEs seek for when they invest in third countries (Lall and Narula, 2004; UNCTAD, 2005). The case of Central America and Mexico From the 1950s to the end of 1970s, CAM followed an inward development strategy based on state intervention to foster industrialisation through imports substitution. CAM governments promoted largescale investments and protected national markets with high import tariffs and restrictions to FDI. Industrial policy operated through sector-specific programs aimed at building up a national manufacturing sector (Bulmer-Thomas, 2003; Moreno-Brid et al, 2007). In the case of the Central American countries, regional integration was sought as an enlargement of their small local markets.3 In the 1970s, this import-substitution industrialisation model (ISI) entered a declining phase in which accumulated inefficiencies were no longer sustainable: reduced production linkages, high dependency in foreign inputs and intermediate products, and accelerated growth of public services based on an inefficient and regressive fiscal structure. External shocks brought about critical disequilibria in the regions balance of payments and fiscal accounts and the resumption of inflation that were corrected in extremis (Moreno-Brid et al, 2004). The crisis of the model coincided with an unprecedented international consensus on the merits of free markets, trade and financial liberalisation and privatisation of public enterprises (Bulmer-Thomas, 2003). The state reduced its size and expenditures, removed subsidies, reduced investment and privatised many public enterprises. The new economic model that substituted ISI aimed to generate growth and obtain financial resources to face the state obligations (Sunkel, 1991; Martnez Piva, 2001; Bulmer-Thomas, 2003; Moreno-Brid et al, 2004). Industrial policies were also radically re-oriented, leaving behind sector-specific programmes, and instead favouring horizontal policies and emphasising the role of markets. CAM governments followed a demand-led approach, in line with the Washington Consensus, arguing that openness to international markets would provide access to dynamic markets and technological knowledge. The main guideline of

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the new model, widespread in the early 1990s, was: the best industrial policy is no policy at all. In contrast, special attention was given to achieve macroeconomic stability. The rest of this section analyses empirical evidence on Central America and Mexico to answer the three questions posed in this paper. Macro-level economic data, interviews conducted by the authors in the six countries studied and existing empirical literature are the inputs for the analysis. The first subsection focuses on examining the economic transformation that took place in CAM in the 1980s and 1990s, and its results in terms of flows of international trade and FDI. In the second subsection, those results are contrasted to the dynamics of technological capabilities indicators. Lastly, a brief analysis of STI policies in CAM is presented.
Trade openness, foreign direct investment attraction and export growth

During the 1980s, CAM promoted trade openness through diverse strategies, which were strengthened during the 1990s. In the 1980s, all CAM countries initiated a unilateral trade liberalization process through international trade tariffs reduction (see Table 1). This process led CAM to become the most open subregion in Latin America. By 2005, the average tariff in CAM was 5.2% in contrast to 6.2% in MERCOSUR (Mercado Comn del Sur, Southern [American] Common Market) and 8.4% in the Andean Community. In addition, CAM reduced its tariff dispersion, though some tariff peaks remain in place for sensitive sectors,4 and a series of complementary trade liberalization initiatives were introduced: restrictions to FDI were lifted and MNEs repatriation of earnings was facilitated through a more flexible financial system; import barriers permits, quotas, etc. were simplified according to international standards. CAM also participated in the Uruguay Round and joined the General Agreement on Tariffs and Trade (GATT). Mexico joined the GATT in 1986, Costa Rica in 1990, El Salvador and Guatemala in 1991, and Honduras in 1994. Nicaragua has been a GATT
Table 1. CAM: tariffs reduction 19852005 (average tariffs)

1987 Costa Rica El Salvador Guatemala Honduras Nicaragua Mexico Average* Source: Note: 26 23 25 20 21 n.d. 23

1995 8.5 9.1 8.6 8.9 5.5 5.6 8.1

2000 3.7 6.4 5.8 8.3 8.8 15.2 7.1

2005 4.3 6.6 5.8 6.1 5.4 3.0 5.2

Own elaboration based on data from World Bank (2007b) * = weighted average tariffs

member since 1950. In 1994, all CAM subscribed to the final Uruguay Round act, including the creation of the World Trade Organisation. They also signed the Multilateral Agreements on Trade in Goods, the General Agreement on Trade in Services, the Agreement on Trade Related Aspects of Intellectual Property Rights and the Agreement on TradeRelated Investment Measures. Moreover, CAM promoted a series of trade negotiations that ended in bilateral trade agreements and set up an ambitious tariff reduction schedule for most of its tradable goods and services. The first of these, and the most notorious, is the North American Free Trade Agreement (NAFTA), by which Mexico joined the largest trade area in the Americas comprising Canada and the United States. All Central American countries signed free trade agreements with Mexico, Chile, Dominican Republic, Panama and the United States (DR-CAFTA).5 Trade preferences played an important role in the consolidation of the new development model in CAM. The multilateral trade system allows unilateral and discriminatory trade concessions to developing countries under the Generalised System of Preferences. Under this framework, all Central American countries benefited from the US trade preference program given in CBI.6 Through this programme the USA fostered processing and assembling industries in the region by giving preferential access to their exports to the USA, conditioned to the incorporation of certain amounts of US inputs. Under the new economic model, exports grew significantly from the mid-1980s, but it was in the 1990s that they soared. Between 1990 and 2005, total exports in Central America grew at an annual average rate of 15.3%, while in Mexico it was at 16.8%, showing an export performance superior to that of other countries in Latin America. For instance, MERCOSUR7 overall exports grew in the same period at an annual average rate of 8.8%, while for Chile it was at 10.4% (UNCTAD, 2007). In Central America, exports amounted to US$5,928 million in 1990, representing 24.8% of its GDP, while in 2005 they had reached US$24,520 million, representing 29% of GDP. In Mexico, exports climbed from US$48,805 million in 1990 to US$230,299 million in 2005. As a percentage of GDP, exports in Mexico went from 18.6% in 1990 to 30% in 20058 (see Figure 2). Latin Americas exports of goods and services including CAM and Caribbean countries accounted for 25.1% GDP in 2005.9 The creation of export promotion and FDI attraction schemes had a central role in explaining this export growth. Although those schemes can be traced back to the mid-1960s in Mexico and the 1970s in Central America,10 they experienced a significant growth in the 1980s and 1990s (Buitelaar et al, 1999; Padilla et al, 2008). Free zones, maquila programs and temporal admission schemes, which altogether are commonly known as maquiladora industry, offered attractive tax incentives to set up

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300,000 35.0

30.0 250,000

Exports of goods and services (million of dollars)

25.0 Total Exports as percentage of GDP 200,000

20.0 150,000 15.0

100,000 10.0

50,000 5.0

0 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 Central America, Goods and services exports (million of dollars) CAM, Goods and services exports (million of dollars) Mexico, total exports/GDP Mexico, Goods and services exports (million of dollars) Central America, total exports/GDP CAM, total exports / GDP

0.0

Figure 2. CAM: total exports, 19902005 Source: Authors' own elaboration based on ECLAC (2007a)

export-oriented plants in CAM to supply third markets, mainly the USA. In 2005, maquila exports in CAM amounted to US$162 thousand million, representing 55.4% of total exports (Padilla et al, 2008). The maquiladora industry is not an industry in the sector-specific sense of the word, given the presence of a large variety of firms operating in different sectors, such as apparel, automotive, electronics and medical devices. Similarly, maquiladora firms possess a wide array of production and technological characteristics. Although labourintensive activities prevail, which are commonly accompanied by automatised and capital-intensive processes, there has been a gradual, but still reduced, trend to participate in knowledge-intensive activities, such as product design. Imports also increased substantially over this period. In 1985, CAM experienced a trade surplus equivalent to 3.1% of GDP. Ten years later, in 1994, trade balance was negative and equal to 5.3% of GDP. In 2000 and 2005, CAM registered a trade deficit that amounted to 2.4% and 2.8% of GDP, respectively. An important part of this trade deficit is due to a high ratio of imported inputs, mainly in the maquiladora industry, which is characterised by weak industrial linkages and low local value added. CAM countries import most of the raw materials and intermediate goods needed to produce final goods or components; backward linkages between the exportoriented manufacturing industry and the rest of the local economy are weak (Gitli and Arce, 2001; Bair and Dussel, 2006; Snchez-Ancochea, 2006; Padilla et al, 2008).

Before the enforcement of the CBI program, Central American exports were concentrated in a few traditional, agricultural goods: bananas, coffee and sugar cane. Bananas and coffee together accounted for 31% of total regional exports to the USA in 1990 and their contribution decreased to 9% in 2005. The rise of the maquiladora industry helps explain the rapid growth of non-traditional products. Apparel exports to the USA (chapters 61 and 62 of the Harmonised System) went from 28.9% of total Central American exports in 1990 to 54.3% in 2005 (ECLAC, 2007b). Table 2 illustrates the structural transformation that CAM exports went through between 1990 and 2005. In 1990, more than 50% of Central American exports were primary goods (natural resources), and in Honduras and Nicaragua the amount was higher than 70%. In 2005, only in Honduras and Nicaragua did exports of primary goods represent more than 50% of total exports. The importance of low- and medium-technology goods increased significantly in all Central American countries. In Costa Rica the importance of exports of high-technology manufactures (mainly electronic goods and components) grew considerably in the period studied. Mexico went also through a similar transformation: in 1990, 59.6% of its total exports were primary goods and goods intensive in natural resources, while in 2005, 61.5% of its total exports were medium- and hightechnology manufactures. In the same period, other Latin American countries followed a different path: MERCOSUR exports of low-, medium- and hightechnology manufactures remained around 40% of

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Table 2. CAM: exports by technological intensity, 19902005 (percentage of total exports)

1990 Natural resources (NR) NR-based manufactures Low-technology manufactures Medium-tech manufactures High-tech manufactures Other 2005 Natural resources (NR) NR-based manufactures Low-technology manufactures Medium-tech manufactures High-tech manufactures Other

Mexico 46.7 12.9 7.0 27.7 4.4 0.8

Costa Rica 57.6 11.4 12.7 6.0 3.1 8.9

El Salvador 51.3 12.9 22.0 8.8 4.6 0.2

Guatemala 58.0 20.8 9.5 6.3 5.1 0.0

Honduras 77.6 16.2 4.5 1.08 0.1 0.18

Nicaragua 73.5 16.1 3.8 2.0 0.0 4.4

17.0 7.4 13.0 36.5 25.0 0.9

23.5 14.6 16.0 16.5 28.5 0.57

13.8 30.5 34.3 13.0 6.6 1.3

28.9 16.9 39.2 10.6 3.7 0.3

55.6 21.6 10.4 6.9 2.9 2.3

63.8 22.6 2.6 4.8 0.8 5.3

Source: Authors' own elaboration based on ECLAC (2007c)

total exports between 1990 and 2005, while in Chile they increased slightly from 5.9% in 1990 to 7.9% in 2005. It is important to note that exports of mediumand high-technology manufactures are not necessarily associated with knowledge-intensive activities. In contrast to supply-led theories, which as mentioned above argue that differences in technological capabilities are a fundamental factor in explaining differences in international trade patterns, a country can export high-technology manufactures even if it possesses weak technological capabilities. The world manufacturing industry is dominated by global value chains, which decompose different links of the value chain and locate them in diverse countries, gaining access to resources and capabilities and also to important markets.11 Exports of manufactured goods in CAM, in particular maquila, are strongly integrated into global value chains, and are mainly specialised in the less knowledge-intensive links of the global value chain (manufacturing and assembling); activities such as product design and R&D are not common in CAM (Gallagher and Zarsky, 2007; ECLAC, 2008; Padilla et al, 2008). FDI attraction is another characteristic of the new economic model. Between 1990 and 1999, FDI inflows in Central America added up to US$13,331 million (an annual average of US$1,333 million). In 20002005, those inflows amounted to US$13,418 million (annual average of US$2,683 million). As for Mexico, FDI inflows added up to US$84,629 million between 1990 and 1999, corresponding to an annual average of US$8,463 million; FDI jumped after the enforcement of NAFTA. The annual average FDI inflows in Mexico increased to US$20,185 million in 20002005. Although the privatization of many public enterprises (telecommunications, electricity and financial) explains the peak experienced

in the years 19952005, a great amount of FDI flows was directed towards the manufacturing sector, along with services, real estate and tourism. FDI in the industrial sector is closely related to exports of manufactured goods. Foreign firms have established subsidiaries in CAM as a platform to export mainly to the USA, taking advantage of the preferential market access, abundance of low-cost labour force and geographical proximity. Foreign manufacturing firms have in general weak links with the local economy, limiting potential economic and technological spillovers. In some cases, FDI operates as a real enclave, importing most of its inputs and intermediate goods (Buitelaar et al, 1999; Dussel, 2004; Snchez-Ancochea, 2006; Gallagher and Zarsky, 2007). Moreover, foreign subsidiaries undertake processes characterised by low-technological intensity, limiting even more the potential knowledge spillovers to the local economy. Even in sectors of high- and medium-technological intensity, foreign subsidiaries in general do not carry out knowledge intensive activities locally.
Technological capabilities

This section aims to assess technological capabilities in CAM between 1990 and 2005. There is no single or commonly accepted indicator that summarises technological capabilities at the country level. Hence, a set of indicators related to technological capabilities are presented. In addition, in CAM there is a shortage of science and technology indicators.12 Tables below present the information available from national and international organizations for the period studied. The indicators presented here are divided into two groups: those that describe efforts and others that summarise outputs. The first group assesses the

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Table 3. CAM: education expenditure (percentage of gross national income), 19902005

Country Costa Rica El Salvador Guatemala Honduras Nicaragua Mexico

1990 4.34 3.02 1.25 4.04 3.59 2.33

1995 4.45 2.18 1.61 3.55 3.71 4.58

1998 5.25 2.28 1.57 3.55 3.28 4.10

1999 5.48 2.32 1.57 3.55 3.28 4.31

2000 4.75 2.54 1.57 3.55 3.28 4.85

2001 4.83 2.67 1.57 3.55 3.28 5.07

2002 4.20 2.80 1.57 3.55 2.91 5.25

2003 4.12 2.78 1.57 3.55 2.91 5.25

2004 4.04 2.78 1.57 3.55 2.91 5.25

2005 4.04 2.78 1.57 3.55 2.91 5.25

Source: World Bank (2007a)

efforts carried out in the country to strengthen capabilities needed to generate technical change. Three representative effort-related indicators are here examined: education expenditure, R&D expenditure, and science and technology personnel.13 In turn, output indicators show the results of investing and conducting activities conducive to improving and generating new technologies. Three output indicators are analysed: patent applications (residents and non-residents), and total factor productivity. It is important to note that, given the lack of long and consistent series, as well as a reduced availability of science and technology indicators in the countries studied, the indicators here discussed may not examine all the activities related to technological capability building. However, it is a robust set of indicators, given the information available. In 2005, education expenditure in CAM, as a percentage of gross national income, was 3.35% on average. In Mexico, this indicator was much higher that the CAM average (5.25%). Only Guatemala and Mexico increased their education expenditure between 1990 and 2005 (see Table 3). Furthermore, the same indicator in other emerging economies with fast export growth, such as Malaysia and Thailand (5.77% and 4.75%, respectively), was higher than in all Central American countries. Information on R&D expenditures and researchers (science and technology personnel) is scarce in CAM. Only Mexico has a long and consistent series (see Table 4). The average R&D expenditure (as a percentage of gross domestic product) in Latin America in 2004 was 0.52%. R&D expenditure in

CAM was below the Latin American average. Between 1996 and 2004,14 Mexico increased its R&D expenditure from 0.31% to 0.41% of GDP, and Costa Rica from 0.3% to 0.38%. These two countries were the biggest spenders within CAM. The rest of CAM showed little progress in the period studied and their R&D expenditure was below the Latin American average. In addition, R&D in CAM is significantly lower than in Asian countries, with which they compete in international markets such as China (1.44%), Korea (2.64%) and Malaysia (0.69%).15 By the same token, the number of researchers per million people did not show a significant increase in the period studied (but in Mexico, where it rose from 233 to 426 between 1998 and 2005) and CAM lagged behind the Asian countries mentioned above. The first two output-related indicators are the total number of patent applications, that is, patent applications by residents and non-residents, and patent applications only by residents.16 The number of patent applications per million people increased importantly in all CAM between 1990 and 2005. Honduras reported the highest growth (from 4.7 to 21.8 patent applications per million people), and Nicaragua the lowest (from 9.1 to 15.8). On average, this indicator grew 225% in CAM between 1990 and 2005 (see Table 4). In Latin America and the Caribbean, the average in 2005 was 100.1 patent applications per million people. Only Costa Rica and Mexico were above this average. In comparison with some Asian countries, in 2004 China and Thailand reported 79 patents per million people, below Costa Rica and

Table 4. CAM: research and development expenditures as a percentage of GDP, 19962004 (available data)

Country Costa Rica El Salvador Guatemala Honduras Nicaragua Mexico Source: Notes:
a b

1996 0.30% n.d. 0.0012% n.d. n.d. 0.31%

1997 0.29% n.d. 0.0012% n.d. 0.12% 0.34%

1998 0.26% 0.08% 0.0043% n.d. n.d. 0.38%

1999 0.33% n.d. 0.0064% n.d. n.d. 0.43%

2000 0.39% n.d. 0.0040% 0.06% n.d. 0.37%

2001 n.d. n.d. 0.0010% 0.05% n.d. 0.39%

2002 n.d. n.d. 0.0015% 0.06% 0.09% 0.44%

2003 0.36% 0.15% 0.0023% 0.06% n.d. 0.43%

2004 0.38% 0.15% n.d. n.d. n.d. 0.41%

RICYT (2007) a The source for El Salvador in 2004 is the National Council of Science and Technology b Corresponds to science and technology expenditures carried out only by the National Council of Science and Technology

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Table 5. CAM: patent applications (residents), per million people, 19902005

Country Costa Rica El Salvador Guatemala Honduras Nicaragua Mexico Source: Note:

1990 9.4 1.2 3.0 1.2 0.5 7.9

1995 n.d. 3.5 3.2 1.1 n.d. 4.7

1998 n.d. 4.6 2.6 n.d. 2.7 5.0

1999 n.d. 3.5 2.7 1.4 2.0 4.9

2000 n.d. 4.7 5.2 1.2 2.4 4.8

2001 n.d. 2.8 2.8 6.1 3.4 4.5

2002 12.2 3.6 0.7 3.5 1.4 5.4

2003 12.0 3.0 0.5 0.6 1.2 4.8

2004 13.0 3.3 0.8 3.3 0.6 5.7

2005 9.3 5.1 1.5 1.9 n.d. 5.8

RICYT (2007) a The numbers for Costa Rica and Nicaragua are for 1993

Mexico, but above the rest of Central American countries. In Korea, the number was impressively higher: 2,914 patent applications per million people.17 In contrast to total patent applications, the number of patent applications by residents per million people decreased in Costa Rica, Guatemala and Mexico between 1990 and 2005; increased slightly in Honduras and Nicaragua, and soared in El Salvador (although starting from very low levels) (see Table 5). The average in Latin America and the Caribbean was 23.5, much higher than the average in CAM. The number of patent applications by residents per million people in Thailand in 2004 was 10.8, higher than in any CAM. In China, this indicator reached 5.1, similar to El Salvador. Korea again presented an outstanding number: 2,184.18 The comparison between the evolution of total patent applications and patent applications by residents sheds light on a central phenomenon that has taken place in CAM. The number of total patent applications has risen as a result of more applications by non-residents, but the number of applications by residents (per million people) has even declined. A higher presence of multinational enterprises in CAM and their greater concern to protect their intellectual
120

property explains greatly the increase in total patent applications. However, weak links between multinational enterprises and the local economy, as well as underdeveloped technological capabilities in the local economy, are associated with a poor performance of applications by residents. Lastly, Figure 3 shows total factor productivity (TFP) between 1990 and 2005. TFP is commonly used as a proxy of technical change, since it reflects the incorporation of new technologies aimed to generate new products and processes, improve quality and increase efficiency, among others (OECD, 2001). Between 1990 and 2005, TFP increased only in Costa Rica (see Figure 3), and did so at an annual average growth rate of 0.56%. In El Salvador, the annual average growth rate was 0.19%, 0.53% in Guatemala, 0.22% in Honduras, 0.52% in Nicaragua and 0.64% in Mexico. In the United States, the main trade partner of CAM, TFP grew at 1.24% in the same period.19 Therefore, no CAM country reduced the productivity gap with the USA in the period studied. The results presented in this section show that in general the outstanding performance in terms of international trade and FDI attraction that CAM

110 (1990=100)

100

90

80 1990 1995 Costa Rica Nicaragua 2000 El Salvador Mexico 2003 Guatemala 2005 Honduras

Figure 3. CAM: total factor productivity, 19902005 (1990 = 100) Source: Authors' own elaboration based on ECLAC (2007a) and World Bank (2007a)

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700 600 500 400 300 200 100 0
95 94 96 97 90 98 99 00 19 20 19 19 03 91 01 04 20 92 93 02 19 20 19 19 19 19 19 19 20 20 20 05

Exports

FDI

Patents

TFP

Figure 4. CAM: exports and foreign direct investment versus technological capabilities, 19902005 (1990 = 100) Source: Own elaboration based on ECLAC (2007a), RICYT (2007) and World Bank (2007a) Note: FDI and patents growth correspond to a three-year moving average to smooth yearly fluctuation, which is common in those indicators

experienced between 1990 and 2005 did not correspond to similar behaviour in terms of technological capability building. Figure 4 draws the relationship between export and FDI growth on the one hand, and TFP and patents growth on the other.20 There was a strong correlation between FDI and export growth (0.97), since as said a large amount of FDI was oriented to export-intensive manufacturing industries. In contrast, patents granted to residents and TFP, two output-related indicators of technological capabilities, overall had negative growth in the period studied. The correlation between export growth and TFP and patent growth was 0.80 and 0.66, respectively, whereas the correlation between FDI growth and TFP and patent growth was 0.86 and 0.63, respectively. Finding a one-to-one positive relation between FDI and export growth, and technological capabilities was not expected, but at least a move in the same direction. However, there are differences among the countries studied. Costa Rica and Mexico were above the Latin American average, and experienced a significant growth in some indicators (for instance, productivity growth in Costa Rica and education expenditure in Mexico). Their better performance may be associated with higher technological capabilities at the start of the period, and consequently with more capabilities to take advantage of FDI inflows and international trade. On the other hand, only in some indicators were Costa Rica and Mexico above Asian countries with which they compete (China, Thailand and Malaysia), and they were clearly behind Korea, which has been widely studied as a successful case of indigenous technological capability building. The rest of the Central American countries (El Salvador, Guatemala, Honduras and Nicaragua) are below the

Latin American average and the Asian countries just mentioned in all indicators.
Science, technology and innovation policies in CAM

Fieldwork conducted by the authors in summer 2006 in the countries studied leads to the following findings regarding STI policies.21 First, STI policies in CAM followed a demand-led approach from the mid-1980s. These policies focused on tackling market failures, understanding technological learning as access to new information. State interference with market behaviour was minimised, and neutral and horizontal policies were implemented. Economic policies focused on trade and financial liberalisation and attraction of FDI as the main sources of technological learning. Imports of intermediate and capital goods, and technology licensing were seen as the main sources of technological knowledge. Second, all CAM countries had science and technology councils (and also ministries in Costa Rica and Guatemala). Yet these organisations, in general, did not have economic and human resources to coordinate and implement far-reaching policies. Often, part of their personnel and projects was funded by international loans and aid, and therefore their

Reaping the benefits from international trade and foreign direct investment is not an automatic process and depends as well on local efforts

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activities depended on the availability of such funds. In addition, these organisations lacked political power to mobilise and manage resources from the national budget, and to coordinate the activities of all other public agencies regarding STI. Third, only three CAM countries (Costa Rica, Guatemala and Mexico) had a Law and National Plan of Science and Technology in 2006. Yet those laws and plans were not closely integrated into a broader national strategy of economic development. Consequently, export promotion and FDI attraction were not coordinated with STI policies. In effect, the maquiladora industry was seen mainly as a mechanism of foreign exchange and employment generation, and hardly as a source of technology transfer and local industrial development (Buitelaar and Padilla-Prez, 2000). They were not coordinated either with initiatives administered by other ministries, such as support to small- and medium-sized firms or training programmes for the industry. Since the mid-1980s, CAM countries have been very active in improving market access to their exports and creating fiscal schemes to attract FDI. This, along with special access to the US market, spurred rapid growth of exports, mainly through maquila-type industries. However, complementary policies to strengthen local capabilities to exploit the benefits arising from growing international trade and the presence of MNEs were weak or even nonexistent in some countries. Except for Costa Rica, CAM did not followed an active and selective FDI attraction policy, that is, they did not conduct focused efforts to attract specific firms that offer higher potential of development for the host region (e.g. in terms of technology transfer and backward linkages) (ECLAC, 2006). In addition, their efforts to strengthen the integration of MNEs into the rest of the local economy, through stronger backward linkages and more technology transfer, were limited. Fourth, financial resources to fund STI activities were channelled mainly through demand-driven funds. These funds followed a horizontal approach based on the evaluation of proposals and applications directly presented by prospective recipients (enterprises or research centres). This kind of system benefits pro-active agents who already have some technological capabilities, while more technologically backward agents face higher barriers to participate (Cimoli et al, 2005). Initiatives to articulate different components of the innovation system (firms, universities, research centres, public sector, etc.) were scant or non-existent. Conclusions Over the last 15 years, CAM exports and inward FDI flows grew significantly. Manufacturing exports, and in particular those from the maquiladora industry, were at the centre of this expansion. Yet technological capabilities were not strengthened

in the same period. Finding a linear or one-to-one relationship was not expected, but at least a move in the same direction. The analysis of the empirical evidence, in the light of the three streams of literature presented in the second section of this paper, helps explain why there was no positive relationship between international trade and FDI, and technological capability building. Following a demand-led approach, the impressive export and import growth, structural change in trade patterns and inward FDI flows did not translate into more advanced technological capabilities due to the following factors: Poor linkages between the export sector and the rest of the local economy; Participation in the less knowledge-intensive links of the value chain (assembly and manufacturing); Weak technological capabilities of CAM, previously and during the implementation of the new economic model; Reduced efforts of local actors to take advantage of the opportunities offered by international trade and FDI, in particular a weak STI policy, among others. Therefore, in contrast to the demand led-approach, technological capabilities are not built effortlessly and immediately, and technology does not spill over freely to the host economy. As for the supply-led approach, in CAM exports of medium- and high-technology manufacturing goods are not explained by advanced technological capabilities, that is, differences in technological capabilities are not a fundamental factor in explaining the differences in international trade patterns. CAM countries, in general, participate in labour-intensive links of the value chain, therefore exports of medium- and high-technology goods have not been supported by strong technological capabilities, but by MNEs that keep knowledge-intensive activities in their home countries or in other developed countries. According to the evolutionary approach, the relationship between international trade and FDI, and technological capabilities, depends on several factors, such as indigenous technological capabilities previous to opening up to international trade and FDI; national efforts to absorb foreign knowledge transferred through imports, exports and FDI; and production and technological characteristics of the activities undertaken by MNEs. International trade and FDI may provide developing countries with an opportunity to engage in a virtuous circle of capability building. However, to take advantage of that opportunity, countries must engage in long-term investments. It will be hard for CAM to attract large amounts of FDI in knowledge-intensive activities without increasing efforts to develop indigenous technological capabilities which are crucial for that type of foreign investment.

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Likewise, reaping the benefits from international trade and FDI attraction is not an automatic process and depends as well on local efforts. In this line, Costa Rica and Mexico showed a better performance, in terms of technological capabilities, than the rest of CAM. These two countries have also been able to attract FDI and export goods in high- and medium-technology industries. Their technological capabilities previous to the arrival of export-oriented FDI have been crucial to attract more complex industries, but also to reap some benefits offered by trade openness. STI policies in CAM have followed a demand-led approach since the mid-1980s, focusing on tackling market failures and considering economic liberalisation and trade openness as the main sources of technological learning. Public agencies responsible for STI policies have reduced political power to mobilise and manage resources, and to coordinate the activities of all other public agencies. Their national plans of science and technology were not a central and integrated component of a broader national strategy of economic development. Moreover, trade liberalisation and FDI attraction were not accompanied by active STI policies to strengthen local capabilities. In summary, the demand-led approach towards the relationship between international trade and FDI, and technological capabilities, has ruled STI policies in CAM since the mid-1980s. FDI and international trade were seen as sufficient elements, and even as substitutes, to local efforts to develop technological capabilities, and not as complements. The case of CAM, dominated by the maquiladora industry, shows that technological capability building cannot be derived exclusively from the world market.

6. 7. 8. 9.

10. 11. 12.

13. 14. 15.

16.

17. 18. 19.

in 2008 Central American countries were negotiating an association agreement with the European Union. CBI was initially launched in 1983 through the Caribbean Basin Economic Recovery Act, and was expanded in 2000 through the USCaribbean Basin Trade Partnership Act. It includes Brazil, Argentina, Uruguay and Paraguay. Authors own elaboration based on World Bank (2007a). Mexicos share in total CAM trade is enormous, so it determines the shape of Figure 2 for CAM total exports and its corresponding weight on GDP. For this reason, Figure 2 presents Central America, Mexico and CAM data separately. In Mexico, the maquiladora program was launched in 1965. In Central America, the first free zones were established during the 1970s. See Ernst and Kim (2001); Sturgeon (2002); and Ernst and Lthje (2003) for further details on global value chains. In CAM, only Mexico conducts a National Innovation Survey and most countries do not undertake a periodic and systematic effort to collect science and technology indicators. For further details on the lack of indicators related to technical change in Latin America, see Lugones et al (2007). See Patel and Pavitt (1995) and Lugones et al (2007) for more details on the difference between output and effort indicators. Only this period is analysed due to lack of information for the whole period studied. The source of the data on Asia is World Bank (2007a). It corresponds to the most recent available information: 2004 for China, 2003 for Korea and Thailand, and 2002 for Malaysia. Patents, as an indicator of technical change, may have some shortcomings to assess technical change in developing countries, since these carry out mainly incremental innovations on the one hand, and on the other patents are a costly and time-consuming business. However, they are probably the most commonly used indicator to assess technical change. See Patel and Pavitt (1995). The source of the data on Asia is World Bank (2007a). There is no available information for Malaysia. The source of the data on Asia is World Bank (2007a). There is no available information for Malaysia. To estimate total factor productivity, the following methodology was followed: TFPt / TFPt1 = (YLt/ YLt1 KLt/KLt1);

Acknowledgments
The authors want to thank Juan Carlos Moreno-Brid, Sarah Gammage and Matthew Hammill for their valuable comments on earlier versions of this paper. We would like to thank Jess Santamara for his support in the quantitative analysis. We are grateful to the anonymous referees for their very valuable comments. The usual disclaimers apply.

where TFP is total factor productivity; Y is gross domestic product and K is gross capital formation (both at constant prices); and L is employment. Data on Y and K were obtained from World Bank (2007a). Data on L were obtained from ECLAC (2007a). was estimated through ordinary least squares, where YL (outputlabour ratio) was a function of KL (capitallabour ratio). 20. As mentioned, there is a significant lack of long and consistent data on technical change, as well as a reduced availability of science and technology indicators in the countries studied. An exhaustive effort to collect long series was made using national and international sources, but it was not possible to find data needed to carry out statistic analyses such as cointegration or econometric regressions. 21. All CAM countries were visited and interviews with representatives from public and private sectors and with academia were conducted.

Notes
1. The Central American countries are Costa Rica, El Salvador, Guatemala, Honduras and Nicaragua. Panama is not included in the analysis since it followed a different path, more oriented towards services and a limited presence of maquila. In Costa Rica, El Salvador and Nicaragua, it comprises free trade zones and temporal admission; in Guatemala, free zones and maquila; in Honduras, free zones, temporal admission and processing industrial zones; and in Mexico, the manufacturing, maquiladora and services export industry. See Padilla et al (2008) for a discussion of the concept of maquiladora industry. For further details on regional integration, see Schatan et al (2007). For instance, roasted coffee and sugar (from cane). Trade negotiations have continued after 2005. For instance,

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