Industrial Policy Cuts Two Ways: Evidence from Cotton Spinning Firms in Japan, 1956–1964*

A number of studies have revealed that the effect of industrial policy on productivity growth is negative. Is this because industrial policy fails to control the activities of firms, or because it can effectively control them? This paper attempts to answer these questions, using firm-level data from the cotton spinning industry in Japan for the period 1956–64. It has been determined that industrial policy cut two ways during this period. Industrial policy effectively controlled the output of cotton spinning firms, which contributed to the establishment of a stable market structure during the period. On the flip side, such policy constrained the reallocation of resources from less productive large firms to more productive small firms. Combined with the negative productivity growth in large firms during this period, industrial policy resulted in negative industry productivity growth