Economic development is a process of structural transformation coupled with continuous technological innovation and industrial upgrading leading to increases in labor productivity, improvements in infrastructure and institution and the reduction of transaction costs. The middle-income trap occurs due to the failure of middle-income countries to keep abreast with labor productivity growth through technological innovation and industrial upgrading.
Industrial policy is therefore essential for the governments of middle-income countries for prioritizing the use of its limited resources to facilitate technological innovation and industrial upgrading. The industries in a middle-income country may be classified into five different types, depending on their distance to the global technology frontier: catching-up industries, leading-edge industries, comparative advantage-losing industries, short innovation cycle industries, and comparative advantage-defying strategic industries. An effective industrial policy should be designed around these issues.
