A Strategy for Sustaining Growth and Prosperity for Peru

Professor Michael E. Porter Harvard Business School Urubamba, Peru November 12, 2010
This presentation draws on ideas from Professor Porter’s books and articles, in particular, Competitive Strategy (The Free Press, 1980); Competitive Advantage (The Free Press, 1985); “What is Strategy?” (Harvard Business Review, Nov/Dec 1996); “Strategy and the Internet” (Harvard Business Review, March 2001); and a forthcoming book. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of Michael E. Porter. Additional information may be found at the website of the Institute for Strategy and Competitiveness, www.isc.hbs.edu. Version: November 27, 2009
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Copyright 2010 © Professor Michael E. Porter

Recent Performance of the Peruvian Economy
• Peru has been one of the most remarkable economic growth stories of the last decade, both compared to its own historic record and to its peers

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Copyright 2010 © Professor Michael E. Porter

Peru’s Prosperity Performance
GDP per Capita (in 1990 PPP US$)

1950-2009
CAGR: CAGR: - 0.73% CAGR: +4.41%

$6,000

+2.07%

$5,000

$4,000

$3,000

$2,000

$1,000

$0
1950 1955 1960 1965 1970 1975
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1980

1985

1990

1995

2000

2005

2009

Note: PPP using Geary Khamis calculation methodology. Source: Groningen Growth and Development Centre, Total Economy Database (June 2009)

Prosperity Performance
PPP-adjusted GDP per Capita, 2009 ($USD) $ 20,000 $ 18,000 $ 16,000 $ 14,000 $ 12,000
Brazil Mexico Malaysia Chile Panama Russia Argentina Uruguay

Selected Countries, 1999 to 2009

United States ($46,460) Canada ($37,840)

Trinidad & Tobago Venezuela Dominican Republic

$ 10,000 $ 8,000 $ 6,000
Jamaica

Costa Rica Belize

Guatemala Colombia Thailand Ecuador

Cuba

Peru
China

El Salvador Bolivia Paraguay Nicaragua Honduras Philippines Indonesia Laos India Vietnam Cambodia

$ 4,000 $ 2,000 $0 0% 2%

Haiti

4%

6%

8%

10%

12%

14%

Growth of Real GDP per Capita (PPP-adjusted), CAGR, 1999 to 2009
Source: EIU (2010), authors calculations
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Recent Performance of the Peruvian Economy
• • Peru has been one of the most remarkable economic growth stories of the last decade, both compared to its own historic record and to its peers Sound macroeconomic policies since the mid 1990s, trade opening and a supportive international economic environment have allowed the country to prosper

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Copyright 2010 © Professor Michael E. Porter

Export Intensity
Exports as % GDP, 2009 80%
Trinidad & Tobago

Selected Countries

70%

Panama

Thailand Vietnam

60%
Belize

50%
Honduras Costa Rica Cambodia Chile

Paraguay

40%

Bolivia Nicaragua

30%

Canada Russia

Jamaica

Ecuador Mexico

China Uruguay

Peru
Guatemala Colombia Cuba Brazil India Argentina

20%

Dominican Republic

Indonesia

El Salvador Venezuela

10%

Haiti

USA

0% -20%

-15%

-10%

-5%

0%

5%

10%

15%

20%

25%

Change of Exports as Share of GDP, 1999 to 2009
Source: EIU (2010)
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Recent Performance of the Peruvian Economy
• • • Peru has been one of the most remarkable economic growth stories of the last decade, both compared to its own historic record and to its peers Sound macroeconomic policies since the mid 1990s, trade opening and a supportive international economic environment have allowed the country to prosper Improvements in basic security and political stability provided an important precondition for these achievements HOWEVER • Growth has been highly heterogeneous across different segments of society and different parts of the country

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Copyright 2010 © Professor Michael E. Porter

Unemployment Performance
Unemployment Rate, 2009 16%

Selected Countries
Improving Deteriorating
Dominican Republic Jamaica

14%

12%

Colombia India

10%
Ecuador Venezuela Brazil Russia Uruguay Nicaragua Panama Trinidad & Tobago

Chile Argentina Philippines

China

United States

Peru

Canada Bolivia

8%

6%

Costa Rica Indonesia El Salvador Paraguay Vietnam Mexico

4%
Honduras

Malaysia

2%

Cuba

Thailand

0% -10%

-8%

-6%

-4%

-2%

0%

2%

4%

6%

Change of Unemployment Rate in Percentage Points, 1999-2009
Source: EIU (2010)
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Poverty Rates
% of Population Under the Poverty Line

Peru, 2001 to 2009

60%

50%

40%

30%

20%

10%

0% 1997

1998

1999

2000

2001

2002

2003
9

2004

2005

2006

2007

2008

2009

Source: Informacion Socio Demografica, from El Instituto Nacional de Estadistica e Informatica (INEI), 2010

Regional Poverty Rates
Peru, 2004 to 2009
% of Population Under the Poverty Line

Coast

Sierra

Lowlands

70%

60%

50%

40%

30%

20%

10%

0% 2004 2005 2006 2007
10

2008

2009

Source: Informacion Socio Demografica, from El Instituto Nacional de Estadistica e Informatica (INEI), 2010

Recent Performance of the Peruvian Economy
• • • Peru has been one of the most remarkable economic growth stories of the last decade, both compared to its own historic record and to its peers Sound macroeconomic policies since the mid 1990s, trade opening and a supportive international economic environment have allowed the country to prosper Improvements in basic security and political stability provided an important precondition for these achievements HOWEVER • • Growth has been highly heterogeneous across different segments of society and different parts of the country Lack of diversification and dependence on global commodity markets for natural resources is exposing Peru to high levels of volatility

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Copyright 2010 © Professor Michael E. Porter

Exports as % GDP, 2009 140

Export Intensity and Size
Selected Countries
Malaysia

120

100

80
Trinidad and Tobago

60

Panama Paraguay Costa Rica Honduras Bolivia Ecuador Uruguay El Salvador Guatemala Haiti Dominican Republic

40

Chile Mexico Argentina Canada Russia India

Peru

China

20

Venezuela, RB Indonesia Colombia

Brazil

United States

1
Source: World Bank (2010)

10

100
12

1,000

10,000

GDP $Billions, 2009 (log scale)

Peru’s Export Composition
by SITC categories 1962-2009

1962: $4 billion*
Crude materials, inedible, except fuels Food and live animals

2009: $20 billion

Manufact goods classified chiefly by material Mineral fuels, lubricants and related materials Manufactured articles

Chemicals

Machinery and transport equipment Animal and vegetable oils and fats

* In 2009 dollars. Note: Showing standard SITC rev. 1 categories, goods only. 13 Source: UN Comtrade; authors’ analysis

Peru’s Exports By Type of Industry
World Export Market Share (current USD)

0.90% 0.80% 0.70% 0.60% 0.50% 0.40% 0.30% 0.20% 0.10% 0.00% 1997

Processed Goods Semi-processed Goods Unprocessed Goods Services TOTAL

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

Source: Prof. Michael E. Porter, International Cluster Competitiveness Project, Institute for Strategy and Competitiveness, Harvard Business School; Richard Bryden, Project Director. Underlying data drawn from the UN Commodity Trade Statistics Database and the IMF BOP statistics. 14

Recent Performance of the Peruvian Economy
• • • Peru has been one of the most remarkable economic growth stories of the last decade, both compared to its own historic record and to its peers Sound macroeconomic policies since the mid 1990s, trade opening and a supportive international economic environment have allowed the country to prosper Improvements in basic security and political stability provided an important precondition for these achievements HOWEVER • • • Growth has been highly heterogeneous across different segments of society and different parts of the country Lack of diversification and dependence on global commodity markets for natural resources is exposing Peru to high levels of volatility Sustained growth will depend on broad microeconomic and institutional improvement

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Copyright 2010 © Professor Michael E. Porter

Inbound Foreign Investment
Inbound FDI Stocks as % of GDP, Average 1998-2008 90%
Trinidad and Tobago

Stocks and Flows, Selected Countries

80% 70% 60% 50% 40% 30% 20% 10% 0% 0%
Cuba India Haiti Venezuela Ecuador Guatemala Paraguay Indonesia China Mexico Malaysia Thailand Laos Argentina Nicaragua Cambodia Vietnam Panama Jamaica Chile Bolivia Belize

Canada Honduras Costa Rica El Salvador Brazil Uruguay Dominican Republic

Russia Philippines

Peru
Colombia

United States

5%

10%

15%

20%

25%

30%

35%

40%

45%

FDI Inflows as % of Gross Fixed Capital Formation, Average 1998 - 2008
Source: UNCTAD, World Investment Report (2009).
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Innovative Capacity
Average U.S. patents per million population, 2005 – 2009

Innovation Output of Selected Countries

3.5
Croatia

3.0

Estonia

2.5

2.0
Lithuania

South Africa

Greece

1.5

Russia

United Arab Emirates Portugal Argentina Chile Latvia Uruguay China Costa Rica

1.0
Mexico

Saudi Arabia

Poland Brazil

India

0.5

Peru
0.0 -30%
Source: USPTO, World Bank

Ukraine Venezuela Kazakhstan Philippines Colombia Egypt Ecuador Kenya

Thailand

Turkey

-20%

-10%

0%
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10%

20%

CAGR of US-registered patents, 2005 – 2009

30% 40% 170 patents =

Recent Performance of the Peruvian Economy
• • • Peru has been one of the most remarkable economic growth stories of the last decade, both compared to its own historic record and to its peers Sound macroeconomic policies since the mid 1990s, trade opening and a supportive international economic environment have allowed the country to prosper Improvements in basic security and political stability provided an important precondition for these achievements HOWEVER • • • • Growth has been highly heterogeneous across different segments of society and different parts of the country Lack of diversification and dependence on global commodity markets for natural resources is exposing Peru to high levels of volatility Sustained growth will depend on broad microeconomic and institutional improvement Among the biggest challenges for the country are complacency after years of solid growth and the relatively mild impact of the global economic crisis

• •

Sustaining economic growth of 8 to 9% is possible only if Peru can substantially improve competitiveness Peru will need an ambitious economic and social strategy, building on the country’s unique competitive advantages
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Copyright 2010 © Professor Michael E. Porter

The Need for a Peruvian Economic Strategy

• Strategy means focus: Peru can not improve everything at the same time but need to prioritize the most pressing issues • Strategy means choice: Peru can not be good at everything but needs to define how existing strengths are to be deepened and broadened to provide specific value to businesses • Strategy means action: Peru does not need another plan but an action agenda that drives change through a process and institutional structure focused on implementation

• Peru needs to build a broad consensus on its strengths across society

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Structure of the Project
Advisory Board Joint Peruvian and Boston Team Macroeconomic Competitiveness Group
•Tax Reform •Security •Health Reform

Business Environment Group
•Education •Financial •Innovation •Infrastructure •Labor •Energy •Water Resources

Cluster Development Group
•Metal-Mechanic Cluster

Organizational Structure Group
•Institutional Strengthening

•Ease of Doing Business

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Executive Opinion Survey
• Survey conducted between May 18 and July 8, 2010 • Surveyed senior executives including presidents, CEOs and other C-level managers • Lima companies above $1 million in sales • Other cities companies above $500,000 in sales City Lima Arequipa Chiclayo Cusco Trujillo Iquitos TOTAL Sample Size 160 80 80 80 80 71 551

What is Competitiveness?
• Competitiveness depends on the productivity with which a nation uses its human, capital, and natural resources.
– Productivity sets the sustainable standard of living (wages, returns on capital, returns on natural resources) – It is not what industries a nation competes in that matters for prosperity, but how productively it competes in those industries – Productivity in a national economy arises from a combination of domestic and foreign firms – The productivity of “local” or domestic industries is fundamental to competitiveness, not just that of export industries

• Only competitive businesses can create wealth and jobs • Nations compete to offer the most productive environment for business • The public and private sectors play different but interrelated roles in creating a productive economy
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Copyright 2010 © Professor Michael E. Porter

Labor Productivity
Selected Countries, 1999 to 2009
Real GDP per employee (PPP adjusted US$), 2009 $120,000

UnitedStates

$100,000

$80,000
Canada

$60,000

Mexico

$40,000
Argentina Uruguay Chile Brazil Bolivia Philippines Colombia

Malaysia Venezuela

Russia

Peru
Indonesia China

$20,000

Ecuador Thailand

$0 -2%

India Vietnam Cambodia

0%

2%

4%

6%

8%

10%

12%

Growth of real GDP per employee (PPP-adjusted), 1999 to 2009
Source: authors calculation Groningen Growth and Development Centre (2010)
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Copyright 2010 © Professor Michael E. Porter

Determinants of Competitiveness
Microeconomic Competitiveness
Quality of the National Business Environment State of Cluster Development Sophistication of Company Operations and Strategy

Macroeconomic Competitiveness
Social Infrastructure and Political Institutions Macroeconomic Policies

Endowments

• Macroeconomic competitiveness creates the potential for high productivity, but is not sufficient • Productivity ultimately depends on improving the microeconomic capability of the economy and the sophistication of local competition
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Copyright 2010 © Professor Michael E. Porter

Peru's Endowments

Natural Resources

•Rich endowment of minerals, fishing resources, forest resources, and fertile land •Unique environment for fishing resources •One of the largest concentrations of tropical rainforests in the world •70 percent of the world's biodiversity •The Amazon region represents an untapped treasure •Location in the central zone of South America, on the Pacific coast •Shares a border with Brazil, the largest market in South America. •Access to the Pacific Ocean and to the Atlantic Ocean through the Amazon River •Long coastline that extends 1,914 miles along the Pacific Ocean •Natural conditions to develop large and efficient ports

Geographic Location

Cultural Legacy

•Deep historical roots with ancient cultures •Rich ethnic and cultural diversity •Great variety of archeological sites. Machu Picchu is recognized as one of the wonders of the world •Commitment to work, creativity, and entrepreneurial spirit of Peruvians

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Determinants of Competitiveness
Microeconomic Competitiveness
Quality of the National Business Environment State of Cluster Development Sophistication of Company Operations and Strategy

Macroeconomic Competitiveness
Social Infrastructure and Political Institutions Macroeconomic Policies

Endowments

• Macroeconomic competitiveness creates the potential for high productivity, but is not sufficient • Productivity ultimately depends on improving the microeconomic capability of the economy and the sophistication of local competition
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Copyright 2010 © Professor Michael E. Porter

Macroeconomic Competitiveness
Social Infrastructure and Political Institutions
• • Human development
– – Basic education Health system

• •

Macroeconomic Policies
Fiscal policy
– – Government surplus/deficit Government debt

Political institutions
– – – – – Political freedom Voice and accountability Political stability Government effectiveness Centralization of economic policymaking

Monetary policy
– Inflation

Rule of law
– – – – – Security Judicial independence Efficiency of legal framework Business costs of corruption Civil rights

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Competitiveness and Poverty Reduction

Economic Development

Social Development

• There is a strong connection between economic and social development • Improving competitiveness and decreasing poverty requires improving the economic and social context simultaneously

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Copyright 2010 © Professor Michael E. Porter

Determinants of Competitiveness

Microeconomic Competitiveness
Quality of the National Business Environment State of Cluster Development Sophistication of Company Operations and Strategy

Macroeconomic Competitiveness
Social Infrastructure and Political Institutions Macroeconomic Policies

Sophistication of Company Operations and Strategy
• The internal skills, capabilities, and management practices needed for companies to attain the highest level of productivity and innovation possible

Endowments

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Copyright 2010 © Professor Michael E. Porter

Determinants of Competitiveness

Microeconomic Competitiveness
Quality of the National Business Environment State of Cluster Development Sophistication of Company Operations and Strategy

Quality of the National Business Environment
• The external business environment conditions that allow companies to reach high levels of productivity and innovation

Macroeconomic Competitiveness
Social Infrastructure and Political Institutions Macroeconomic Policies

Endowments

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Copyright 2010 © Professor Michael E. Porter

Quality of the National Business Environment
Context for Firm Strategy and Rivalry
• Local rules and incentives that encourage investment and productivity  Open and vigorous local competition

Factor (Input) Conditions
• Access to high quality business inputs

Demand Conditions

• Sophisticated and demanding local customers and needs

Related and Supporting Industries
• Availability of suppliers and supporting industries

• Many things matter for competitiveness • Successful economic development is a process of successive upgrading, in which the business environment improves to enable increasingly sophisticated ways of competing
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Copyright 2010 © Professor Michael E. Porter

Determinants of Competitiveness

Microeconomic Competitiveness
Quality of the National Business Environment State of Cluster Development Sophistication of Company Operations and Strategy

Macroeconomic Competitiveness State of Cluster Development
• A geographic concentration of firms, specialized assets, and institutions in particular fields.
Social Infrastructure and Political Institutions Macroeconomic Policies

Endowments

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Copyright 2010 © Professor Michael E. Porter

Cusco Tourism Cluster
Institutions for Collaboration

Travel Agents
Marketing Agencies Food Suppliers

Tour Operators

Local retail and other services (Internet cafes, etc.)

Restaurants
Property Services

Attractions and activities
(e.g. National Parks, cultural shows)

Restoration/ conservation

Crafts

Maintenance Services Hospitality equipment suppliers

Accommodations

Transport

(hotels, hostels, lodges) (land, air, rail and river)

Banking Services / Foreign Exchange

Related clusters Food Cluster

Government Agencies

Educational and Research Institutions

Health Cluster
Source: Adapted from HBS student project, 2010 “Peru Tourism Cluster”; Agung, Anand, Bhardan, Ilanos, Nosher

Clusters and Competitiveness

• Clusters increase productivity and operational efficiency • Clusters stimulate and enable innovations • Clusters facilitate commercialization and new business formation

• Clusters reflect the fundamental influence of linkages and spill-overs across firms and associated institutions in competition

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Copyright 2009 © Professor Michael E. Porter

Clusters and Economic Diversification
Linkages Across Clusters
Fishing & Fishing Products Agricultural Products Processed Food Hospitality & Tourism Entertainment Textiles Prefabricated Enclosures

Transportation & Logistics

Furniture Building Fixtures, Equipment & Services Lightning & Electrical Equipment Power Generation Heavy Construction Services Forest Products Construction Materials

Jewelry & Precious Metals

Distribution Services Business Services

Aerospace Vehicles & Information Defense Tech.

Financial Services

Analytical Education & Instruments Knowledge Medical Creation Devices Communications Publishing Equipment & Printing Biopharmaceuticals Chemical Products

Heavy Machinery Motor Driven Products Production Technology

Tobacco Mining & Metal Automotive Aerospace Manufacturing Engines Sporting & Recreation Goods
Copyright 2009 © Professor Michael E. Porter

Apparel

Oil & Gas Plastics

Footwear

Leather & Related Products

Note: Clusters with overlapping borders or identical shading have at least 20% overlap 35 Competitiveness Master - 2009-04-20.ppt (by number of industries) in both directions.

Stages of National Competitive Development
Shifting Policy Imperatives

Factor-Driven Economy

InvestmentDriven Economy

InnovationDriven Economy

Low Cost Inputs
• Macro, political, and legal stability • Improving human capital • Efficient basic infrastructure • Lowering regulatory costs of doing business • • • •

Productivity
Increasing local rivalry Market opening Advanced infrastructure Incentives and rules encouraging productivity • Cluster formation and activation

Unique Value
• Advanced skills • Scientific and technological institutions • Incentives and rules encouraging innovation • Cluster upgrading

Source: Porter, Michael E., The Competitive Advantage of Nations, Macmillan Press, 1990
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Copyright 2010 © Professor Michael E. Porter

Macroeconomic Policy: Assessment
• Sound policies have allowed Peru’s fundamental macroeconomic stability to steadily improve over the past decade The implementation of the inflation-targeting framework has been successful in reducing inflation Peru's fiscal stabilization fund provided stability and allowed effective stimulus during the global crisis The economy continues to be highly dollarized with most credits denominated in dollars – About half of the banking system is currently dollarized and most commodity exports are priced in US-dollars BUT • Peru’s public finances remain overly dependent on commodities, with as much as one third of tax revenues coming from commodity-related sources Peruvian tax rates are high relative to peers Peru must set policies that ensured the responsible use of credit
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• •

Political Institutions: Assessment
Corruption • One of critical weaknesses constraining Peruvian development • High corruption is due to weak institutions, poor governance practices and the excessive influence of private interests • Corruption cases are usually not reported to authorities • The institutions perceived to be most corrupt are Congress, the political parties, the national police, and judicial institutions

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Rank in Global Corruption Index, 2009

Corruption Perception Index, 2009
Canada

Low corruption

Deteriorating
USA Chile Uruguay

Improving

Costa Rica

Cuba Brazil Trinidad and Tobago El Salvador Mexico

Peru, Colombia
China Panama India Guatemala

Dominican Republic Argentina Bolivia

High corruption

Nicaragua

Honduras

Russia Venezuela

Ecuador Paraguay

Change in Rank, Global Corruption Report, 2009 versus 2003
Note: Ranks only countries available in both years (131 countries total) Source: Global Corruption Report, 2009
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Copyright 2010 © Professor Michael E. Porter

Political Institutions: Assessment
Corruption • One of critical weaknesses constraining Peruvian development • High corruption is due to weak institutions, poor governance practices and the excessive influence of private interests • Corruption cases are usually not reported to authorities • The institutions perceived to be most corrupt are Congress, the political parties, the national police, and judicial institutions

Security • There has been a deterioration of the security situation, mainly due to the organized crime, illegal drug trade, terrorism and a general decline in public safety • The influence of drug traffickers is starting to penetrate institutions and the political system • Social unrest occurs most often in places where government institutions are weak

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Social Infrastructure: Assessment
Education • High formal enrollment but low quality • Weak infrastructure in the public school system • Curriculum is poorly structured, and one teacher must cover multiple grades Health • The health system continues to be characterized by generally low quality and high disparities in quality, particularly affecting the poor • “Poverty diseases” such as tuberculosis are still more prevalent than in peer countries • Health care spending in Peru remains the lowest among its Latin American peers • There is a mismatch between the supply and demand for health professionals

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Assessment: Peru’s Business Environment
Context for Firm Strategy and Rivalry
+ Openness to foreign investment, trade, capital flows + Improvements in investor protections Factor ± Efforts to strengthen competition Demand (Input) policy Conditions Conditions – Rigidity of employment – Difficulty in business formation – Low intensity of local competition – High Informality of the economy + Improving consumer protection Abundant resources: mineral, regulation agricultural, fishing, and cultural ± Improving sophistication of local buyers Advantageous location – Weak environmental standards Improving administrative infrastructure Related and enforcement Simplified customs procedures Supporting Sound banking system, but high interest Industries spreads Improving financial markets, but limited venture capital availability – Limited local suppliers and Poor physical infrastructure supporting industries Low skill levels in the labor force, – Shallow clusters mismatch with demand Weak university-industry research collaboration Few high-quality research and scientific institutions

+ + + + ± ± – – – –

Factor (Input) Conditions

Factor input conditions in Peru lag regional peers, particularly in physical infrastructure.

Administrative infrastructure • Peru has made important reforms in simplifying administrative procedures

Ease of Doing Business
South America, 2011
Venezuela: 172 Guyana: 100 Suriname: 161

Colombia: 39

Ecuador: 130

Peru: 36
Bolivia: 149

Brazil: 127

Paraguay: 106 Chile: 43 Uruguay: 124

Argentina: 115

Source: The World Bank, Doing Business (2011), 183 countries
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Ease of Doing Business
Ranking, 2011 (of 183 countries)

Peru, 2011
Favorable Unfavorable

120

100

Peru’s per capita GDP rank: 81

80

60

40

20

0
Ease of Doing Getting Credit Business Protecting Investors Registering Property Trading Across Borders Starting a Business Paying Taxes Closing a Business Dealing with Construction Permits Enforcing Contracts

Source: The World Bank, Doing Business (2011), GDP rank on GDP per capita, ppp-adjusted
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Copyright 2010 © Professor Michael E. Porter

Factor (Input) Conditions

Factor input conditions in Peru lag regional peers, particularly in physical infrastructure.

Administrative infrastructure • Peru has made important reforms in simplifying administrative procedures Physical infrastructure • While Peru has increased infrastructure investment in recent years, it lags in electrical generation capacity, telephone lines, and paved roads relative to its Latin American peers. Infrastructure services remain expensive Education and workforce skills • The education system produces comparatively few graduates in technical areas, engineering, and physical sciences • Peru is last in spending on education among its peers Financial system • Financial assets are highly concentrated. Four banks hold 83% of all bank loans –Borrowing costs are high –The Peruvian pension fund system is characterized by low participation Science and technology infrastructure • Peru’s science and technology infrastructure is very weak.

Context for Firm Strategy and Rivalry

Barriers to trade and investment have been reduced, but labor market efficiency and local rivalry remain limited

Foreign trade and investment policy • Since the early 1990s, Peru’s foreign trade and investment policy has been aimed at a process of deregulation and liberalization of the trade regime • Peru has signed a significant number of free trade agreements with several countries, such as the United States and China • However, investment flows (in and out) remain low in comparison with its neighbors Anti-trust policy • Peru has an advanced regulatory framework for antitrust. But, implementation is weak • Peru's domestic industries are highly concentrated, with evidence of oligopolistic practices and cartels • A high level of informality in the economy eases counterfeiting and money laundering

Labor market • Peru’s labor market is highly rigid, ranked by the World Bank as 149 out of 181 economies. There is no unified labor code in Peru • High non-wage labor costs deter formal job creation

Demand Conditions

Peruvian consumer sophistication is increasing. Consumer protection and environmental regulations are in place but not well enforced

Local demand sophistication
Economic growth has led to the emergence of a new middle class that has access to consumer credit, has become aware of new products and brands, and demands quality

Quality and environmental standards
Regulations exist to protect quality, health, safety, and environmental standards, but there is no mechanism to enforce these regulations or the consumer code. And, in practice, the large informal sector operates outside of these protections

Related and Supporting Industries

Availability of suppliers and supporting industries remains low, and Peruvian clusters are shallow

Export industries
• Peru’s exports are highly concentrated on natural resource-based products. These activities are not well integrated into the local economy and have not generated local upstream and downstream industrial activities

Presence of suppliers
• There is a lack of local suppliers of machinery, equipment and services. Most e products and services are imported • Local production of inputs and machinery is in its infancy and cannot support advanced export-oriented companies

Cluster Development
• Nascent clusters are present, but there are few cluster initiatives.. • There is a poor tradition of collaboration between the government and the private sector in the area of cluster development

Peru’s National Export Portfolio
1997 to 2009
2.5%
Change In Peru’s Overall World Export Share: +0.09%

Jewelry and Precious Metals

2.0%
Peru’s world export market share, 2009

1.5%

Metal, Mining and Manufacturing

1.0%

Agricultural Products

Fishing and Fishing Products

0.5%
Financial Services Communications Services Apparel Hospitality and Tourism Publishing and Printing Peru’s Average World Export Share: 0.22%

0.0% -0.5%

0.0%

0.5%

1.0%

1.5%
Exports of US$2 Billion =
Copyright 2010 © Professor Michael E. Porter

Change in Peru’s world export market share, 1997 to 2009
Source: Prof. Michael E. Porter, International Cluster Competitiveness Project, Institute for Strategy and Competitiveness, Harvard Business School; Richard Bryden, Project Director. Underlying data drawn from the UN Commodity Trade Statistics Database and the IMF BOP statistics. 50

Peru’s National Export Portfolio
1997 to 2009
0.14%
Transportation and Logistics Oil and Gas Products and Services

0.12%
Peru’s world export market share, 2009
Furniture Textiles

0.10%
Chemical Products

Construction Materials Processed Food

0.08%
Plastics

0.06%

Leather and Related Products

Forest Products

0.04%
Business Services Biopharmaceuticals Building Fixtures and Equipment Motor Driven Products Heavy Machinery

0.02%

Footwear Power and Power Generation Equipment Prefabricated Enclosures and Structures Production Technology Communications Equipment Automotive

0.00% -0.02%

-0.01%

0.00%

0.01%

0.02%

0.03%

0.04%

0.05%

0.06%

0.07%

0.08%

Change in Peru’s world export market share, 1997 to 2009

Exports of US$2 Billion =
Copyright 2010 © Professor Michael E. Porter

Note: Showing clusters with greater than $10 mil exports. 51 Source: Prof. Michael E. Porter, International Cluster Competitiveness Project, Institute for Strategy and Competitiveness, HBS; Richard Bryden, Project Director.

Share of World Exports by Cluster
World Market Share 0.2% - 0.5% 0.5% - 1.0% 0.95% - 1.9%
Fishing & Fishing Products Entertainment Textiles Prefabricated Enclosures

Peru, 2008
Hospitality & Tourism Agricultural Products Transportation & Logistics Aerospace Vehicles & Information Defense Tech.

Furniture Building Fixtures, Equipment & Services Lightning & Electrical Equipment Power Generation Construction Materials Heavy Construction Services Forest Products

Processed Food Jewelry & Precious Metals Business Services

Distribution Services

Financial Services

Analytical Education & Instruments Knowledge Medical Creation Devices Communications Publishing Equipment & Printing Biopharmaceuticals Chemical Products Oil & Gas

Motor Driven Products Tobacco

Heavy Machinery

Production Technology Automotive

Apparel Leather & Related Products

Plastics

Aerospace Mining & Metal Engines Manufacturing

Footwear

Sporting & Recreation Goods
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Marine Equipment

Note: Clusters with overlapping borders have at least 20% overlap (by number of industries) in both directions.
Copyright 2010 © Professor Michael E. Porter

Specialization in Peru’s Regions
Selected Examples
Piura Agricultural Products: Mangoes, Lemons, Brown Sugar Syrup Cajamarca (Bambamarca) Dairy, Processed Foods La Libertad (El Porvenir, Trujillo) Leather, Footwear

Ancash (Chimbote) Fishing and Fish Products Lima (Infantas, Los Olivos) Metal Manufacturing, Metal Furniture Lima (La Victoria) Apparel Ica Wine Cuzco Tourism Puno and Arequipa Apparel from Alpaca
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Assessment: Peruvian Clusters
• Peru’s current clusters are based heavily on natural endowments, and have much room for further upgrading • Regions such as the Cajamarca, Arequipa, and Moquegua have concentrations in mining, but the clusters are mostly shallow with weak linkages between firms and local suppliers and experiencing significant technological bottlenecks • In the main cities of Peru there are some emerging clusters consisting largely of small firms • Peru’s clusters have weak suppliers and few supporting institutions • There is a weak institutional capacity in the regions hampering the development of clusters • There is a limited tradition of collaboration among actors for regional development
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Cluster Development Programs in Peru
• There are some encouraging programs, such as the CITEs • Support programs for cluster development have limited resources and scope, and have been directed toward SMEs • Cluster development have been supported primarily multilaterals and international cooperation agencies • Programs were driven centrally without building capacity at the regional level • Programs have failed to create permanent institutions and sustainable processes of collaboration amongst key actors such as local governments, academic institutions, training centers, private sector and relevant institutions for collaboration

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Creating and Economic Strategy
National Value Proposition
• What is the distinctive competitive position of Peru given its location, legacy, existing strengths, and potential strengths?
– What unique value as a business location? – For what types of activities and clusters? – And what roles with neighbors, the region, and the broader world?

Developing Unique Strengths
• What elements of the business environment can be unique strengths relative to peers/neighbors? • What existing and emerging clusters represent local strengths?

Achieving and Maintaining Parity with Peers
• What weaknesses must be addressed to remove key constraints and achieve parity with peer countries?

• Priorities and sequencing are necessity in economic development
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Role of a National Value Proposition

• The value proposition should be an inspiration to the Peruvian population

• The value proposition is a signal to companies from abroad and at home about what assets and conditions can expect to find in Peru

• The value proposition is a signal to policy makers in Peru of what type of improvements are most critical in order to make the value proposition a reality

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Peru's Competitiveness Strategy

National Value Proposition

Goals

Action Agenda

Implementation Plan

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Towards a Peruvian Value Proposition

What is Unique about Peru?

ENDOWMENTS
• Abundant natural resources • Central location in South America • Vast biodiversity and ecosystems

BUSINESS ENVIRONMENT
• Privileged access to foreign markets • Open to FDI and capital flows

PEOPLE AND CULTURE
• Rich culture and history • Creative and entrepreneurial population • Young, hardworking population • Legacy of domestic cooperation to overcome obstacles

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Towards a Peruvian Value Proposition

A secure, neutral and peaceful country Enhanced the Sophistication of Endowment Related Exports Dynamic regional development with vibrant clusters

Preserving Natural and Cultural Resources

A hub for trade between Latin America, Asia, and North America

Improve Cross-Cutting Policies
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National Value Proposition: A secure, neutral and peaceful country
Peace and neutrality in Peru have been crucial to the good economic performance of the last two decades, but Peru remains at risk of deteriorating security.

Reduce corruption to fight informality and inequality Empower security institutions and foster links with local communities

A secure, neutral and peaceful country

Break the cycle of drug trafficking and insurgency Develop regional clusters to generate a stronger link between the growth process and new employment

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National Value Proposition: Utilizing Endowments
Peru’s endowments have attracted significant interest from foreign and domestic investors already in the past. Peru must create higher value from its endowments driven clusters. •Provide highly efficient infrastructure and an efficient regulatory environment to make Peru one of the most productive locations for accessing natural resources •Ensure that regulatory conditions enable endowments to be used in ways that are ecologically and culturally sustainable •Upgrade and deepen clusters drawing on Peru's endowments and develop suppliers, services and related clusters

Enhanced the Sophistication of Endowment Related Exports

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National Value Proposition: A Trade Hub
Peru’s geographic location, its array of free trade agreements, and its macroeconomic and political stability make it a natural hub for trade between Latin America, North America, and Asia

Maintain and extend low trade barriers
A hub for trade between Latin America, Asia, and North America

Improve the efficiency and quality of trade enabling regulation and infrastructure. Mobilize and develop clusters of trade related services including logistics and finance

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National Value Proposition: Decentralization
Peru’s development remains highly heterogeneous across different parts of the country. The emergence of a larger middle class remains limited to a few regions in the country. Sustained growth can only be achieved if all subnational regions develop by upgrading their competitiveness.

Build unique regional economies based on local strengths.
Dynamic regional development with vibrant clusters

Upgrade key weaknesses including regional education, regulatory conditions, and infrastructure Strengthen regions through upgrading regional institutions

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Lima metalworking cluster: Example of a Cluster Development Initiative
Foundries Plastics Design shops Metals Paints and chemicals Services
(lab, etc)

Agriculture

Automotive Appliances

Electricity
companies

Plastics

Mining
Restaurants

Molds Tools Recycling

Equipment
(electrical, mining, etc)

Financial Logistics Packaging Advisory services Security

Parts
(isolators, etc)

Software / IT Technology transfer

Custom services

Government Institutions

Educational Institutions

Business Institutions

Multilateral Institutions

Action Agenda

POLICIES •Sustain the security improvements against old and new threats

A secure, neutral and peaceful country

• Maintain improvements achieved in security and prevent a pronounced increased in organized crime an violence • Empower security institutions and foster links with the community

•Systematically reduce corruption
• Simplify rules and regulations to reduce the cases in which corruption can occur • Promote a new governance ethic in political and business leaders

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Secure, Neutral and Peaceful: Action Agenda
Sustain the security improvements against old and new threats

Action Areas
• Public safety is critical to becoming a trading hub Maintain improvements achieved in security and prevent a pronounced increased in crime an violence Empower security institutions and foster links with the community

Specific Recommendations
• Frame an institutional setting where a single institution concentrates efforts to fight drug trafficking and terrorist activities
Support market-based income-substitution programs, control of chemical inputs for coca transformation, drug interdiction, and anti-money laundering efforts

• •

Reform the police force considering labor regime, salary and equipment and needs Strengthen the powers of local mayors as presidents of local public safety committees in coordination with the police Engage local communities to prevent social unrest Support comprehensive policies - covering crime prevention, crime investigation, the judicial system, the jail system, and re-insertion programs.
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• •

Secure, Neutral and Peaceful: Action Agenda
Systematically reduce corruption

Action Areas
• Reduce corruption to thrust domestic economic activity and take advantage of opportunities created through open trade policy Generate a strong track record of fighting against corruption Consider its effects on informality and inequality

Specific Recommendations
• • • • Launch a systematic campaign to reduce corruption and investigate corruption cases Simplify rules and regulations to reduce the cases in which corruption can occur Foster clean governance in political and business leaders Improve the quality of the civil service. Support meritocracy, responsibility, accountability, training and adequate compensation. Key public officials should be appointed in a process with the consent of the Congress

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Action Agenda
POLICIES •Focus efforts on becoming the springboard for South American firms seeking access to U.S. and Asian markets •Deepen free trade policies

A hub for trade between Latin America, Asia and North America

• Intensify policy of negotiating free trade agreements • Eliminate remaining domestic barriers to trade and investment: tariffs, non-tariff measures and export subsidies

•Improve physical connections with other countries
• Transportation • Energy and Water

CLUSTERS Transportation and Logistics Financial Services

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Action Agenda
POLICIES •Transform endowment-based industries into broad clusters
• Launch an ambitious cluster development program

Enhanced the Sophistication of Endowment Related Exports

•Build organizational processes in which all actors, particularly private sector representatives, collaborate in building a common vision for each cluster •Diversify the economy by developing related clusters

CLUSTERS Metal Mining and Manufacturing Hospitality and Tourism Biodiversity

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Action Agenda
POLICIES • Design a modern policy for regional development
• Devise a strategy for each region based on its unique attributes and strengths

Dynamic regionalized development with vibrant clusters

• Enhance education and workforce skill development
• Focus on education as a central enabling condition for productivity • Align education supply with needs through collaboration with clusters

CLUSTERS Metalworking Apparel Leather Fishing and Fishing Products Footwear Agricultural Products Wine

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Improve Cross Cutting Policies

•Sustain path of sound macroeconomic policy •Ensure adequate basic education and health care
•Focus basic education on enforcing quality standards •Improve basic education services with the vision to reduce inequality and foster social inclusion •Reform healthcare system to increase coverage and provide better value •Focus on preventive care to reduce costs •Concentrate on vulnerable segments of the population

•Reduce the cost of doing business through better rules and regulations:
•Rules of the judiciary system •Taxes •Labor market regulations

•Strengthen access to capital
•Increase financial-sector competition and access to capital •Encourage the development of new financial instruments

•Develop science and technology capabilities
•Expand university-business collaboration •Encourage industry to absorb and improve foreign technology •Involve talented expatriate professionals •Improve innovation infrastructure

•Improve the effectiveness of the government

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Eleven Goals for 2021
Income and Inclusion
• • • Peru will be in the upper tier of middle-income countries with an income per capita of $10,000 Peru will reduce its poverty level to 20 percent Peru will reduce rates of malnutrition to less than 10 percent

International
• • Peru will be one of the top two South American countries in volume of trade with Asia Peru will be the first-ranked recipient of foreign direct investment among the countries along the South American Pacific coast

Regional development
• Peru will have at least seven regional centers of development across the coastal, highlands and Amazon regions

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Peru will be in the upper tier of middle-income countries with an income per capita of $10,000 GDP per Capita
(in 1990 PPP US$)

$12,000

GOAL
$10,000

$8,000

$6,000

$4,000

$2,000

PAST

PRESENT

$0
1971 1976 1981 1986 1991 1996 2001 2006 2011 2016 2021
Note: PPP using Geary Khamis calculation methodology.
74 Source: Groningen Growth and Development Centre, Total Economy Database
Copyright 2010 © Professor Michael E. Porter

Peru will reduce its poverty level to 20 percent
% of Population Under the Poverty Line

GOAL PAST PRESENT

Source: Compendio Estadístico, Instituto Nacional de Estadistica e Informatica (INEI), 2010; own projections
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Peru will be one of the top two South American countries in volume of trade with Asia Total trade (USD
millions)

PAST

PRESENT

GOAL

Source: Trade Map from official sources (http://trademap.org) ; own projections
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Peru will be the first-ranked recipient of foreign direct investment among the countries along the South American Pacific coast
FDI Inflows (USD millions)

GOAL

PAST

PRESENT

Source: UNCTADSTAT (http://unctadstat.unctad.org); own projections
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Eleven Goals for 2021

Education
• Peru will pass from the third to the second tier in the evaluation made by the OECD Program for International Student Assessment (PISA) • All high school graduates will be proficient in the English language

Corruption
• The country will pass from "mid-level" to "low-level" for corruption in the region, as measured by Transparency International's Corruption Perceptions Index

Cluster Development
• Peru will adopt a cluster-based strategy for development • Peru will upgrade and develop well-established clusters in mining, tourism/gastronomy, fishing, agribusiness, and manufacturing

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Peru will pass from the third to the second tier in the evaluation made by the OECD Program for International Student Assessment (PISA)
% of top countries (out of 65 countries)

120%

100%

80%

60%

40%

20%

PAST

GOAL

0%
2000 2014
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2018

2021
Copyright 2010 © Professor Michael E. Porter

Source: OECD Program for International Student Assessment (PISA) 2000. Authors calculations

Peru will pass from "mid-level" to "low-level" for corruption in the region, as measured by Transparency International's Corruption Perceptions Index
% of less corrupted countries (out of 180 countries)

70%

60%

50%

40%

30%

20%

10%

PAST

TODAY

GOAL

0%
2006 2007 2008 2009
80

2010

2014

2018

2021
Copyright 2010 © Professor Michael E. Porter

Source: Transparency Report. 2010 Corruption Perception Index. Authors calculations

Implementation Strategy: Sequencing of Policies

• Financial system • Science and Technology

• Education and Health Care • Regional Development • Cluster Development • Regional Development • Security • Anticorruption • Physical Infrastructure • Skills

• Maintain Government Policy Programs

Immediate

Long term

Priority
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Implementation Peru's Economic Strategy: Organizational Structure
• Reinvigorate the Peruvian National Competitiveness Council (NCC) to coordinate economic strategy and implementation
– – – – Chaired by the Prime Minister Set within the Prime Minister's office Membership by all involved ministers and government officials Secretariat responsible for agenda and accountability

• The NCC should have an appropriate budget and a well-trained and qualified staff for technical support • Representative university and civil society leaders should be formal members in the NCC • Private sector participation in economic policy should be coordinated by a Peruvian Private Competiveness Council (PPCC)

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Summary
• Peru has made significant progress towards becoming a prosperous economy and a better society • Peru has many assets, and already made important policy choices towards a better future. The results over the last few years are a clear validation of this course BUT • There is much more to do
– Many parts of society and regions of the country have not fully participated in the country’s recent growth – Many dimensions of competitiveness remain weak and have to be improved

• The proposed strategy outlined here offers an ambitious but realistic plan forward
It defines clear priorities, identifies concrete action steps, and sets measurable objectives

• Change will occur only if consensus builds within Peru • The process 83 needs to continue

Copyright 2010 © Professor Michael E. Porter

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