adjustment to the overvalued exchange rate will be borne by the unprotected sectors, those sectors that are more susceptible to informal or illegal imports, and the export sectors.

Although protection is unlikely the appropriate response to a balance of payments crisis, if any protection is offered for this purpose, it should be uniform, not a diverse protection structure.<sup>24</sup> A uniform tariff is sometimes applied for balance of payments reasons; this achieves the same impact on reducing imports as exchange rate depreciation, but it fails to achieve the beneficial effects on the export side. The optimal tariff structure, given that it is a surrogate for a devaluation (without export incentives), must uniformly induce resources to flow into import competing industries in general rather than any particular import competing industry.

At the practical level, the arguments for a diverse tariff structure rest on the ability of governments to: (i) "pick the winners," that is to identify the candidates that are most likely to meet the conditions justifying intervention, and choose and maintain the appropriate level for the policy variable (tariff, subsidy). In general, the market is a more reliable indicator of the industries that have comparative advantage than any economic model. Over time this is particularly true, as comparative advantage changes with technological development; (ii) be immune to the pressures from vested groups that inevitably arise once the willingness to grant special status is established; and (iii) prevent any protection granted from becoming permanent.

The empirical evidence in both developed and developing countries during the past three decades casts doubt on most governments' ability to meet these conditions. Endorsement of a more general approach - with little differentiation in the level of assistance - thus emanates from a wider skepticism about the practical merits of _targeting_ of any kind.<sup>25</sup> Moreover, the economy must provide its most talented members with the incentive to engage in entrepreneurial activities such as starting or expanding firms, developing new products and lowering costs. If the economy provides tariffs that differ greatly by sector, or extensive subsidies or tax exemptions to industries or firms, or presents a difficult regulatory framework within which to do business, talented people will find it more profitable to engage in the socially. wasteful activity of lobbying the government for tariffs, subsidies, protection, tax or regulatory relief (Murphy, Shleifer and Vishny, 1991). This socially wasteful lobbying is especially harmful because it attracts one of the scarcest resources in developing countries: entrepreneurial talent that would otherwise be helping the economy grow. Thus, World Bank experience indicates (see Leiberman, 1990; Atiyas _et al._ 1992) that the best industrial policy is for the government to provide a stable macroeconomic and regulatory environment conducive to business development with neutral incentives to all firms and industries.

> **24** See Tarr (1998) for an elaboration of the arguments for and against a unifonn tariff.

> 25 See Westphal (1990) and Krugman (1989, 1992) for details.

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