It would seem self-evident that small companies would not be competitive in a knowledge-intensive industry that is highly globalized. 1 Small firms, by definition, have limited resources and capabilities and thus are unlikely to possess substantial ownership advantages. They also have a limited capacity to influence and shape the development of markets, market structure, and technological change. One would thus expect SMEs to be ill-equipped to compete in an industry that requires a broad range of fairly demanding technological and organizational capabilities.
The disadvantages of small size for firms are compounded if they come from small countries. Small nations are confronted with four types of size-related disadvantages: 2 (1) the small domestic market places tight restrictions on the ability to function as a buffer against heavy fluctuations in international demand; (2) it constrains the development of sophisticated "lead users" 3 that could stimulate innovation; (3) it also limits the scope for technological spillovers; 4 and (4) the limited size of the national knowledge and capital base restricts the choice of industries in which such small nations might successfully specialize.
Taiwan's experience, however, tells a different story: SMEs have been the main carriers of its rapid development. Despite the dominance of SMEs, Taiwan today has the most broadly based computer industry in Asia outside of Japan. The country has diversified beyond core PC-related products into a variety of related high-growth market segments; it has improved its domestic production capabilities for a number of high value-added components; and it has been able to move beyond manufacturing into a range of higher end support services.
This chapter inquires into how this was possible. Its message can be summarized by paraphrasing John Stopford (1996), "innovations in strategy and organization can change the 'rules of competition' and overturn many scale advantages to permit David to grow in the shadow of Goliath." I argue that two factors have been critical for this outcome: active, yet selective and continuously adjusted industrial development policies; and a variety of networking linkages with large firms, both domestic and foreign. I show how government policies facilitated the initial market entry of SMEs and were