Innovation Economics: The Race for Global Advantage (2024)

In “Innovation Economics” Atkinson and Ezell examine the history of innovation competitiveness, take a look at the current state of the US and the rest of the world, and then propose a number of measures the US can take to perpetuate its innovation dominance. (None of these recommendations are particularly mind-blowing though…).

The book starts off by using Britain as a case study in industrial decline. The authors claim that contributing factors included: the shift from industry to finance, neglect of foreign competition, and high currency values. They then proceeds to make a case for why industry/manufacturing is so important for the health of the innovation ecosystem. Theirs was the same argument we’ve heard over and over again - about how knowledge is embedded in organizations (so expertise is lost if those organizations go away) and that there are network effects in industry clusters (a la Silicon Valley). I don’t totally buy it. I think this certainly used to be true, but I think the Internet has disrupted a lot of traditionally geography-bound dynamics. I’m currently running SilviaTerra from the outskirts of Stockholm while the rest of the team is scattered across the US...

He discusses the strategies that other nations (especially the Nordics) have used to boost their national innovation competitiveness. Fascinatingly, places like Sweden and Finland actually have national agencies (VINNOVA and TEKES, respectively) whose sole purpose is to help connect industry with research and stimulate innovation. TEKES even has forestry as one of their 6 areas of focus, which explains why I see a disproportionate amount of forestry tech coming out of Scandinavia (as opposed to nations like Canada or Russia).

But actually much of the book is devoted to China-bashing. If nothing else, this book is worth a read to learn about some of the Chinese policies for securing economic dominance (although, to be fair, I imagine the US is guilty of a fair number of these sort of infractions as well. Would greatly appreciate any reading recommendations on the topic). The book obviously covers currency manipulation (which allows the Chinese to trade domestic consumption for industrial buildup… something that I think would be difficult to pull off in a free society), but I think we all already knew about that. More interestingly, the authors discuss how China forces international companies to share IP with Chinese firms when they enter the Chinese market. Within a few years, those Chinese firms are able to turn around and compete with the international firms because they’ve appropriated the IP (thus incurring no R&D cost) and have much cheaper labor. It seems like the only reason international firms agree to this is because if they don’t, one of their competitors will (and they don’t want to lose their shot at at least a little bit of the large Chinese market). This is one of the main reasons that Boeing and Airbus haven’t entered the Chinese market and I think they probably have a tacit agreement with each other not to. Finally, the authors really go on a rampage about China and the World Trade Organization. They claim that China gives out more money to the developing world (i.e. Chinese development grants in Africa) than China takes in from the WTO… so basically China is claiming that they need WTO funds but then turning around and using WTO money (from the US) to curry favor with nations in the developing world. There’s also the issue that China violates lots of conditions for getting WTO money because of their IP practices. In any case… the authors don’t really have much of a suggestion for how to deal with these “unfair” practices. On the other hand, China is lifting lots of people out of poverty… I certainly need to do more reading on the topic. Recommendations welcome!

Below are some representative quotes

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As Henry Ford once said, “Thinking is the hardest work there is, which is probably the reason why so few engage in it.”

For the United States, the pendulum has shifted dramatically to the individual freedom and current generation side. Indeed, as the United States has become a society focused on “Me, now!” crafting a politics of collective sacrifice for future innovation and competitiveness is exceedingly difficult, whether it’s to drive down the value of the dollar, to reduce government spending, to raise personal taxes in order to lower corporate taxes, or to increase investment in science, technology, and infrastructure. This, more than any other factor, may be at the heart of America’s economic failure. After all, the United States was able to dominate the world economically after WWII precisely because it had found a way to balance “me” and “us,” and “today” and “the future.”

U.S. firms spend more than twice as much on patent and other litigation as they do on R&D.

At the end of the day, the United Kingdom’s experience from the mid-1950s to the late 1970s suggests that industrial decline is perhaps not very complicated after all. The recipe for decline is actually pretty straightforward: ignore the industrial sector in favor of finance; keep currency values high relative to other currencies; pretend that you are not in global competition; oppose the introduction of new technological innovations; skimp on investments in the future; focus on macroeconomic stabilization at the expense of microeconomic policies to spur investment and innovation; fight over the slices of the pie rather than making a bigger pie; and so forth.

The list of errors made by the U.K. and U.S. governments is extensive, but perhaps the most fundamental was that they let economic policy be run by their respective Treasury Departments. While other ministries/departments have an interest in the economy, in both nations, they were shunted to the sidelines as secondary players. This would be okay if it was not for the fact that Treasury officials ignored industrial competitiveness.

O’Neill stated, “When I was Secretary of the Treasury I was not supposed to say anything but ‘strong dollar, strong dollar.’ I argued then and would argue now that the idea of a strong dollar policy is a vacuous notion.” For these and other heretical views, O’Neill was replaced by someone who knew the right tune. Interestingly, unlike most recent Treasury secretaries who either came from Wall Street (for example, Nicholas Brady, Robert Rubin, Henry Paulson, and Tim Geithner) or were financial economists (Larry Summers), O’Neill came from industry, having served as CEO of Alcoa, a metals firm. As such, he knew firsthand the negative effect of an overly strong dollar on industrial competitiveness.

When tough choices have to be made between promoting innovation and supporting redistribution, the choice is usually the latter. For example, rather than fund the America COMPETES Act in 2007, which authorized increased funding for science and science education, Congress increased funding for programs like farm subsidies, income security, and health care.

In contrast to the dominant neoclassical view, knowledge is not a free-flowing commodity held solely by individuals and traded in markets like cabbage at the grocery store. It is embedded in organizations and if organizations die, so too does a significant amount of knowledge. Moreover, there are significant spillover effects from firm activities and significant first-mover advantages, including learning effects that enable firms’ early leads to translate into dominant positions. There are also significant network effects, which mean that advancement in one industry (e.g., broadband telecommunications) can lead to advancement in a host of others (e.g., Internet video). As a result, for many parts of the U.S. economy exposed to international competition, if you lose it, you can’t easily reuse it. In these cases, foreign high-value imports often end up substituting for the defunct domestic product.

But while the United States makes such deals with geopolitical concerns top of mind, the focus of China and other nations is squarely on gaining economic advantage, which they parlay into military advantage.

In summary, as George W. Bush’s President’s Council of Advisors on Science and Technology (PCAST) has written, “The proximity of research, development, and manufacturing is very important to leading-edge manufacturers.” Or as Susan Houseman of the Institute for Employment Research states, “The big debate is whether we can continue to be competitive in R&D when we are not making the stuff that we innovate. I think not; the two cannot be separated.” Put simply, the continuing shift of manufacturing outside the United States is beginning to also pull high-end design and R&D capabilities out of the country.

at least in the United States, a dollar of exports produces twice as much employment as a dollar of domestic consumption.

Leadership in the digital economy entails ensuring that almost all citizens have access to high-speed broadband connections; that the population is digitally literate; that government puts all services online; and that information technologies suffuse transportation, energy, and health networks as well as business enterprises.

To this end, most innovation agencies—including Finland’s Tekes and Sweden’s VINNOVA—operate a number of overseas technology liaison offices that conduct “technology scanning,” seeking out emerging technologies bearing on the competitiveness of domestic industries, and sponsoring outreach efforts to help their domestic companies partner with foreign businesses and researchers. The mission of these technology liaison offices is to assure that their countries stay on top of the latest developments in cutting-edge technologies and to give their countries’ businesses exposure to new technologies and business practices emerging in other parts of the world.

Another innovative tax technique France uses to support entrepreneurs is giving wealthy individuals the opportunity to invest in start-ups in lieu of paying a wealth tax.

While neoclassical economists persist in romanticizing a stylized view that companies compete as individual profit maximizing actors in international markets, the reality is that U.S. firms are increasingly running up against companies from other countries that are the beneficiaries of thoughtful and strategic government-funded advanced research programs into critical technologies that help their private sectors compete more effectively.

Perhaps China’s most pervasive and damaging mercantilist practice is its rampant and widespread currency manipulation. China manipulates its currency by pegging the renminbi near to the dollar at artificially low levels in an attempt to shift the balance of trade in its favor. This currency manipulation is a central feature of China’s export-led growth strategy, designed to make its exported products cheaper and thus more competitive on international markets, while making foreign imports more expensive. The overall intent is to induce a shift of production to China, but the effect is all too often to shift production from more productive and innovative locations to a less productive and innovative one in China. And one result of refusing to spend the money it earns from exports is massive current account reserves. As of November 2011, China had accumulated $3.2 trillion worth of foreign currency reserves, a jump of 33 percent since 2009 and larger than any nation’s reserves at any time in history.

China has staked its political and economic stability on export-led job creation driven by artificially cheap currency that puts foreign competitors at a distinct disadvantage.

Despite the fact that currency manipulation directly violates international trade law (under International Monetary Fund rules, it is prohibited, and it may be actionable under WTO rules), virtually nothing is done to combat it. Yet currency manipulation undermines confidence in globalization by severely distorting trade, increasing the cost of other countries’ exports, and costing those countries jobs.

But currency manipulation has another, perhaps even more destructive impact. By artificially reducing the cost of labor compared to capital, it is moving the world production system more toward labor and away from capital. In other words, it reduces global productivity because it distorts the global production system into using relatively fewer machines.

Thus, while Western countries predominantly play by the rules of free trade, China is playing by its own set of rules, all the while brazenly refusing to adhere to the commitments it made under its WTO accession protocol or to enter into subsequent WTO agreements, such as the Government Procurement Agreement, despite repeated promises to do so.

Such policies make it apparent that China fundamentally does not believe in the notion of global specialization and comparative advantage; it wants an absolute advantage in every single product category.

The crucial point missed by countries using mercantilist policies to build capital goods sectors, including IT industries, is that the vast majority of economic benefits from IT, as much as 80 percent, come from their widespread usage, while only 20 percent come from their production.

And at 39.1 percent, the combined state-federal statutory corporate tax rate on U.S. companies is now the highest in the world, after Japan cut its corporate tax rate on April 1, 2012. Indeed, while statutory corporate tax rates fell, on average, by 16 percent across all the Organization for Economic Cooperation and Development (OECD) economies from 2000 to 2009, they remained constant in the United States.

For example, rather than fund the America COMPETES Act in 2007—which authorized increased funding for science and science education—Congress increased funding for items like farm subsidies, income security, and health care. (Congress did later provide a one-time allocation of funds for COMPETES in the stimulus bill.)

The key to success for nations is to combine flexibility for organizations to restructure and to innovate (including the ability to go out of business when entrepreneurial competitors come up with a better widget) with security for workers. But the security should not be tied to employment, as it is in Japan, but rather to employability. This describes a model that several Scandinavian nations have adopted called “flexicurity” (a combined term for “flexible security”). Flexicurity systems include: • comprehensive lifelong learning strategies to ensure the continual adaptability and employability of workers; • effective active labor market policies that help people cope with rapid change, reduce unemployment spells, and ease transitions to new jobs; and • modern social security systems that provide adequate income support, encourage employment, and facilitate labor market mobility. Flexicurity is based on the reality that employment security is decreasing. To help workers manage, they will need new kinds of security—not to help them stay at a particular job, but to help them effectively transition into new employment through viable skills.

But historically, much of the innovation in Southeast Asian nations has been a matter of copying innovations produced elsewhere, particularly in the United States, perfecting and building on them, and then exporting them, usually to the United States. The strength of these nations has largely been around engineering prowess. Two questions in particular face these nations: First, will they be able to develop truly entrepreneurial economies and at the same time grow the productivity of their anemic nontraded sectors? As these nations advance, development through adoption of existing innovations will prove harder. They will need to develop stronger abilities to truly innovate on their own. This will require real risk taking and break-the-mold entrepreneurship, which to say the least is hard in Southeast Asia. Japan in particular has very low levels of venture capital investment and its new business starts are quite low. And in China, the educational system and the culture continue to produce individuals who do not question the status quo, a key factor in enabling entrepreneurship. The second question facing Southeast Asian nations is whether they can find a way to grow without relying almost solely on exports.

This appears to be the Chinese strategy: don’t trade for things in industries China is weak in, try to dominate every industry. Indeed, China’s 2006 Medium and Long Term Technology Plan reads like a plan to dominate virtually every advanced technology sector. The problem with the Borg strategy is twofold, as chapter 7 discusses. It’s ultimately a costly strategy for China since its citizens must give up massive amounts of current consumption for the hope of future consumption, partly because so much is wasted. And it ignores the vast benefits from boosting the productivity of sectors that aren’t traded in global markets. But unlike the Borg, China can’t entirely consume other worlds. China’s dependence on the U.S. economy—especially given its own underdeveloped services economy—means that if China continues to do too much damage to the U.S. economy, it’s only dampening its long-term growth prospects, especially if it seeks to continue to grow primarily through exports.

At the same time, China actually lent more money than the World Bank to developing countries during 2009–2010. China signed at least $110 billion of loans to other developing country governments and companies in 2009 and 2010, while the World Bank made loan commitments of $100.3 billion to such countries from mid-2008 to mid-2010.9 And Chinese loans came with strings attached to buy Chinese-made products. So, China desperately needs development assistance from the World Bank, but can loan out more money than the Bank does to others? In essence, China is using the West’s own capital to curry favor and influence with developing countries.

The World Bank’s actions are nothing short of extraordinary. The United States provides the World Bank with U.S. taxpayer dollars so they can fund a Chinese government agency that, in turn, can fund Chinese government corporations whose mission is to take away some of the best and highest-paid U.S. jobs.

Two economic principles should guide developed countries’ foreign-aid policies. First, foreign aid should be geared to enhancing the productivity of developing countries’ domestic, nontraded sectors, not to helping their export sectors become more competitive in global markets. Second, countries that impose significant barriers to trade and blatantly engage in IP theft, currency manipulation, and other mercantilist policies should have their foreign-aid privileges withdrawn. And countries running up huge trade surpluses should simply not be receiving any foreign aid, regardless of how poor they are. The message to these countries should be that if they want to engage the global community for development assistance, mercantilist practices cannot constitute the “dominant logic” of their innovation and economic growth strategies.