Government should close innovation gaps and redistribute gains

Government should close innovation gaps and redistribute gains

Recent federal and Ontario government innovation policies are both necessary and timely. Historically, Canadian firms could enjoy high productivity growth despite their lack of innovation. Canada’s regionally-concentrated and highly-protected firms faced limited competition in the domestic market. Exporters were typically upstream suppliers or subsidiaries of larger US firms, and so found it easier to compete on the basis of a low Canadian dollar and large labour supply and acquire innovations from abroad as needed. Now though, with a higher Canadian dollar and more low-cost international competition, Canadian firms must innovate to be competitive.

What and why do businesses innovate?

Many equate innovation with invention—a producer-driven creation or discovery that may not have any real-world use. Innovations, on the other hand, are customer-driven processes of using inventions to develop new products that add value by improving consumers’ economic, health, or social wellbeing.

For example, a car company’s innovative robotic manufacturing process enables it to double production. A bank’s innovative method of rating potential borrowers’ credit history reduces its number of bad loans. Firms innovate because doing business better enables them to provide more value to customers and earn higher profits. (The public sector can innovate too—as the Institute explored in Working Papers 24 and 24.5.)

Governments are essential for strengthening innovation

Ideally, businesses would find and develop innovations on their own, without any government funding or intervention. In most cases, they do: In Ontario, businesses spend nearly 18 times as much on their research and development than the contributions from all other public and non-profit sources combined.[1]

In reality, however, market failures hinder businesses’ ability to innovate. Firms face challenges accessing capital since innovation can take time to generate positive returns, preventing rivals from free-riding on their innovations, and coordinating with potential innovation partners. Government policies can address these market failures and help businesses get a return on their innovation investments. In fact, some of the most famous innovations on the market—such as the iPhone, GPS, and more—were developed from public funding.

The federal and provincial governments’ current innovation agendas contain similar policies:

  • Increasing research funding
  • Supporting targeted industrial sectors
  • Improving commerce and science, technology, engineering, and math (STEM) skills
  • Ensuring a business-friendly climate
  • Financing venture capital
  • Investing in superclusters (analyzed in an earlier blog post)

Many initiatives build on previous policies, such as the return of ‘industrial policy’. They are also in addition to an estimated  $22.6 billion the federal government spends on innovation and skills development across 147 programs and tax expenditures. The reason innovation policy can overlap economic development and/or industrial policies is because more innovation leads to higher productivity and thus higher living standards. Past analysis by the Institute found Ontario’s prosperity gap relative to peer jurisdictions is rooted in low productivity.

Canada must commercialize its own innovations

To broadly improve economic and societal outcomes, policymakers must ensure that innovation policies go hand in hand with measures that boost businesses’ ability to commercialize new ideas and policies that redistribute the gains from innovation across all of society.

Innovation policy should promote filling the commercialization gap between invention and commercial adoption. Canada does not have a great history of commercialization: There is a long list of hugely successful Canadian inventions such as the lightbulb, zipper, and pacemaker that were invented by Canadians and then largely commercialized elsewhere, meaning most of the profits went abroad. This is partly related to challenges firms face ‘scaling up’ their businesses, explored in Working Paper 23.

One indicator of Canada’s commercialization gap is that Canadian ‘assignees’ own the rights to fewer than four-fifths as many patents as Canadians invent, meaning the rights to many Canadian inventions—and thus the profits from commercialization—are foreign owned. This problem is getting worse, as the gap has expanded from 9 percent in 2000 to 22 percent in 2014.

There is a growing gap between the number of patents by Canadian inventors and by Canadian 'assignees' that own the rights to use the patented invention

This inventor-assignee gap results in the intellectual property from research, some of which could be government funded, being purchased by foreign firms that charge Canadian companies licensing fees to use the ideas or develop products abroad and sell them back to Canadians. One potential solution is to create a national sovereign patent fund that pools the rights to Canadian inventions and allows Canadian firms to cheaply commercialize the technologies.

Gains from innovation must be shared broadly

It is crucial that the benefits from innovation are distributed widely, across all of Canadian society—especially since research has established a link between increased innovation and higher inequality. Sharing these gains would also help prevent a public backlash against innovative technologies like automation that cause widespread job loss.

More commercialization is part of the solution. Boosting innovation alone mostly translates to more jobs in research, engineering, and science. However, commercializing these inventions in Canada means more high-paying corporate jobs (lawyers, accountants, salespeople) as well as greater demand for the services all these workers consume (such as hospitality, health care, education, and child care).

Redistribution could also be aided by higher productivity boosting GDP per capita, wages and employment. Policies that increase productivity through diffusing innovations across firms (such as encouraging R&D collaboration) could also reduce inequality. However, as Institute fellow Paul Boothe points out, “productivity growth needs to [be] matched by sales growth for workers to benefit.” Otherwise, it mainly benefits firms’ owners. An even greater issue for ‘inclusive innovation’ is that many innovation promoting policies (such as lower capital gains and corporate tax rates) reduce government revenue used for redistributive spending policies like skills-training and income supplements.

Getting the most out of innovation policy

These challenges, and wider issues around promoting innovation and commercialization, must be addressed for the Canadian and Ontario economies to enjoy strong, sustainable growth. The federal and provincial governments’ innovation strategies already contain some pledges to improve commercialization, such as maintaining a competitive business climate. However, the current discussion around innovation should expand its focus beyond inventions to include elements of commercialization and redistribution. Anything less would be insufficiently innovative.

Written by Jacob Greenspon

[1] The business enterprise sector funded $6.4 billion of research and development performed in the business enterprise sector in Ontario in 2014, compared to a total of $0.4 billon funded by the federal government, provincial government, and private non-profit sectors. This analysis excludes funding from the foreign sector. Institute for Competitiveness & Prosperity analysis based on data from Statistics Canada CANSIM Table 358-0001.

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