An innovative economy needs a new benchmark to help us learn effectively and live well
The relationship between supporting innovation, and fairly distributing the wealth it produces, will always be fraught. Nurturing the innovative capacities of all should be our priority
This is a post about my day job, but maybe also all of our jobs. Preparing for my new module on the economics of innovation and public purpose, I have been reading The Power of Creative Destruction by Philippe Aghion, Céline Antonin and Simon Bunel.
It is an excellent book, full of insights and evidence about ‘what works’ in driving innovation. But I was left with a question that overshadowed all of the book’s answers: what is it that makes people want to innovate?
Most economists would say that innovation happens when people (more precisely, firms) identify an opportunity to increase market share, and therefore profits, by providing a better product, or producing the same products more efficiently (or a bit of both). But plenty of people and firms make money without innovating (easily… perhaps too easily). Most innovations fail, to some extent, meaning the financial benefits never materialise. And innovation in the real world depends on supportive institutions, layers of existing technologies and scientific knowledge, and pathways to implementation paved with the tacit know-how of countless other people. Few organisations can control all of these moving parts, all of the time. So why bother to try?
In reality, innovation has a not-so-secret ingredient. It has rightly become commonplace to argue that much of what we think of as innovation, especially in ICT, is actually driven by the state’s willingness to take the risks involved in early-stage tech development, because it is incentivised by a pressing societal challenge (national defence, healthcare, climate change, etc.).
But this perhaps tells us that there are fewer genuine innovators than we thought. We can therefore ask the question another way: what’s stopping us innovating? Spoiler alert: I think the answer has something to do with inequality.
Creative destruction
I was struck reading Aghion et al’s book by an apparent discrepancy in their evidence base. They say that reducing taxes on income from capital incentivises technological innovation. Sweden introduced this policy in the early 1990s (essentially implementing a flat tax for capital income), and saw its economy become more innovative (measured in terms of patents granted), ultimately resulting in higher growth.
There was also an uptick in inequality, but innovation led to additional revenues so that Sweden’s social democratic state could provide a safety net for the poorest. In case it isn’t obvious, Aghion et al belong to the neoclassical wing of neo-Schumpeterian economics, implicitly seeing Joseph Schumpeter’s early twentieth-century appeal to ‘creative destruction’ as an endorsement of capitalism’s inherent virtues, albeit with market mechanisms shaped by public institutions. (The rise of right-wing populism in Sweden demonstrates the dangers of complacency about rising inequality, but this post is not really about the politics.)
Later in the book, however, the authors present evidence that the best indicator of whether a person is going to become ‘an inventor’ is their parents’ income. Higher income correlates with a higher likelihood of innovating. Mo money, mo problems solved. (Invention is part of but not necessarily synonymous with innovation; in this case the authors define an inventor as someone who secures at least one patent in their lifetime.)
The parental income explanation applies to the United States, where educational standards are poor for many children, and also Finland, where almost all children receive a good education. It is not simply about richer kids getting a better education: higher parental income means children are more likely to benefit from whatever education they do receive.
We might conclude that egalitarianism is therefore central to innovation, insofar as redistribution would give more people the financial security from which invention apparently springs.
But bringing this about is not straightforward if taxation – although justifiable for some purposes – is seen as an inherent impediment to the forces of creative destruction. As well as endorsing lower taxes on capital income, Aghion et al also advocate the R&D tax reliefs which are employed in the UK, comparing France’s corporate tax system unfavourably with the UK in this regard (despite France having much higher productivity than the UK).
In my view, the book is implicitly guilty of a rather common act of misdirection on this point. The United States is recognised as both a highly productive economy, and an exemplar liberal market economy (LME), which is seen as a better platform for creative destruction. But US industrial and innovation policies do not really conform to the LME archetype, so invariably UK policies are highlighted instead, even though the UK is far less productive than the US too – in part because of its firmer commitment to the LME model.
In this vein, I was struck by a recent remark by economic consultant and commentator (and former UK government adviser) Giles Wilkes:
‘One of the mysteries that I'm nowhere near solving is how the USA is such a mega productive country when it flouts so many commonsense rules… or having no state aid laws.’
The ‘commonsense rules’ in this case involved the high barriers to entry for wannabe barbers in North Carolina. Part of the answer is of course the macroeconomic benefits that derive from being a global financial hegemon. But it is also about, in my view, the apparent inefficiencies of (local) state interventions in the United States being the other side of the coin to the benefits of (local) industrial policy, which is easier to do in the absence of state aid restrictions.
The wealth of innovations
I am admittedly cherry-picking from The Power of Creative Destruction a little, not to unduly criticise the book, but rather to demonstrate that, for all that we do know, we still do not really understand what makes innovation tick.
This is why I am sceptical of the view that we can unlock innovation via taxation. In my experience rich people usually like to become more rich, even if it means they get taxed proportionately more. I have no qualms about fine-tuning tax arrangements to ensure that innovative activities are prioritised, but let’s be realistic about how earth-shattering the impact of such policies might be.
The bigger unknown is whether the prospect of becoming wealthier is what primarily drives people to innovate. Are we really so sure that it was capitalism – an economic system which allowed more people to accumulate wealth – which triggered a tidal wave of innovation in the eighteenth and nineteenth centuries? Or was it instead the spread of a critical mass of technologies throughout the West at the time? If the latter is true, capitalism in its pure form would be rendered a way of ordering the distribution of innovation’s benefits, rather than the genesis of these benefits. We should probably think of the technological and economic spheres as developing in tandem – an understanding which would bring us to Carlota Perez’s alternative perspective on Schumpeterian economics (I am accordingly very excited that Perez is guest-lecturing on the module I mentioned above).
In general, I want to avoid the ‘what is innovation?’ rabbit hole in this post – although my students have this to look forward to – but it should be noted that most forms of innovation are not about financial returns at all in any direct sense. Innovation happens outside the market: in all organisations, in the public as well as private sector, and indeed in everyday life. Similarly, one of the main ingredients of technological innovation as we conventionally understand it – scientific discovery – obviously does not reward its protagonists in the way (or at the level) we might expect a capitalist system to do so.
Nevertheless, it is still valid argue to argue that the development and diffusion of many transformative technologies – shaping how we all live, usually for the better – is driven by wealth accumulation. As such, we can all recognise the value of curiosity and ingenuity, freely dispensed whenever human beings set their minds to something. But if you want the really big stuff, it has to be paid for – and capitalism has enabled this.
From this perspective, the people or organisations who, say, cure cancer or reverse climate change in practice – not just in the lab – deserve to be filthy rich. Equally, so do the innovators behind computing technology such as the smartphone, which is less directly transformative but clearly allows us to do many of the things we do with our time (including innovating) more efficiently.
But how far can we take this argument? Is all innovation that creates wealth for the innovator good, by definition, because it created wealth? Despite celebrating the forces of creative destruction, Philippe Aghion would presumably disagree, warning of the threat to innovation of very wealthy ‘big tech’ mega-companies.
Wealth-driven innovation clearly has the potential to inhibit future innovation. It also has the potential to produce harmful innovations. What happens when we regulate (or indeed tax) innovative activity that might add to climate change, or indeed cause cancers, in order to inhibit it? Are we deliberately choosing to make ourselves less wealthy?
And how do we determine the point at which wealth is not being created by innovation? There is a degree of consensus that we should tax rent-seeking more than value-creation, to better direct investment to productive activities. But is this distinction always so clear? For example, most people and institutions who buy shares in large, ostensibly innovative companies do so because the company is already profitable – they do not care whether they are profiting from genuine, ongoing innovation, or anything else.
What if I invest the proceeds of my ingenious innovations in land and property? Isn’t taxing these assets the same as taxing the innovations that paid for them, making me less likely to have innovated in the first place? What if I never innovate at all, but use my ‘unearned’ wealth to provide my children with a good start in life – an important determinant of propensity to innovate, remember – and they accordingly become innovators?
Incubating innovation
Forgive me if I have stretched the point to absurdity. But I think there are three important consequences of accepting a simplistic version of the wealth/innovation relationship. First, as implied above, we struggle to distinguish between good capitalism and bad capitalism, allowing too much of the latter to get by while we figure it out. Second, because most state institutions do not accumulate private wealth, we struggle to justify the absolutely essential role of the public sector in innovation processes, rendering state actors little more than supportive cheerleaders rather than a driving force.
The third consequence is the risk of valorising and reproducing inequality, when we know that being poor inhibits people from becoming innovators. Are we supposed to just wait for the innovators among us to raise productivity (therefore growth) so much that being poor is less devastating? Sorry, but I’ve heard that one before.
Of course, the evidence referred to in The Power of Creative Destruction is about the impact of low incomes, not inequality per se. But there is lots of evidence that more equal societies are more innovative economies (using similar measures of innovation) – see for instance this piece by Jonathan Hopkin, Victor Lapuente, and Lovisa Moller, which calmly debunks the inequality => innovation thesis.
Hopkin et al do not tell us definitively which comes first, innovation or equality (i.e. less inequality). It should also be noted that they acknowledge the United States as comparably innovative to the more equal countries of Northern Europe, if not more so. But they are adamant that the United States is the outlier, and criticise studies which find inequality => innovation based only on the US case (other similarly unequal countries in the Anglosphere are not, for instance, similarly innovative).
Crucially, when coupled with the evidence from Aghion et al that low incomes fail to nurture innovative capacities, we can read between the lines that the United States has (alongside its many other advantages) just enough people with very high incomes to breed innovators. This would suggest that, if you want an innovative economy, the United States is not offering a replicable model.
This brings us to the question of why higher parental income produces a propensity to innovate, especially given that this trend is not only, or even largely, about quality of education.
One rather depressing explanation would be that richer parents are more likely to have social connections that their children draw upon in their careers, making them more likely to end up in the kind of jobs that involve innovating (or to have the choice to do this kind of job, if they are so inclined). But while this factor has some relevance, it is an unsatisfactory answer. Although many high-paying jobs involve innovation, in a narrow sense, most do not.
My own answer, I’m afraid, is little more than guesswork. But as I hinted above, I think it has something to do with our ability to benefit from education. An upbringing founded upon financial security enhances our ability to learn. In part because this security by definition allows for more risk-taking in establishing our careers. But also because we are healthier. We can take for granted resources and infrastructures that facilitate development. We use more ICT. We travel more, and experience a wider array of cultural goods. It is about our ability to be fully present in learning moments, learning more effectively as we consciously contribute and engage with educational activities, with the space and confidence to be creative.
There is no reason to assume that these effects of higher income apply only in childhood and adolescence. I am not really talking here about anything beyond fairly bog-standard educational and psychological theory. But we are not thinking enough about the material conditions that allow us to engage in relational learning and self-actualisation. And we have built economies which seem intent on depriving people of such opportunities throughout their lives. We know this is bad for individuals. It should be obvious that it is bad for society as a whole too, and the economy insofar as it inhibits our capacity for innovation.
What should we do about it? I think we can take inspiration from concepts such as ‘the living wage’, which establishes the level of pay required to meet basic needs. I would also point to initiatives such as the Joseph Rowntree Foundation’s Minimum Income Standard, which establishes the income required to live with dignity as a participating member of society. In short, consideration of the resources individuals (and communities) need to develop their innovative capacities should become a central concern of innovation policy, with interventions across a range of policy areas geared towards delivering the necessary conditions.
This will inevitably point us towards a more equal distribution of resources. This is a priori good, in my view, but crucially, it would be egalitarianism with a clear economic rationale. The UK can continue to try to ape the United States if it likes – but other developmental paths are available.
We must not assume however that any benchmark for supporting innovative capacities is only about the distribution of financial resources. While instructive, we should be cautious in interpreting the evidence that higher incomes breed innovation. It is not all about the money, rather the things that money can buy. And there are plenty of things that money cannot buy: the approach I outline here would involve decommodifying certain goods so that they are (more) universally available, drawing upon the foundational economy perspective. Rebecca Weicht’s doctoral research on the relationship between welfare provision and entrepreneurship in the UK, Germany and Denmark will soon be must-read in this regard.
Realistically, we are not all going to be innovators in the conventional sense, and certainly not inventors. But this does not mean we cannot contribute productively to innovation processes in a broader sense. Economists have developed notions of systemic innovation in order to capture the diversity of inputs into innovation processes, and indeed user-led innovation to highlight the role that end-users play in the development of innovative products and services. These are helpful, but it is time to recognise that economistic thinking cannot alone conceive the suite of interventions required.
The provision of education and training will be paramount. But we also need to ensure people have sufficient financial resources to live well, adequate physical and digital infrastructures, and access to public services to support health and mobility. Our access to culture should be prioritised too. Moreover, we should acknowledge the capacity-generating effects of free time: the evidence that working less allows us to work better is mounting.
This is not to suggest that establishing the right mix of policies, financing, and institutions to support innovation does not matter. But this post has focused on the human side of innovation, considering how to develop the motivation and imagination, as well as the skills, to think innovatively.
In assuming that wealth drives the innovations that really count, we marginalise the innovations that are developed beyond the market. We too easily assume that the everyday application of curiosity and ingenuity – with little direct prospect of financial reward – is marginal to creative destruction. I would argue that it is what’s missing, not least because wealth-driven innovation has encroached upon the non-market domains where experimentation flourishes.
Really enjoyed this Craig. Wondered if you had a view on Universal Basic Services (UBS) as a part of this argument about a platform for innovation which support human capability and capacity to innovate (like LLW and MIS). Have thought about this and done some limited work in this in Camden with the Institute for Global Prosperity at UCL but never linked to innovation explicitly. https://www.ucl.ac.uk/bartlett/igp/sites/bartlett/files/ubs.pdf