ECONOMICS: As we lose competitiveness internationally, we need to up our game on innovation or face serious problems with future growth, writes Paul Tansey.
The need to innovate is dictated by two developments.First, Irish goods and services are losing competitiveness on international markets for both internal and external reasons. Internally, Irish costs and prices are higher and have risen faster than in competitor countries. Externally, the country's trade-weighted exchange rate has strengthened continuously as the dollar has dived and sterling has slipped.
When these two factors - excessive inflation relative to trade rivals and a strengthening trade-weighted exchange rate - are combined, Ireland's real exchange rate has appreciated by almost one-quarter since the country joined the single European currency on its launch in 1999.
The impact of even a sizeable real exchange rate appreciation can take time to materialise. However, ultimately, it will see Ireland progressively being forced out of export markets for goods and services that are broadly interchangeable with similar output produced in cheaper locations. Commodity production now has a limited life in Ireland.
The required response is to innovate new products and services that are singular and hence less price-sensitive than the current profile of production.
Second, foreign direct investment provided the last wave of innovatory exports from Ireland. However, inflows of foreign direct investment, and the innovations they supported, are not now as strong as they once were. Thus, we can no longer count on foreign firms to shoulder the task of innovating for us.
This time around, the imperative for innovation will devolve, to a much greater extent, on Irish enterprises.
There is no great mystery about innovation. As far back as 1934, Joseph Schumpeter - one of the greatest of 20th century economists - defined it simply as "getting new things done".
Innovation can embrace creating a new good, introducing a new production process, opening up a new market, conquering a new source of supply or introducing new organisational techniques. In other words, innovation is what entrepreneurs do.
Crucially, innovation does not have to be triggered by scientific advances or technological change. Schumpeter noted: "The inventor produces ideas, the entrepreneur 'gets things done', which may, but need not, embody anything that is scientifically new."
In reality, competitive business is a continuous struggle for ascendancy, where enterprises seek to gain market advantage by introducing product and process improvements. Such improvements are derived both from the pool of knowledge possessed internally in the enterprise and from developments in the external environment, particularly among customers, suppliers and, above all, competitors.
In many cases, innovation is driven by desperation in the face of competitive threats. "Creative imitation" is a key response to competitors' innovations.
A 2005 report commissioned by Forfás concluded: "Imitation is perhaps the central fact about innovation and economic development under capitalism."*
Innovation is market-led, not science-based. A survey of innovatory enterprises in the EU found that the principal sources of information that powered innovation were, in order of importance, internal company resources, customers, suppliers, trade fairs and exhibitions and competitors. Institutes of higher education and government research institutes barely registered as sources of information that were rated as highly important by innovatory enterprises across Europe.
Thus, new knowledge is not very important in stimulating business innovation. The traditional view held that science caused innovation. This linear model of innovation saw increases in expenditure on science as raising the flow of new knowledge.
This increased knowledge flow would drive innovation and, consequently, the development of new products.
The 2005 report for Forfás challenged this traditional view. It stated: "The preoccupation of the linear model is with the link between the flow of new knowledge and economic innovation. In the new view, the stock of existing knowledge . . . is very important. The vast majority of the knowledge used in any innovation comes out of this stock and is not created afresh in the project that gives rise to the innovation."
The Government has been liberal in its funding for innovation. It has allocated some €6 billion to the science, technology and innovation programme under the National Development Plan 2007-2013.
Of this, €3.5 billion was been earmarked for world-class research in the Irish higher education sector.
The underpinning strategy seeks to ensure that "the investment in research is turned into commercial value to the greatest extent possible". This is a big bet on a highly uncertain outcome.
A more realistic approach to the stimulation of innovation in Irish enterprises would involve two straightforward steps.
First, strengthen competition and liberalise domestic markets. Business innovation is market- driven rather than science driven. Unless enterprises are forced by competitive pressures to innovate, they will sit on their laurels and count their monopoly profits.
Second, improve the absorptive capacity of enterprises so that they can access and utilise creatively the existing stock of knowledge. Building a bridge between existing knowledge and enterprises is the crucial link in the innovatory process.
This signals a need for more extensive, rather than restrictive, investments in education. Better- educated workers and managers at all levels of an enterprise is the most likely route to enhanced innovatory capacity.
In this regard, there is a serious danger that the new emphasis on fourth-level education - including the commitment to double the number of PhDs - will be achieved at the expense of starving third- level education of resources.
A knowledge-based society requires the wide diffusion of knowledge across the whole of the society, not its concentration in the minds of the few.
• Making Technological Knowledge Work, Technopolis/Forfás, February 2005.
