The Office of Innovation & Science Australia (OISA) released a Report in January 2020, titled Australian Business Investment in Innovation: levels, trends, and drivers. Although there is not much that is new in this Report, it provides enough insight to lay a few flags in the sand about how important innovation is to sustain business growth.
Business expenditures on R&D (BERD) is not declining
Australian BERD peaked in 2008-09 as a share of GDP at 1.37 per cent, and has since declined by over 30%, to 0.94% of GDP in 2016-17. Although this is low compared to OECD averages, 90% of this decline represents a cyclical decline in mining exploration and development (70%), as mines have moved into production, and changing industry mix (20%) away from manufacturing and towards services including finance, education, health and professional services.
The remaining 10% represents a decline in BERD intensity reflecting not just changing industry mix but changes in the relative size of traditional R&D-generating sectors. Manufacturing and ICT resent smaller shares of the economy that in many OECD countries. For example, manufacturing drives 70% of BERD in comparable economies – Canada, USA, UK, Korea, Japan and Germany – but only 25% of BERD in Australia. The ICT sector represents 24% of BERD in the OECD compared to 3.5% in Australia.
BERD accounts for only 50% of total innovation expenditures
Many more Australian firms invest in some form of non-R&D innovation. These include process improvements and new product design and many service-related innovations eg investment in training, digital tools, business intelligence, and automation etc to deliver productivity or process efficiencies.
Innovation improves firm performance
Technological progress is generally seen as the key long-run driver of productivity growth and GDP. R&D expenditure is generally seen as a key driver of technological development.
Modelling published in February 2020 by the UK Department of Business, Energy, and Industrial Strategy to forecast the impact on economic activity from lifting investment in R&D to 2.4% of GDP by 2027, found that increasing annual R&D spending by £15bn would generate £30.5Bn more in annual GDP, and create 80,000 jobs in the short term. . If R&D spending was then held constant the long run impact in 2040 generates an additional 2x the short term benefit. The higher GDP is caused by both product and process innovation. Importantly, the source of funding (public, private, foreign investment) made not difference to these outcomes.
Higher R&D spending has the greatest impact on industry and the research sector. The industry sectors that benefit the most are those that manufacture differentiated products and therefore benefit from product and innovations in process efficiencies. These include pharmaceuticals, electronics, electrical equipment, chemicals, metal products, transport equipment. These sectors also generally compete in global and export markets compared to service markets which tend to be more localised.
The policy choices open to the Morrison Government start and end with the baseline question: How much is Government willing to spend over the next 5-10 years to back business recovery and growth? This is not about subsidising business but about helping them compete and grow export revenue.
Every other country is making very large long-term investments in this area. Not making a comparable commitment is not an option.
The first sign of this commitment is to scrap the R&D intensity test and undertake a credible analysis on its ability to drive revenue and export growth, business profitability and employment growth. Whilst we have become a service economy it is a low value-adding economy which inhibits GDP growth. This needs to change.
A sign of real commitment is to set aside a $20Bn Manufacturing Future Fund along the same lines as the Medical Research Future Fund. Its function would be to support the reshoring and growth of critical supply chains in Australia and to deepen our advanced manufacturing capabilities so that every sector can access these capabilities at a price that allows them to compete more effectively in global markets. Developing new products and services and becoming more efficient – in other words growing revenues, profits, exports and employing more people.