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For Official Use DSTI/STP/TIP(2011)15
Organisation de Coopration et de Dveloppement conomiques Organisation for Economic Co-operation and Development 30-Nov-2011___________________________________________________________________________________________
English - Or. EnglishDIRECTORATE FOR SCIENCE, TECHNOLOGY AND INDUSTRY
COMMITTEE FOR SCIENTIFIC AND TECHNOLOGICAL POLICY
Working Party on Innovation and Technology Policy
TIP THEMATIC WORKSHOP ON FINANCING R&D AND INNOVATION IN THE CURRENT
MACROECONOMIC CONTEXT: ISSUES PAPER
7 December 2011, OECD Conference Centre, Paris
Delegates will find attached the Issues Paper for the TIP Thematic Workshop on Financing R&D and Innovation
in the Current Macroeconomic Context to be held at the OECD Headquarters on 7 December starting at 9:00.
Delegates may wish to note that a second paper on "Entrepreneurial Financing of R&D and Innovation"
prepared for the TIP project on "Financing, Transferring and Commercialising Knowledge", which complements
this background paper, will be made available under reference code DSTI/STP/TIP(2011)14.
N.B. This document and any map included herein are without prejudice to the status of or sovereignty over any
territory, to the delimitation of international frontiers and boundaries and to the name of any territory, city or
area.
Contacts:Caroline Paunov, Email: [email protected], Tel: + 33 1 45 24 90 40;Dominique Guellec, Email: [email protected], Tel: + 33 1 45 24 94 39
JT03312490
Document complet disponible sur OLIS dans son format d'origine
Complete document available on OLIS in its original format
DSTI/STP/TIP(2011)15
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sh-Or.English
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INNOVATION IN THE CURRENT BUSINESS CYCLE
Summary
1. This background document to the TIP Thematic Workshop on Financing R&D and Innovation in
the Current Macroeconomic Contextdraws an initial picture of the impacts of the current business cycle on
innovation. The discussion is organized around eight key questions; below is a summary of the preliminary
answers the document provides:
Question 1: What to expect for innovation as a result of the crises? Innovation might both thrive and suffer during downturns in reaction to the decrease in demand, the
lack of liquidities in the financial system, increased uncertainties and the tightening of public budgets.
A lot of the evidence on past recessions points to negative impacts on innovation activities.
Question 2: What has happened to innovation?Innovation activities decreased during the global financial crisis; this is the case for firm-level
indicators as well as aggregate statistics on private-sector R&D, patenting and trademark registrations.
However, there is some evidence pointing to an increase in innovations aimed at enhancing efficiency.
Question 3: Did the global downturn lead to creative destruction?Substantial firm exit has not been accompanied at the same time by entry. The result has been a
persistent increase in unemployment levels and, in consequence, a break-down of the creativedestruction process as new innovative businesses have not entered markets (yet).
Question 4: What has happened to innovation financing?Innovators had a harder time in accessing external financing independently of whether they sought
access to banking credit or venture capital during the global financial crisis. While the situation
improved subsequently problems resurfaced in the second half of 2011.
Question 5: What about the role of low demand and substantial uncertainties?The declines in consumer demand and uncertainties as to the recovery were probably substantial factors
behind firms weak innovation performance.
Question 6: Will there be impacts on the global distribution of leadership in innovation?
The strong growth performance of some emerging economies compared to developed countries hasgiven them the opportunity to catch-up in terms of innovation continuing a trend that pre-dates the
crisis.
Question 7: Is there a risk of long-term effects on innovation-based growth?With sluggish growth and substantial uncertainties potential long-term consequences become
increasingly likely. While there is no evidence as yet on harmful disruptions to innovation investments
or loss in leadership, potential losses in skills that are essential for innovation already constitute a risk.
Question 8: What about innovation policy at present?While strong innovation performance contributes to raising growth prospects high levels of public
spending in its support might be a challenge for tight public budgets. Innovation policies at present need
to i) foster positive long-term trends in innovation performance, and ii) avoid possible long-term
damages to innovation systems caused by the crises themselves.
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Introduction
2. The collapse of Lehman Brothers in September 2008 led to a major global economic crisis that
was unprecedented in its magnitude in at least half a century. World GDP retracted as did industrialproduction, trade collapsed even more substantially and unemployment increased in many of the worldsmajor economies. A moderate short-lived recovery took off by the end of 2009 which continued with some
notable exceptions in 2010 and the first half of 2011. Market speculations over the sustainability of
sovereign debt and the challenges involved in negotiating fiscal consolidation lowered expectations for a
fully-fledged quick recovery of the world economy. Because of the substantial impacts on the worldsmajor economies output, on global financial institutions (which hold a central role as intermediaries forbusinesses and their innovation investments) and on public finances (which provide key support to
innovation systems) the current business cycle downturn cannot be disregarded when it comes to
innovation. Innovation performance is certainly mainly the result of underlying structural rather than
business cycle factors. The exceptional nature of the current macroeconomic context, however, renders the
impacts of the business cycle much more important for innovation.
3. Overall the global financial crisis has led to a sharp decrease in innovation investments. The
evidence also suggests that the process of creative destruction whereby more innovative busines ses enterand the least innovative exit has broken down with the onset of the global financial crisis. Notably,
persistent high rates of unemployment point to a substantial waste in resource deployments. The global
financial crisis rendered business access to banking credit more difficult and available venture capital
financing decreased substantially. There are early signs to suggest the 2010 recovery process of innovation
was but short-lived specifically but not only for Europe. The intensity and prolonged nature of the
downturn raises serious concerns over potential long-term scars on innovation systems: the substantial
increase in long-term unemployment rates threatens to reduce available skilled human capital even after
the downturn. The 2010 recovery in private R&D for the worlds leading businesses suggests, however,that their R&D processes were not fundamentally damaged after the slowdown of 2009. Moreover, both
crises have affected developed countries much more strongly than some of the emerging economies; thisseems to have facilitated pre-crisis trends in catching-up in terms of their innovation performance. Finally,
public policies are not powerless and should, in particular, aim at reducing potential threats for long-term
innovation-based growth. This has to also involve addressing long-term unemployment rates. With
constraints on public finances answers will not be easy and probably require smart ways of making more
out of less and relying on partnerships with the private sector to design innovation-based recovery
processes.
4. This background document to the TIP Thematic Workshop on Financing R&D and Innovation in
the Current Macroeconomic Contextdraws a first picture of the impacts of the global financial and public
debt crises on innovation. It builds on the 2009 study Policy Responses to the Economic Crisis: Investingin Innovation for Long-Term Growth (OECD, 2009). The discussion is organized around eight key
questions where preliminary answers are provided based on what we know from past crises and theavailable statistical evidence. The OECD and the TIP in particular can play a substantial role in identifying
policy priorities for STI policy in this evolving context. The Workshop will provide an opportunity for
corresponding discussions to inform the forthcoming Science, Technology and Industry Outlooks chapteron innovation in the current business cycle.
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Question 1: What to expect for innovation as a result of the crises?
5. What does not kill you makes you stronger. Nietzsche is credited for a popular quote which, if
applied to the current context, reflects a somewhat less pessimistic outlook. In fact, Joseph Schumpeter hasfamously argued that a process of creative destruction while painful is precisely what fosters innovationsand progress as the old and familiar has to be left behind for the new and better. From that perspective the
downturn might have offered opportunities for innovators and innovation systems. Before turning to what
to expect for innovation below, Box 1 briefly discusses the three dimensions of the global financial and
sovereign debt crises that are most essential for innovation.
Box 1: The global financial and sovereign debt crises: Effects of relevance to innovation
Three aspects of the present context warrant caution over simplified confidence in merely marginal impacts of thecurrent downturn on innovation:
First, innovative businesses in many developed economies have been confronted with lower demand for their
products and substantial uncertainties over future trends in consumption. The shock of the global financial wasunprecedented in its magnitude in at least half a century and even beats some negative records established bythe Great Depression (Almunia et al., 2009, Reinhart and Rogoff, 2009). Innovators were not exempted from thedownturn: high-tech companies saw their revenues decrease substantially also due to the fact that the demand forhigher quality innovative products trends to decrease during recessions (Lien, 2010, Piva and Rossi-Lamastra,2011). Subsequently to the global financial crisis most developed economies have known but a short-lived andoften incomplete recovery. By the end of 2011 substantial uncertainties over quick recovery prospects had risen inresponse to increased concerns over sovereign debt and limited opportunities for consumption to recover quicklydue to deleveraging. The historic evidence also points to a slow recovery process (Reinhart and Rogoff, 2009).
Second, public support for innovation faces potential challenges as fiscal consolidation has become a top priority.High levels of sovereign debt and markets speculations over potential sovereign default re strain the scope forpublic policy interventions. Fiscal consolidation has not only been at the forefront of policy discussions in Europebut also in the United States and Japan. Moreover, population ageing will likely over the medium-run add further
pressure on pension and health budgets and challenge governments possibilities for prioritising investments inlong-term growth, including factors in support of innovation such as education, innovation projects andinfrastructure.
Third, fragilities in the banking sector pose a threat to innovative businesses opportunities to receive externalfinances. The 2008-2009 global financial crisis exposed substantial vulnerabilities in the global financial system(Reinhart, 2011). The stability of the banking sector in Europe and beyond remains fragile with markets speculatingover sovereign default risks (IMF, 2011a,b). The quick expansion of investment credit in China for 2009-2010 hasalso led some to question the quality of some of the financed projects adding to other challenges of the Chinesebanking system (IMF, 2011a).
6. The global financial and sovereign debt crises as described in Table 1 have had four types of
effects on the private sector: i) a reduction in the demand for products, ii) a reduction in liquidities in the
financial system, iii) an increase in uncertainties as to future developments as well as iv) impacts on
innovation policy. These can via several mechanisms, as described in column 2, have impacts oninnovation performance and investments. Column 3 shows implications for innovation can both be positive
and negative. While few exceptions (Nickell et al., 2001, Francois and Lloyd-Ellis, 2008), the pro-
cyclicality of R&D and innovation has been observed over various business cycles and for a variety of
countries (e.g. Griliches, 1990, Broda and Weinstein, 2010, Barlevy, 2002, 2007, Comin and Gertler, 2006,
Fatas, 2000, Francois and Lloyd-Ellis, 2009, Rafferty, 2003, Walde and Woitec, 2004).
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Table 1: Potential expected effect of various aspects of the global financial and public debt crises on R&D, innovation and entrepreneurship
Direct effects Mechanism how innovation is affected as a result Impact on innovation including examples and evidence from past downturns
Reduceddemand forgoods andservices
Demand Effects - Ambiguous impact oninnovations as the downturn likely reduces thedemand for innovative goods as these are oftenmore expensive and/or durable goods whosepurchase can be more easily postponed butdownturns possibly also increase demand forcertain innovative products specifically thoseoffering lower prices and/or responding better to
altered demand during recessions
Innovation: Negative for certain product innovationbut positive for processinnovations as well as product innovations aimed at reducing costs/prices (e.g.low-cost airlines grew out of the recession in the early 1990s)Entrepreneurship/ Firm Dynamics:Fewer market opportunities exist for younginnovative firms except for those with business model aimed at responding to demandfor lower priced goods. High-potential entrepreneurs react more to the presence ofgood business opportunities (than marginal entrepreneurs who are more likely torespond to labour market conditions). They will affect innovation performance
(Koellinger and Thurik, 2011).
Competition Effects - Competition might increaseas gaining other firms market shares is the only wayto maintain sales levels
Innovation: Impact on innovation depends link between product market competitionand innovation, trade-off between rents from less competition and incentives forinnovation to escape competition (Schumpeter, 1942; Nickell,1996; Aghion et al.,2005a)Entrepreneurship/ Firm Dynamics:Competition leads to creative destruction processes and the failure of incumbent
less innovative firms. It can facilitate opportunities for entrepreneurshipimproving aggregate innovation performance (Hall, 1991, Mortensen andPissarides, 1994, Caballero and Hammour, 1994, 1996 and Gomes, Greenwoodand Rebelo, 2001). Evidence in support: Bailey et al., 2001, Foster et al., 1998.Disney, Microsoft, Hewlett-Packard, Oracle and Cisco were created duringdownturns.
However, young firms with substantial innovation capacities in the futuremight be forced to exit during recessions before they have fully developed theirpotential, crushing possible set-up costs spent in building up firms innovationsystems (Ouyang, 2011).
Cash Flow Effects - Firms cash flows are possiblyreduced, fewer internal resources are available to
cover operational expenses
Innovation: Negative for innovation activitiesif external financing is notavailable, specifically small and young firms might lower investments as they face
greater risks of being forced to exit and face stronger financing constraintsEntrepreneurship/ Firm Dynamics:
Exit of innovative businesses can resultif external financing constraints exist(Barlevy, 2002). Evidence for such effects during recessions includes Sawnson andTybout, 1988, Eslava et al., 2010, Baden-Fuller, 1989, Nishimura et al., 2005,Hallward-Driemeier and Rijkers, 2011.
However, layoffs and lower wage and/or force firm exit reduce opportunitycosts of entrepreneurship, increase individuals willingness to take on greaterrisks and increase the availability of qualified labour during downturns (Koellinger,2008, Audretsch, 1991, 1995)
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Direct effects Mechanism how innovation is affected as a result Impact on innovation: examples and evidence from past downturns
Inter-temporal Resource Allocation Effects -Firms opportunity costsof investing ininnovation at the expense of spending on theproduction of output are lower with low demand(Caballero and Hammour, 1996, Cooper andHaltiwanger, 1993, Aghion and Saint Paul, 1998),Private payoffs for innovations are higher whendemand is at its peak (Barlevy, 2007)
Innovation: Firms invest more in innovation and less on production during thedownturn to reap higher payoffs in the future i.e. at the peak of the recovery - butkeep innovations for the future. The time lag between investment and private payoffsto innovation will ultimately determine whether the recession should have positive ornegative effects on innovation.Entrepreneurship/ Firm Dynamics: Entrepreneurs might postpone entry withinnovations as to when markets recover and demand is higher
Reducedliquidity of
the financialsystem
Reduction in loans due to deleveraging affects alltypes of investments, notably of SMEs (as they rely
more on financing from loans than large firms).Market failure in credit markets might be worse aslower cash flows mean firms have less collateral(Bernanke and Gertler, 1995).
Investors have fewer resources to allocate acrossinvestment projects
Innovation: Lack of financing negatively affects innovation during downturns(Aghion et al., 2005b, 2008; Krozner et al.,2007; Dell'Ariccia et al., 2008). Evidence
on variation in the volume of venture financing with the business cycle (Gompers andLerner, 1998, 1999, Kaplan and Schoar, 2005).Entrepreneurship /Firm Dynamics: Reduces innovative start-ups entry (Lerner,2011). Evidence on negative firm dynamics due to insufficient entry Caballero andHammour, 1994, Parker, 2009, Bailey et al., 1992
Uncertaintiesaffectingdemand andfinance
Uncertainties might reduce the number of riskyinvestments by investors, banks and firms,specifically as sunk costs of such investmentsprovide incentives to postpone them (Pindyck, 1991)
Innovation: Firms might be less willing to face uncertainties and risks associatedwith introducing new products and/or processes since the latter might compromisesurvival if demand evolves unexpectedly (Fernandes and Paunov, 2011). Entrepreneurship/ Firm Dynamics: Limited firm entry can also be caused by
uncertainties. Entrepreneurs will wait prefer to wait for greater certainty as to therecovery of demand as well as financial markets.
Publicbudgetarysituation
Policy makers do not address challenges posed byinnovation given other priorities and/or lower publicresources or alternatively focus specifically oninnovation
Innovation as well as Entrepreneurship / Firm Dynamics: To the extent thatbusiness innovation and R&D are positively linked to public R&D and support, theywill vary in the same direction.
Recovery packages vs. fiscal discipline affect publicexpenditure as it relates to innovation
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Question 2: What has happened to innovation?
7. The available evidence on firms shows innovation activities declined. Among 4,238 European
firms a larger share decreased their innovation spending at the onset of the global financial crisis compared
to the pre-crisis period (26.7% relative to previous 10.8%). However, more than half of the interviewed
firms maintained their levels of innovation spending (Archibugi and Filippetti, 2011). Furthermore,
evidence from the World Bank Financial Crisis Survey for 2008-2009 on firms across six countries -
Bulgaria, Latvia, Lithuania, Hungary, Romania and Turkey shows that R&D investments wereprocyclical during the global financial crisis (Mnnasoo and Merikll, 2011). Also, among more than
1,500 Latin America firms one in four stopped innovation investment projects in response to the global
financial crisis (Paunov, 2012). The same pattern is true for the worlds top R&D investors; their R&Dspending decreased by 1.9% in 2009. It recovered in 2010 increasing by 4% to 456 billion (EC, 2011).
8. Aggregate innovation performance indicators similarly reject the hypothesis that the downturn
fostered innovation. Patenting activity if PCT filings are considered decreased compared to 2007: Figure 1and Table 2 show worldwide trends and trends for a selection of countries: the decline was specifically
pronounced for some of the major contributors including the United States, Canada and Germany. For
some countries as e.g. the United States 2010 marked a further decrease relative to 2009 whereas for others
including Germany there was a recovery although 2007 levels were not attained. China and South Korea,
by contrast, continued to increase filings substantially in 2010. Preliminary statistics for 2011 indicate a
substantial recovery with, however, some notable exceptions including the United States and the United
Kingdom. The global financial crisis also led to persistent below-trend trademark registrations (Figure 2).
Similarly businesses R&D spending declined in 2009 compared to 2008 for some of the major economies(Figure 3).
Figure 1: Trends in the number of PCT patent filings for selected countries
(2007 = 100)
50.0
75.0
100.0
125.0
150.0
2004 2005 2006 2007 2008 2009 2010 2011*
USA Japan
Germany Korea
Total
Source: WIPO Statistics Database
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Table 2: Trends in the number of PCT patent filings for selected countries
(2007 = 100)
2004 2005 2006 2007 2008 2009 2010 2011*
United States 80.3 86.8 94.9 100 95.6 84.4 83.2 86.8
Japan 73.1 89.6 97.4 100 103.7 107.4 115.9 137.0
Germany 85.4 89.7 93.9 100 105.8 94.3 98.6 101.1
China 31.3 45.9 72.3 100 112.2 144.8 225.4 330.1
Republic of Korea 50.2 66.3 84.2 100 111.8 113.7 136.9 144.1
France 79.0 87.5 95.4 100 107.8 110.3 110.4 123.5
United Kingdom 90.9 92.0 92.0 100 98.6 91.0 88.3 87.7
Switzerland 75.8 85.9 94.5 100 99.1 95.8 97.3 112.1
Sweden 78.0 78.9 91.3 100 113.2 97.6 90.6 101.3
Netherlands 96.6 101.5 102.7 100 98.4 100.7 91.7 75.4
Canada 73.0 80.4 89.4 100 103.4 87.8 93.7 108.7
Italy 74.1 79.7 91.6 100 97.9 90.0 90.2 99.9Others 77.6 87.1 92.3 100 107.3 100.7 106.0 107.8
Total 76.7 85.5 93.6 100 102.1 97.2 102.7 113.1 Note: 2011 data are obtained on using linear projections for August-December 2011
Source: WIPO Statistics Database,
Figure 2: US gross domestic product and trademark applications at the USPTO, 1999-2011
Comparing cycles, by type of trademarks, percentage deviation from the long-term trend
-3.75
-2.50
-1.25
0.00
1.25
2.50
3.75
5.00
6.25
7.50
8.75
-30
-20
-10
0
10
20
30
40
50
60
70
Goods trademarks Services trademarksFinance, insurance and real estate trademarks US gross domestic product (right-hand scale)%
%
Source: OECD (2011a)
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Figure 3: Trends in business enterprise expenditure on R&D for a selection of countries
(2007 = 100)
70
75
80
85
90
95
100
105
110
115
2004 2005 2006 2007 2008 2009 2010
Canada
Finland
France
Germany
Israel
Italy
Japan
United
Kingdom
Note: The following data points are provisional: Canada - 2010, Germany - 2009, Israel- 2009, 2010, Italy - 2009, 2010, UK -2010. The following statistics are national projections or estimates: France, 2009 Finland -2010. Note that data for Israelacross all years exclude the defence sectors spending.
Source: OECD MSTI Database 2011-1
9. However, innovations aimed at improving efficiency have possibly increased in response:
Among respondents to a survey of about 1,500 Latin American the number of firms that introduced process
innovations from 2008 to 2009 increased (Paunov, 2012). This might indicate that firms sought efficiency
improvements in their production processes to face the economic crisis. Also, some respondents to asurvey of 532 senior executives by McKinsey said that while the global financial crisis led to reductions in
R&D it also allowed for efficiency improvements in the way R&D was conducted: This included
improving the accountability for performance and spending, increasing collaboration with outside R&D
groups and the streamlining of core R&D processes (McKinsey, 2010).
Question 3: Did the global downturn lead to creative destruction?
10. Creative destruction - a process whereby economic downturns force incumbent less innovative
firms to exit and allow entry of more innovative firms can play a powerful role in improving overallinnovation performance (see also Table 1). In consequence, it matters substantially for growth (Aghion and
Howitt, 1992). The available evidence suggests the creative destruction process has broken down with
the onset of the crisis. Figures 4 and 5 provide information on enterprise creation and bankruptcies fromofficial business registries for a selection of countries. There is a clear decrease in the rate of enterprise
creation that tends to be most pronounced in the first half of 2009. The downward trend differs somewhat
across countries with larger declines for Australia, France, Denmark, Spain and Norway than for Finland,
Germany, Italy and the United Kingdom. Only few countries manage to return to levels attained in the pre-
crisis period: the U.S. rate of enterprise creation continues to be below the 2006 rate and there is an
apparent absence of recovery in firm creation for Denmark and Spain. At the same time bankruptcies also
increased substantially in some of the countries with weak firm entry, the United States and Denmark stand
out as clear examples.
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Figure 4: Enterprise creation
(2006 = 100)
50
60
70
80
90
100
110
120
130
Q12006
Q22006
Q32006
Q42006
Q12007
Q22007
Q32007
Q42007
Q12008
Q22008
Q32008
Q42008
Q12009
Q22009
Q32009
Q42009
Q12010
Q22010
Q32010
Q42010
Australia
Finland
France
Germany
ItalyDenmark
Figure 5: Number of bankruptcies
(2006 = 100)
50.0
100.0
150.0
200.0
250.0
300.0
350.0
Q12006
Q32006
Q12007
Q32007
Q12008
Q32008
Q12009
Q32009
Q12010
Q32010
Australia
Canada
Japan
Denmark
Finland
50.0
100.0
150.0
200.0
250.0
300.0
350.0
Q12006
Q32006
Q12007
Q32007
Q12008
Q32008
Q12009
Q32009
Q12010
Q32010
FranceNetherlands
Norway
United Kingdom
USA
Source: OECD (2011b)
11. High exit, but low entry results in a substantial increase in unused resources, notably of labour,
this represents a costly downside to recessions. The global financial crisis led to a rise in unemployment
rates with no or only moderate returns to pre-crisis unemployment levels. Ireland, Spain, Greece and
Hungary have had unemployment rates in the double-digits since mid-2009. While the increase has been
more moderate for other countries unemployment rates have often remained at pre-crisis levels; this is for
instance the case for Canada, the United Kingdom and the United States. Korea, Norway and particularly
Germany are notable exceptions. Figure 6 shows that for Spain, the United Kingdom and the United States
the unemployment rate of workers with tertiary education also increased.
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Figure 6: Annual unemployment rate for workers with tertiary education for selected countries
0.0
2.0
4.0
6.0
8.0
10.0
12.0
14.0
2005 2006 2007 2008 2009 2010 2011*
Spain
United Kingdom
United States
Note: Data for 2011 are based on information for the first half of 2011 only.
Source: ILO Department of Statistics, November 2011
Question 4: What has happened to innovation financing?
12. A lack of available external resources to finance innovation activities especially when cash flows
are reduced is one of the major explanations for pro-cyclical innovation investment patterns (Table 1). It is
well known that the specificities of innovation investments render obtaining external financing more
challenging (Hall and Lerner, 2009, for a comprehensive overview). Interestingly, Lerner (2011) suggests
the efficiency of venture capital investments could be improved if the reverse was true since these
investments appear to be deployed much less effectively during boom periods.
13. With regards to venture capital markets, Figure 7 shows a sharp decline in the numbers of
venture capital deals for the United States as the global financial crisis set in. A comparable trend was
observed in Europe. Funding for new entrepreneurial endeavours from other sources during the creditcrunch has proven to be nearly impossible as a consequence of the financial markets collapsing with
pension funds, (university) endowments and wealthy individual investors reluctant to fund ventures.
Moreover, increasingly risk-adverse investors were reluctant to commit to new obligations (Lerner, 2011).
While by last quarter of 2009 a recovery process set in the market has not returned to its 2008
performance. The pattern applies similarly across different industries.
Figure 7: Venture capital investments in the United States across by sectors: Number of deals
(Quarterly, 2006 3rd
quarter of 2011)
0
200
400
600
8001,000
1,200
1,400
Qtr12006
Qtr22006
Qtr32006
Qtr42006
Qtr12007
Qtr22007
Qtr32007
Qrt42007
Qtr12008
Qtr22008
Qtr32008
Qtr42008
Qtr12009
Qtr22009
Qtr32009
Qtr42009
Qtr12010
Qtr22010
Qtr32010
Qtr42010
Qtr12011
Qtr22011
Qtr32011
Other Sectors Computer and ICT
Media and Entertainment Industrial/Energy
Medical Devices, Equipment and Healthcare Services Biotechnology
Source: PricewaterhouseCoopers/National Venture Capital Association MoneyTree Report
based on data from Thomson Reuters
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14. Banks lending activities have also changed during the global financial crisis. Evidence from theOctober 2011 European Central Banks (ECB) Bank Lending Survey indicates banks enterprise creditstandards tightened widely with the global financial crisis. It is also worth noting the upward trend in the
third quarter of 2011 (Figure 8). It will matter to understand the underlying reasons for such changes in banks lending behaviouras this plays a role when it comes to designing policies in support of thefinancing for innovation. Responses to the same survey indicate that one reason is banks liquidityposition. The uncertainties about general economic situations, however, are also part of the explanation.
Figure 8: Changes in credit standards applied to the approval of loans or credit lines to enterprises
(net percentage of banks reporting tightening of credit standards)
-20
-10
0
10
20
30
40
50
60
70
Jan-06
Apr-06
Jul-06
Oct-06
Jan-07
Apr-07
Jul-07
Oct-07
Jan-08
Apr-08
Jul-08
Oct-08
Jan-09
Apr-09
Jul-09
Oct-09
Jan-10
Apr-10
Jul-10
Oct-10
Jan-11
Apr-11
Jul-11
Oct-11
Overall Loans to small and medium sized enterprises
Loans to large enterprises Short-term loans
Long-term loans
Source: ECB Bank Lending Survey
15. There is no evidence yet as to the impacts of financing constraints on innovation. To the extent
that similar factors affected innovation as export performance, the findings by Chor and Manova (2010)
which show U.S. exports declined more substantially in sectors with greater financing needs supports the
hypothesis that financing constraints have played a substantial constraining role in constraining firmsactivities.
16. Beyond questions of access to banking credit, strong uncertainties and volatilities in stock
markets in the current business cycle pose challenges for alternative financing opportunities, as well. There
is the open question as the high market valuation of high-tech companies stocks. Substantial volatilities infinancial markets also relate to the recently much-debated question how financial markets activities relate
to expectations about companies or investments long-term growth prospects.
Question 5: What about the role of low demand and substantial uncertainties?
17. The declines in consumer demand and uncertainties as to the recovery were probably substantial
factors behind weak innovation performance. Responses to the ECBs Bank Lending Survey suggest firmsdemand for loans from banks decreased substantially during the global financial crisis (Figure 9). Also,
more than 70% of firms in each of the six Eastern European countries (Bulgaria, Hungary, Lativa,
Lithuania, Romania and Turkey) interviewed for the World Banks Financial Crisis survey said theprimary impact of the crisis was a drop in demand for their products (Ramalho et al., 2009). Finally, asked
about major challenges a larger percentage of firms were preoccupied about factors related to product
marketsi.e. finding customers and competitionover access to finance. Figure 10 shows responses for
SMEs; the evidence on large firms is closely similar on that dimension.
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Figure 9: Changes in demand for loans and credit lines to enterprises
(net percentage of banks reporting positive loan demand)
-35
-30
-25
-20
-15
-10
-5
0
5
10
1520
Jan-06
Apr-06
Jul-06
Oct-06
Jan-07
Apr-07
Jul-07
Oct-07
Jan-08
Apr-08
Jul-08
Oct-08
Jan-09
Apr-09
Jul-09
Oct-09
Jan-10
Apr-10
Jul-10
Oct-10
Jan-11
Apr-11
Jul-11
Oct-11
Overall Loans to small and medium sized enterprises
Loans to large enterprises Short-term loans
Long-term loans
Source: ECB Bank Lending Survey
Figure 10: Most pressing problem faced by SMEs in the Euro area
(percentages)
27
14
17
9 9
5
14
4
2423
1213
88
12
1
28
15 15
11
13
78
3
25
14
1614
13
7
9
2
0
5
10
15
20
25
30
Finding
customers
Competition Access to
finance
Costs of
production or
labour
Availability of
skilled staff or
experienced
managers
Regulation Other Don't know
1 2009 2 2009
1 2010 2 2010
Source: ECB Survey on the Access to Finance of SMEs
Question 6: Will there be impacts on the global distribution of leadership in innovation?
18. As described in Section 1 while the global financial crisis certainly had global repercussions in
developed and developing economies alike particularly, Asian economies as well as certain other countries
including Brazil continued to grow in 2009. The sovereign debt crisis had an even more pronounced
differential effect on developed compared to developing economies with corresponding differences in the
impacts on innovation systems. Moreover, OECD growth forecasts predict Brazil, China, India and
Indonesia will have much higher growth rates than the OECD in 2011 and 2012 (OECD, 2011c). Such
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differential macroeconomic circumstances might facilitate further catching-up specifically of the BRICs in
terms of their innovation performance.
19. Effectively, a comparison of the worlds leading R&D investors shows that the recovery patternof 2010 R&D was highly unequal with much more substantial R&D investments for China (29.5%), SouthKorea (20.5%), India (20.5%) and Taiwan (17.8%) compared to more moderate increases of 6.1% and
10% for EU and U.S. companies (EC, 2011). Moreover, while the statistics below should be considered
with due caution, it is interesting to observe in Figure 11 evidence that China s and South Koreasperformance differs substantially from that of the United States that has known a substantial decrease in its
share of PCT filings with the onset of the global financial crisis. The evidence on pre-crisis years shows the
decline reflects a trend that predates the downturn. However, it remains to be seen whether the crisis
effectively facilitated in particular Chinas positioning. Notably, Chinas specialisation in lower quality
production helped reduce negative impacts of the global downturn; this might in reverse cause more
substantial losses during the recovery (Berthou and Emlinger, 2010). This potential negative demand shock
on Chinese goods might (due to diverse mechanisms as described in Table 1) in turn have negative effects
on innovation in China.
Figure 11: Country shares in total PCT filings (%), 2000 July 2011
40.8 39.8 37.4 35.6 35.4 3 4. 3 3 4. 3 33.8 31.6 29.4 27.4 26.3
10.3 11.0 12.7 15.1 16.5 18.2 18.117.3 17.6 19.2 19.6 22.4
13.5 13.0 13.0 12.7 12.4 11.7 11.2 11.1 11.6 10.8 10.7 9.9
0.8 1.60.9
1.1 1.4 1.8 2.6 3.43.7 5.1 7.5 8.5
1.7 2.12.3
2.6 2.9 3.44.0
4.44.8
5.2 5.95.74.4 4.3 4.6 4.5 4.2 4.2
4.2 4.14.3
4.7 4.44.25.2 5.1 4.9 4.5 4.1
3.7 3.4 3.5 3.3 3.23.0 2.8
23.4 23.1 24.2 23.8 23.0 22.7 2 2. 3 22 .3 22.9 22.5 21.620.2
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011*
Others
UK
FRA
KOR
CHN
DEU
JPN
USA
Source: WIPO Statistics Database,* Note that information on 2011 contains information up to July 2011 only.
Question 7: Is there a risk of long-term effects on innovation-based growth?
20. The magnitude of costs of the global downturn will be much higher if innovation systems aremore permanently affected. With sluggish growth recovery performance and substantial uncertainties
potential long-term consequences (which are referred to as hysteresis effects) are increasingly likely. The
fact that downturns specifically if related to financial crises can bring about long-run negative costs to the
economy has been established by a variety of studies (e.g. Abiad et al., 2009, Cerra and Saxena, 2008,
Calvo et al., 2006, Rafferty, 2003). Evolutionary approaches to the economics of innovation following
Nelson and Winter (1982) describe the potentially substantial hysteresis effects of shocks (Metcalfe et al.,
2006, Dosi et al., 2010).
21. Five factors could, if affected, cause long-run effects on innovation systems: i) negative long-run
effects on human capital, ii) disruptions to investments that affect efforts of future innovations, iii) negative
impacts on technological leadership, iv) changes in attitudes towards innovation projects in financial
markets, and v) permanent changes to public support systems for innovation. At present it is difficult to
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provide a verdict about the latter two aspects since both financial markets and public innovation policy are
currently subject to substantial debate; potential implications on trends in innovation should be considered
when corresponding policy decisions are taken.
22. First, as to negative long-run effects on skillsa central element for innovation (OECD, 2010)the global financial and current crises have led to increased unemployment rates including among the
skilled involved in innovation activities (from firms that decide to downsize innovation-related activities in
particular in addition to innovative businesses that are forced to exit). Longer-term innovation effects from
lay-offs can arise in two ways:
Skilled human capital might be reduced if capacities and up-to-date knowledge are lost as isthe case for the long-term unemployed. In fast-paced high-tech sectors such as pharmaceuticals,
aeronautics and IT long spells of unemployment lower exposure to technology and, in
consequence, deplete available workers skills. High unemployment rates of college graduates
also pose a challenge since early-career unemployment can permanently scar integration into
the workforce along the entire career path.
At the business level dismissals can lead to permanent scars for innovation processes if laid -offemployees hold tacit knowledge which will be lost to firms as they leave. Such factors could
bring about a much slower recovery in innovation performance as new employees first need to
acquire such knowledge.
By contrast, a factor that might act as a counter-weight is an increase in training for those unemployed.
23. Substantial uncertainties over recovery processes suggest employment will not be quick to
recover; the potential risks for long-term effects due to unemployment are, therefore, important. In a
survey of 532 senior executives conducted by McKinsey some respondents worried that changes to R&D
could weaken available talent for future R&D activities (McKinsey, 2010). The current downturn mightalso accelerate long-term trends towards more flexible employer-employee relationships. As has been
widely noted information and communication technologies (ICTs) have altered work processes. More
specifically, they allow segmenting production processes increasingly and this includes highly-skilled tasks
which can be executed by short-term assignments. An advantage of such processes is that businesses face
no labour termination costs and, therefore, might be much less hesitant to re-hire. The question whether
such flexible employment relations support and/or weaken innovation processes needs to be tested.
24. Second, innovation investments that are not made in the present might likely have effects on
innovation performance in the near future as with limited investments the pool of opportunities for
successful innovations is reduced. Moreover, if businesses interrupt innovation investment projects then
resuming such activities might require larger upfront costs. This can in turn lead to a slower recovery of
innovation investments. The loss of tacit knowledge and the costs involved in establishing newarrangements for innovation can also slow down investments. At least for the worlds leading R&Dinnovators the substantial recovery of 2010 suggests that the shock of 2009 had not affected underlying
innovation investment capacities (EC, 2011). Yet the uncertainties of 2011 might pose challenges
particularly for smaller businesses. Finally, to the extent that some innovative firms exited overall
innovation investments might be lower at least until entry of comparable innovative businesses takes place.
The latter is as described above not the case at present.
25. Third, technological leadership would be at risk if key businesses relocated to form a cluster of
activities abroad in response to prolonged low demand in local markets, difficult financing conditions and
other challenges for operating their business. Such relocations might turn out to be irreversible and,
therefore, have an effect beyond the downturn if businesses find returning to their previous location not
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optimal even with a recovery. However, it would seem that a very long and severe recession only could
bring about such relocation even if the increasingly global nature of innovation and ICTs might change
dynamics of clusters.
Question 8: What about innovation policy at present?
26. Many governments implemented stability packages in reaction to the global financial crisis and
these often included substantial measures in support of innovation (OECD, 2009). Figure 12 illustrates
three distinct post-2008 trends in government expenditure on R&D: For the United Kingdom and Canada
spending remained at comparable levels to 2007, for Finland there was a notable increase in spending
while the reverse was true for Ireland. In the present context innovation policies have to succeed in striking
a balance: While strong innovation performance contributes to raising growth prospects high levels of
public spending in its support can be a challenge for tight public budgets. The way forward might consist
in exploring some of the following i)seeking greater efficiencies in public sectors innovation support, ii)concentrating funding in sectors of strategic relevance, and iii) exploiting co-operative arrangements in
support of innovation with the private sector.
Figure 12: Trends in government intramural spending on R&D (GOVERD) for selected countries
(2007 = 100)
80
90
100
110
120
2004 2005 2006 2007 2008 2009 2010
Canada
Finland
France
Germany
Ireland
Italy
Japan
United
Kingdom
Note: The following data points are provisional: Ireland - 2009, 2010, Italy - 2009, 2010, UK - 2010. The following statistics arenational projections or estimates: France 2009, Finland - 2010. Data for Israel across all years exclude the defence sectorsspending. Data for Germany include other classes as is also the case for the 2010 data for Finland.
Source: OECD MSTI Database 2011-1
27. Innovation policies at present need to focus on two objectives: the first consists in fosteringpositive long-term trends in innovation performance. In fact, in the United States the slowdown in new
business entry predates the global financial crisis (Haltiwanger, 2011). Across the OECD a productivity
slowdown also set in well before (Dupont et al., 2011). Therefore, low economic growth in the current
context might partly reflect deterioration in fundamentals and point to a need for structural support
policies. Similarly, low growth in some of the Southern European economies possibly also reflects well-
known weaknesses of prevalent innovation systems. At the same time the downturn has, as described
above, had impacts on innovation. The second objective, therefore, has to consist in avoiding possible
long-term damages to innovation systems caused by the crises themselves.
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28. The following seem important priorities at present:
Enhancing performance of public institutions in charge of innovation further
Avoiding costly and inefficient disruptions of innovation processes
Exploring regulatory changes in support of framework conditions for innovation
Addressing demand uncertainties to unleash innovation investments
Identifying effective ways for financing innovation and entrepreneurship
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