Building the entrepreneurial state

There is no point in talking about innovation, if economic policies  focused on austerity prevent key investments which can increase  productivity and human capital. There are five strategies that could drive a visionary industrial growth policy.

1. Do something different

As Keynes wrote in 1926 in The End of Laissez Faire, “The  important thing for government is not to do things which individuals are  doing already, and to do them a little better or a little worse; but to  do those things which at present are not done at all.”
His key insight was that private business investment is volatile and  pro-cyclical: too much during booms and too little during busts. To  avoid recessions turning into depressions, government needs to focus on  counter-cyclical policies — the opposite of what is happening today.  But the focus on “doing something different” is not just about  counter-cyclical measures. It is also about the need for government to  focus on policies that cause types of economic activity that would not  have happened otherwise. Industrial policy is about making this happen  in the areas of productivity enhancing investments that lead to growth  and innovation.

2. Transform animal spirits into investment

Since investment is driven by “animal spirits” (the gut expectations  that investors have on the future state of the economy), a key role of  government is to get that investment moving. Large reductions in  corporate tax rates did not increase investment in the 80s nor will they  today (they simply change income distribution). Government-led  investments that open up new technological and market opportunities  will. This includes not only properly funding education and research  infrastructures but also providing early financing for innovative firms,  and new key technologies, which private venture capital has proven too  risk averse to fund. Without the state there would have been no internet  revolution, biotech revolution or nanotech revolution. Without the  state, the green-tech revolution is still-born.
One of the failures of current UK policy is the assumption that firms  want to grow, and all they need is a “nudge” in the right direction.  While the Green Investment Bank is surely a positive development, it  assumes that the willingness to invest is there and all that is needed  is some co-financing. But “green” investment is currently confined to  incremental areas, and the government is not stepping in to fill the  gap. The UK’s investment of £12.6 billion in this area in 2009/10 is,  according to PIRC, “under 1 per cent of UK Gross Domestic Product; half  of what South Korea currently invests in green technologies annually;  and less than what the UK presently spend on furniture in a year”.

3. Market making not market fixing

What I have called the “entrepreneurial state”  is not about fixing markets but creating them. The state has acted in  the past as catalyst, lead investor and creator (not just facilitator)  of the knowledge economy. This requires far-sighted investments in  technologies that are too risky for the private sector, such as offshore  wind and carbon capture and storage. It also involves the creation of  clear policy signals that increase business confidence in areas that are  otherwise seen to be too high risk, such as feed-in tariffs for solar  energy (recently cancelled in the UK causing even more uncertainty and  less investment).
A more entrepreneurial role for government extends beyond procuring  innovative products to making them directly in public labs when the  private sector is reluctant to step in. Indeed, 75 per cent of the New  Molecular Entities with priority rating in the pharmaceutical industry  have originated in public sector labs, because private pharma is more  interested in the low risk “me too” drugs. It is the large amounts of US  public funds for life-sciences research (via the National Institutes of  Health) that has enticed Pfizer and GSK to leave the UK for the US.  From 1978 through 2004, NIH spending on life sciences research totaled  $365 billion.

4. Rebalancing indicators of performance

Creating markets is also about shaping the indicators that are used  to measure economic performance so they reward rather than penalise the  most innovative companies. In this sense, “rebalancing” is not  necessarily about sectors. It is more about redirecting “indicators of  performance” away from short run financial towards long run “real  economy” measures. Firms investing in expensive R&D and human  capital will have a higher risk profile, since innovation is so costly  and uncertain. The most innovative companies have suffered the largest  increases in the cost of credit.
Furthermore, the focus on boosting  stock prices through share buybacks (Fortune 500 companies have spent $3  trillion on buybacks over the last decade) has been shown to be  directly related to lower investments of these companies in human  capital and R&D. These are tradeoffs which industrial policy must  combat.
Battling against these problems includes devising policies that  nurture “patient capital” that can protect the flow of credit to the  most innovative companies. In Germany this occurs through the  state-backed investment bank – KfW, which works alongside the regional Landesbanken  as well as the large network of savings banks. Innovation in Brazil,  which has surpassed the UK as the world’s fifth largest economy, has  been directly funded by the Brazilian Development Bank. In the UK, a  National Investment Bank could today be formed relatively quickly out of  the nationalised RBS (an idea included in Cable’s leaked letter).  Selling it off would be a wasted opportunity.

5. Being first matters

China recently announced that it is spending $1.5 trillion over the  next five years in seven new key industries (including environmentally  friendly technologies and new generation IT). Its industrial policy is  its growth policy — its economic strategy. Similarly, after the crisis  hit in 2008, Germany increased its government funded RandD spending by  10 per cent, while the UK has since cut it by the same amount,  signalling very different visions of what will drive post-crisis  recovery.
Note EU-Digest: Mariana Mazzucato is Professor of Economics and RM Phillips Chair in  Science and Technology Policy at the University of Sussex. She is the  author of The Entrepreneurial State.




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