The Innovation Paradox · 2021. 4. 23. · Xavier Cirera and William F. Maloney Financed by....
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OVERVIEW
The Innovation Paradox
Developing-Country Capabilities and the Unrealized Promise of Technological Catch-Up
Xavier Cirera and William F. Maloney
Financed by
OVERVIEW
The Innovation ParadoxDeveloping-Country Capabilities
and the Unrealized Promise of Technological Catch-Up
Xavier Cirera and William F. Maloney
Financed by
This booklet is an overview of The Innovation Paradox: Developing-Country Capabilities and the Unrealized Promise of Technological Catch-Up. doi: 10.1596/978-1-4648-1160-9. A PDF of the final, full-length book, is available at https://openknowledge.worldbank.org/handle/10986/28341/, and print copies can be ordered at http://Amazon.com. Please use the final version of the book for citation, reproduction, and adapta-tion purposes.
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iii
Contents
Foreword .........................................................................................................................v
Acknowledgments ..................................................................................................... vii
The Innovation Paradox ...............................................................................................1
The Nature of Innovation in Developing Countries ....................................2
Explaining the Innovation Policy Paradox: The Importance of Complementarities .................................................................................2
The Innovation Policy Dilemma ...................................................................9
References .....................................................................................................15
v
Foreword
Productivity growth is critical for accelerating development. Poverty around the
globe cannot fall unless poorer countries raise their per capita incomes. Some of this
income growth will come from investing in better physical and human capital.
However, we know that a significant share of income growth derives from productiv-
ity growth, and specifically from innovations that render physical and human capital
more productive.
Understanding how innovations arise and are adopted and which policies can sup-
port them is important for development policy design. It is even more important
given the new wave of digitalization and automation that is rapidly altering econo-
mies around the world. One of the key findings of the research presented here is that
the observed low level of technological adoption in developing countries is a rational
response of firms to a range of conditions they face: barriers to accumulating physical
and human capital, low firm capabilities, and weak government capacity. Unlocking
the enormous growth potential of moving countries closer to the technological fron-
tier thus is not as simple as, say, providing additional incentives for research and
development. Moving countries closer to the frontier will require far-reaching policy
changes that tackle multiple constraints to technological adoption.
The research presented here is part of a longer research project on productivity led
by the Chief Economist’s Office of the World Bank’s Equitable Growth, Finance, and
Institutions Vice Presidency. We are confident that researchers and development
practitioners alike will highly value the new findings on innovation patterns and the
directions for development policies this report contains.
Jan Walliser
Vice President
Equitable Growth, Finance, and Institutions
World Bank Group
vii
Acknowledgments
This report was written by Xavier Cirera (Senior Economist, World Bank’s Trade
and Competitiveness Global Practice) and William F. Maloney (Chief Economist,
World Bank’s Equitable Growth, Finance, and Institutions [EFI] cluster). The authors
thank Jan Walliser (Vice President, EFI), Anabel González (Senior Director, Trade
and Competitiveness Global Practice), and Klaus Tilmes (Director, Trade and
Competitiveness Global Practice) for their support, as well as Esperanza Lasagabaster,
Paulo Correa, and Ganesh Rasagam, successive managers in the Innovation and
Entrepreneurship unit of the World Bank.
The work builds on a combination of analytical work by the authors and inputs from
a series of background papers whose research was carried out under the umbrella of the
project and related to earlier initiatives. The authors specifically thank Patricio Aroca
(Universidad Adolfo Ibáñez, Chile), Mariano Bosch (Inter-American Development
Bank), Edwin Goñi (Inter-American Development Bank), Carlos Molina Guerra
(University of Chicago), Albert Link (University of North Carolina), Vladimir López-
Bassols (Independent Consultant), Asier Mariscal (Carlos III University), Andres
Rodriguez-Clare (University of California, Berkeley), Leonard Sabetti (CERDI,
Université d’Auvergne), Mauricio Sarrias (Catholic University of the North, Chile), John
Scott (Dartmouth University), and Felipe Valencia (Bonn University) for their contribu-
tions, as well as Oscar Calvo-González, Leonardo Iacovone, Daniel Lederman, David
McKenzie, Silvia Muzi, Mariana Pereira-López, and Daria Taglioni at the World Bank.
The authors are especially grateful to Nick Bloom (Stanford University), Renata
Lemos (World Bank), Rafaella Sadun (Harvard Business School), John Van Reenen
(Massachusetts Institute of Technology), and Daniela Scur (Oxford University) for
their support with the World Management Survey and for ongoing discussions on
managerial practices. The authors acknowledge invaluable comments from José Miguel
Benavente (Inter-American Development Bank), Laura Chioda (EFI, World Bank),
Charles Edquist (Centre for Innovation, Research, and Competence in the Learning
Economy, Sweden), Keun Lee (Seoul National University), Bengt-Åke Lundvall
(Aalborg University, Denmark), Juan Rogers (Georgia Technological University), and
Luis Servén (Development Research Group, World Bank) for their work on the national
innovation system.
viii Acknowledgments
The policy chapters partially draw from the work on innovation policy by the
World Bank Trade and Competitiveness Global Practice and the Innovation and
Entrepreneurship unit in particular, as well as from various other innovation policy
activities at the World Bank, with specific inputs from Anwar Aridi, Jaime Frias, Justin
Hill, Natasha Kapil, and Juan Rogers (Georgia Technological University). The report also
bene- fited from the work on the Public Expenditure Reviews in Science, Technology, and
Innovation that was piloted in Colombia and later implemented in Chile and Ukraine.
The research on management and technology extension systems benefited from
work by the World Bank and the government of Colombia developing their techno-
logical program. The authors thank Paula Toro and Rafael Puyana (Departamento
Nacional de Planeacion, Colombia), Martha Lucia Perlaza, and the team at the National
Productivity Center (Cali, Colombia), as well as Eduardo Bitrán (Production
Development Corporation–CORFO, Chile) and Xavier Duran (University of the
Andes, Colombia), for extended conversations on the topic. In Asia, the authors bene-
fited from interviews with Junichiro Mimaki and Junko Motozawa (Small and Medium
Enterprise Agency, METI), Akihiro Takagi and Takenori Nasu (Japanese International
Cooperation Agency), and Kenji Fujita (Japanese Productivity Center). In Singapore,
the authors thank Audrey Lok and Mohamed Sirajuddin Jaleel (SPRING), and Guan
Wei Lee (Research and Enterprise Division, Ministry of Trade and Industry).
For their careful review of the entire document, the authors thank Martin Bell
(SPRU, University of Sussex), Nick Bloom (Stanford University), Paulo Correa (World
Bank), Paulo Figueiredo (FGV, Brazil), David McKenzie (World Bank), Carlo Pietrobelli
(UN-MERIT), Sudhir Shetty (World Bank), John Sutton (London School of
Economics), and Mary Hallward-Driemeier and Denis Medvedev at the World Bank.
The report also benefited from comments from World Bank colleagues Ali Abukumail,
Maja Andjelkovic, James Brumby (Director, Governance Global Practice), César
Calderón, Ana Cusolito, Mark Dutz, John Gabriel Goddard, Naoto Kanehira, Smita
Kuriakose, John Panzer (Director, Macro and Fiscal Management Global Practice),
Samuel Pienknagura, Jean-Louis Racine, Mariam Semeda, Siddharth Sharma, Michael
Wong, and Michael Woolcock.
The authors also thank Diletta Doretti and Susana Rey, as well as Bill Shaw and Nora
Mara, who edited the report. Rumit Pancholi, Susan Graham, and Patricia Katayama
provided production and acquisitions support.
Finally, the authors thank the following for financial support: the European Union;
the African, Caribbean, and Pacific Group of States Secretariat; and the governments of
Austria, Norway, and Switzerland, through the Competitive Industries and Innovation
Program trust fund.
1
The Innovation Paradox
Innovation—the invention of new ideas, and the introduction of new products, technolo-
gies, business processes, and ideas in the market—is central to the rise of advanced econo-
mies. It drives the process of creative destruction as new, productive firms enter the
market and old, unproductive ones exit (Schumpeter 1942), underlies modern growth
theory, and is the critical ingredient in historical accounts of how countries achieve pros-
perity. Its importance is captured by the classic metaphor of The Unbound Prometheus
(Landes 1969), referring to the Greek god who released the power of fire to humankind.
Yet in developing countries, Prometheus remains bound. Despite the vast potential
returns, developing countries encourage far less innovation, measured along a variety
of dimensions, than advanced countries. Firms and governments appear to be leaving
billions of dollars on the table in forgone productivity growth. This is the innovation
paradox.
The standard policy advice to resolve this paradox—to move into areas of produc-
tion thought to be more growth friendly—misses the critical point that countries
that are unable to innovate and be competitive in their current industries are unlikely
to do so in new industries.
Moreover, discussions about
innovation policy often omit
the question of who actually
implements it. The role public
servants, ministries, and agen-
cies play in ensuring or undermining the effectiveness of policy instruments is rarely
considered. This public sector role is a key element in most developing countries with
little implementation capacity.
Three factors help explain developing countries’ innovation paradox:
1. The critical complements to investments in innovation that are needed to
achieve high potential returns are missing.
2. The key firm capabilities—managerial and organizational practices—required
to pursue innovation and take it to market successfully are weak.
3. Government capabilities for implementing effective innovation policies are also
weak and limited.
Innovation policy in developing countries is more challenging and complex than in advanced countries because the market failures and missing complementarities are likely to be more acute.
2 The Innovation Paradox
This volume analyzes these factors, with the goal of contributing to more coherent and
effective policy making in developing countries to unleash the power of innovation.
The analysis draws on two important traditions, the neoclassical and the national
innovation system (NIS) literature, highlighting the common ground between them.
The Nature of Innovation in Developing Countries
New data allowed us to generate stylized facts about the nature of investments in inno-
vation that firms have undertaken at various stages in the development process. Firms
report innovating at all income levels and in all sectors. In developing countries, how-
ever, these investments often consist of marginal improvements in process or products,
rather than significant technology adoption or new product imitation. They very rarely
involve frontier research. Further, as a country’s per capita income rises, so too do its
investments in a wide range of inputs related to innovation, such as use of technology
licenses, purchase of equipment, and research and development (R&D), as well as
investment in outputs, such as patents or products new to the national or international
market (see figures O.1 and O.2).
These firm-level data reveal the innovation paradox: the coexistence of low levels of
innovation-related investment in developing countries with the dramatically high
returns that should accompany the adoption of more productive technology (techno-
logical adoption) and the catch-up of developing countries (Schumpeterian catch-up) to
the levels of productivity of advanced countries (the productivity frontier). What
explains this weaker effort in adopting technology, much less in introducing new prod-
ucts and services?
Explaining the Innovation Policy Paradox: The Importance of Complementarities
The increase in the use of the wide variety of inputs needed for the innovation process,
as well as physical and human capital, as countries develop (as shown in figures O.1 and
O.2), suggests a high degree of complementarity among the different factors necessary
for innovation. This co-movement also helps explain the innovation paradox. If a firm
(or country) invests in innovation but cannot also import the necessary technology,
contract or hire trained workers and engineers, or draw on new organizational tech-
niques, the returns to that investment will be low. That is, while it is true that the poten-
tial gains from Schumpeterian catch-up increase with distance from the frontier, the
availability of the factors of production necessary to realize them decreases.
Figure O.3 confirms the essential role of complementarities in realizing these
returns. The returns from investment in R&D initially do rise as predicted with coun-
tries’ increasing distance from the frontier. However, the lack of complementary factors
eventually becomes a binding constraint, causing the returns to innovation to decline,
and possibly even become negative, as shown by the inverted U-shape.
The Innovation Paradox 3
Source: World Bank innovation study team, using Enterprise Survey data (www.enterprisesurveys.org).
FIGURE O.1 As Countries Develop, Firms Introduce More Sophisticated New Products and Purchase More Licenses to Use Technology
DRC
GHA
KEN
NAMNGA
SSD
SDN
TZA
UGA
ZMBBGD
IND
NPL
PAK ALB
ARM
AZE
BLR
BIH
BGR
HRVCZE
EST
GEO
HUN
KAZ
KSV
KGZLVA
LTU
MKD
MDA
MNG
MNE
POLROM
RUS
SRB
SVK
SVNTJK
TUR
UKR
UZBEGY
ISR
JOR
LBN
MAR
TUNWBG
YEM
0
0.1
0.2
0.3
0.4
Shar
e of
firm
s
6 7 8 9 10 11
Log(GDP per capita)
Product innovation−new to national/internationalTechnology license
Countries with product innovationCountries with technology licenses
FIGURE O.2 As Countries Converge to the Productivity Frontier, R&D Intensity Rises
0
1
2
3
4
5
4.5 5.5 6.5 7.5 8.5 9.5 10.5 11.5
R&D/
GDP
(%)
Log (GDP per capita) in constant US$
a. Country level
(Figure continues on the following page.)
4 The Innovation Paradox
This insight has two key implications for innovation policy. First, the concept of the
national innovation system (NIS) must be expanded, as illustrated in figure O.4.
The policy maker’s concep-
tion of the NIS must go
beyond the usual institutions
and policies designed to offset
standard innovation-related
market failures (as indicated
in the left-hand side of figure).
The scope of the NIS must include broader complementary factors and supporting
institutions (as in the middle of the figure).
The second implication is that innovation cannot be supply driven; there must be
demand from firms that have the capabilities to innovate. On this demand side—the
firm and its decisions to innovate (shown on the right-hand side of figure O.4)—policy
makers must be concerned with the incentives for firms to accumulate the necessary
physical, human, and knowledge capital. Thus, policy makers must consider the overall
macroeconomic and competitive contexts, the trade regime, and the barriers to the
accumulation of all of these types of capital, such as credit markets, entry and exit bar-
riers, the business and regulatory climate, or the strength of the rule of law. Hence, in
Sources: World Bank innovation study team elaborations. For panel a, data are from Orbis (UNESCO). For panel b, data are from the World Bank Enterprise Survey (www.enterprisesurveys.org).Note: In panel b, the distance to the frontier is calculated as the difference between the firms’ log of sales per worker and the 95th percentile labor productivity in the sector for the entire dataset. Values for extreme sales per worker are excluded. The line represents smoothing linear fit. GDP = gross domestic product; R&D = research and development; UNESCO = United Nations Educational, Scientific, and Cultural Organization.
b. Firm level
0
5
10
15
Log
R&D
per w
orke
r (co
nsta
nt U
S$)
−13 −11 −9 −7 −5 −3 −1
Distance to frontier
FIGURE O.2 As Countries Converge to the Productivity Frontier, R&D Intensity Rises (continued)
What looks like an innovation problem, such as a low rate of investment in research and development, may not be one, but rather reflect barriers to accumulating other factors, including physical and human capital.
The Innovation Paradox 5
addition to the elements generally focused in the NIS (highlighted by the blue triangles
in figure O.4), developing country innovation policy must address the failures or
underdevelopment of a wider range of markets to realize the potential returns from
catch-up (indicated by the green triangles). The innovation agenda is, therefore, much
broader and more complex in these countries.
This complexity of the NIS has strong implications for conventional measures of
benchmarking innovation performance—such as comparing raw levels of gross
domestic expenditures on R&D across countries—since they are likely to be misleading
if they do not consider the existing stock of other complementary factors. A low level
of R&D may indicate unresolved problems in innovation per se, but may just as likely
reflect constraints in the accumulation of other factors. That is, low-income developing
countries that have weak education systems, or have capital markets or import restric-
tions that make it difficult to invest in physical capital, will not have high returns to
R&D or innovation more generally, and hence should not be targeting advanced-
country levels of R&D. Nonetheless, they may benefit from international scientific
training, international collaborative projects, and links among universities that can
transfer knowledge to domestic firms and universities.
Source: Goñi and Maloney 2017.Note: The figure uses quinquennials of cross-country data from 1960 to 2010 to estimate the rate of return to research and develop-ment (R&D) across the development process: 0.0 on the x axis is the frontier, and moving left represents progressively more distance from the frontier.
FIGURE O.3 For Countries That Are Far from the Technological Frontier, the Returns to R&D Increase Until a Point Where the Lack of Complementary Factors Depresses Them
ARG(
1966
–197
0)ARG(
2006
–201
0)
BGR(
1991
–199
5)BG
R(20
06–2
010)
BOL(
1996
–200
0)
BOL(
2006
–201
0)
BRA(
1976
–198
0)
BRA(
2006
–201
0)
CAN(
1966
–197
0)
CAN(
2006
–201
0)
CHE(
1986
–199
0)
CHE(
2006
–201
0)
CHL(
1981
–198
5)
CHL(
2006
–201
0)
CHN(
2006
–201
0)
COL(
1976
–198
0)
COL(
2006
–201
0)
CRI(1
976–
1980
)
CRI(2
006–
2010
)
CYP(
1981
–198
5)
CYP(
2006
–201
0)
CZE(
1996
–200
0)
CZE(
2006
–201
0)
DEU(
1976
–198
0)
DEU(
2006
–201
0)
DNK(
1976
–198
0)DN
K(20
06–2
010)
ECU(
1971
–197
5)ECU(
2006
–201
0)
EGY(
2006
–201
0)
ESP(
1966
–197
0)
ESP(
2006
–201
0)
GBR(
1976
–198
0)
GBR(
2006
–201
0)
GRC(
1966
–197
0)
GRC(
2006
–201
0)
GTM
(197
1–19
75)
GTM
(200
6–20
10)
HKG(
1996
–200
0)HK
G(20
06–2
010)
HND(
2001
–200
5)ID
N(20
06–2
010)
IRL(
1976
–198
0)
IRL(
2006
–201
0)
IRN(
2006
–201
0)
ISL(
1971
–197
5)
ISL(
2006
–201
0)
ISR(
1966
–197
0)
ISR(
2006
–201
0)
JOR(
1976
–198
0)JO
R(20
06–2
010)
JPN(
1966
–197
0)
JPN(
2006
–201
0)
KEN(
1966
–197
0)
KOR(
1966
–197
0)
KOR(
2006
–201
0)
LKA(
2006
–201
0)
LTU(
2006
–201
0)
LUX(
2001
–200
5)LU
X(20
06–2
010)MAR
(200
1–20
05)
MAR
(200
6–20
10)
MEX
(197
1–19
75)
MEX
(200
6–20
10)
MLT
(198
6–19
90)
NOR(
1966
–197
0)
NOR(
2006
–201
0)
NZL(
1991
–199
5)NZ
L(20
06–2
010)
PAN(
1991
–199
5)PA
N(20
06–2
010)
PER(
1976
–198
0)
PER(
2001
–200
5)
PHL(
1966
–197
0)
PHL(
2006
–201
0)
POL(
1991
–199
5)
POL(
2006
–201
0)
PRT(
2006
–201
0)
PRY(
2006
–201
0)
RUS(
1991
–199
5)
RUS(
2006
–201
0)
SAU(
2006
–201
0)
SEN(
1996
–200
0)
SGP(
1981
–198
5)
SGP(
2006
–201
0)
SVK(
1996
–200
0)SV
K(20
06–2
010)
TTO(
2001
–200
5
TTO(
2006
–201
0)
TUN(
1966
–197
0) TUN(
2006
–201
0)
TUR(
1971
–197
5)
TUR(
2006
–201
0)
UKR(
1996
–200
0)
UKR(
2006
–201
0)
URY(
1971
–197
5)
URY(
2006
–201
0)
USA(
1966
–197
0)
USA(
2006
–201
0)
VEN(
1971
–197
5)
VEN(
2001
–200
5)
ZAF(
1986
–199
0)
ZAF
(200
6–20
10)
–1.0
–0.5
0.0
0.5
1.0
1.5
Per
cent
age
incr
ease
in o
utpu
t per
uni
t of R
&D in
vest
men
t
2.0
2.5
3.0
3.5
4.0
–4.5 –4.0 –3.5 –3.0 –2.5
Distance from the technological frontier
–2.0 –1.5 –1.0 –0.5 0.0
6
Sour
ce: M
alon
ey 2
017.
FIG
URE
O.4
Th
e Ex
pand
ed N
atio
nal I
nnov
atio
n Sy
stem
(NIS
)
SUPP
LYAC
CUM
ULAT
ION/
ALLO
CATI
ON
Gove
rnm
ent o
vers
ight
, res
olut
ion
of m
arke
t and
sys
tem
ic fa
ilure
s, a
nd c
oord
inat
ion
DEM
AND
Firm
cap
abilit
ies
Unive
rsiti
es/th
ink
tank
s/Te
chno
logy
ext
ensi
on c
ente
rs
Hum
an c
apita
l
Supp
ort t
o fir
m c
apab
ility
upgr
adin
g
– pr
oduc
tivity
/qua
lity
exte
nsio
n se
rvic
es–
diss
emin
atio
n of
pro
cess
/bes
t pra
ctic
e–
adva
nced
con
sulti
ng s
ervic
es
Dom
estic
sci
ence
and
tech
nolo
gy
Syst
em
Inte
rnat
iona
l lin
kage
s, s
uch
as s
cien
tific
Trai
ning
, col
labo
rativ
e pr
ojec
ts, a
nd
Unive
rsity
exc
hang
es
Cred
itEn
try/e
xit b
arrie
rsBu
sine
ss/re
gula
tory
clim
ate
Rule
of l
aw
Rigi
ditie
s (la
bor,
etc.
)se
ed/v
entu
re c
apita
lIn
nova
tion
exte
rnal
ities
Barri
ers
to k
now
ledg
e ac
cum
ulat
ion
Barri
ers
to a
ll ac
cum
ulat
ion
Ince
ntive
s to
acc
umul
ate
– m
acro
econ
omic
con
text
– co
mpe
titive
stru
ctur
e–
trade
regi
me
and
inte
rnat
iona
l net
wor
ks
Firm
cap
abilit
ies
– co
re c
ompe
tenc
ies
(man
agem
ent)
– pr
oduc
tion
syst
ems
– te
chno
logi
cal a
bsor
ptio
n
Fact
ors
usua
lly fo
cuse
d up
on in
NIS
Wid
er fa
ctor
s th
at m
ay a
lso
need
atte
ntio
n
The
firm
Hum
an c
apita
l
Know
ledg
e
Phys
ical
cap
ital
The Innovation Paradox 7
Managerial Practices as a Key Input for Innovation
In order to innovate, firms need to acquire a range of capabilities, without which they
cannot manage innovation projects effectively, as an extensive literature in the NIS
tradition points out. The acquisition of these capabilities—specifically, managerial and
organizational practices—is fundamental to the process of upgrading both productiv-
ity and quality (see Teece and Pisano 1994—and, more in the mainstream, Sutton 2012,
Sutton and Trefler 2016, and Hallak 2006, among others). Accounts of the East Asian
“miracles” place primary emphasis on the accelerated process of learning and raising
the capabilities for innovation of firms, rather than on the particular sectors they were
in (see Kim 1997; Hobday 2000; Dodgson 2000; Lee 2013).
The recent introduction of the World Management Survey (WMS), initiated by
Bloom and Van Reenen (2007, 2010), has permitted a quantum leap in the comparative
quantitative analysis of management practices and their implications for productivity
and innovation. Firms in developing countries are indeed lagging in a wide range of
skills/abilities that are critical to the Schumpeterian catch-up process (figure O.5).
Average scores in monitoring,
employment of just-in-time
processes, internal feedback
mechanisms, long-run plan-
ning and goal stretching, and
human resource policies in low- and middle-income countries are well below those of
advanced economies. Firms that lack the capabilities required to respond to market
conditions, identify new technological opportunities, develop a plan to exploit them,
and then cultivate the necessary human resources will find it difficult to innovate and
respond to government incentives to do so.
This report offers a novel empirical analysis that confirms the importance of
advanced managerial and organizational practices for innovation, both directly and
by facilitating investments related to innovation. Even after controlling for the usual
innovation inputs such as R&D, managerial and organizational practices are impor-
tant predictors of innovation and productivity across countries, firm size, and coun-
try income levels. Not only do they help explain the lower returns to R&D found in
lower-income countries, but they also facilitate R&D and enhance its effectiveness. In
sum, accumulating these managerial capabilities is of paramount importance for
innovation policy, especially in countries and firms that are distant from the techno-
logical frontier.
What Drives Managerial Capabilities?
These findings beg the question of why managerial capabilities are so weak in develop-
ing countries. Figure O.6 shows that for four developing countries representative of
A key missing factor concerns firm capabilities, ranging from basic managerial skills to engineering capacity.
8 The Innovation Paradox
their respective regions (East Asia, Latin America, South Asia, and Eastern Europe)
their firms’ scores are lower than scores for firms in the frontier country (the United
States) across the entire distribution. This implies that moving the average toward the
frontier requires not only the exit of badly run firms, but also upgrading the managerial
capabilities of the best firms.
Several factors have been identified as affecting managerial quality (Bloom and Van
Reenen 2007, 2010; Maloney and Sarrias 2017). More educated managers tend to be
better managers. Limits on product market competition enable inefficient firms to sur-
vive by failing to provide adequate incentives for firms to upgrade. Firms with diffuse
ownership tend to be among the best, whereas government-owned companies and
family-owned firms are weaker. The ubiquity of family-owned firms in developing
countries is partly due to a weak rule of law, which triggers mistrust in delegating man-
agement to professional managers. Openness to trade provides incentives to upgrade
and presents exposure to new ideas. Imports can increase access to technology and its
embedded know-how, and exporting enables firms to learn about more sophisticated
and contested markets. Similarly, exposure to better-managed multinational enter-
prises (MNEs) and participation in global value chains (GVCs) offer important oppor-
tunity for knowledge spillovers, although weak firm capabilities often impede
participation in GVCs and learning.
Source: World Management Survey 2015.Note: The figure shows the management scores for the 15,454 interviews across the countries in the World Management Survey. Management is scored on a 1-to-5 basis for 18 questions. Country scores reflect the average across all firms in each country. Gross domestic product (GDP) data are on a purchasing power parity (PPP) basis for 2013, as reported in the International Monetary Fund’s World Economic Outlook. Smaller and larger firms in China, Mozambique, and Nigeria have been stratified to balance the sampling frame.
FIGURE O.5 Managerial Practices Lag in Developing Countries
ARGBRA
CHL
COL
MEX
NIC
FRA
DEU
GRC
IRL
ITAPOL
PRTESP
SWE
GBR
CHN
IND
JPN
SGP
TUR
AUSNZL
CAN
USA
ETH GHA
KEN
MOZ
MMR
NGA
TZAZMB
2.0
2.5
3.0
3.5M
anag
emen
t sco
res
7 8 9 10 11
Log of 10-year average GDP based on PPP per capita (current international $, billion)
Latin America AsiaEurope Oceania North America Africa
The Innovation Paradox 9
The Innovation Policy Dilemma
The need for innovation policy in developing countries to address deficiencies or fail-
ures in a larger range of complementary factors and institutions that are required to
promote innovation gives rise
to the innovation policy
dilemma. As the complexity of
innovation policy increases
with distance from the fron-
tier, government capabilities
to design, implement, and coordinate the appropriate combination and policy
instruments—the policy mix—weakens. These limitations/constraints on government
capabilities offer another key to resolving the innovation paradox.
Governments themselves must develop their own capabilities for innovation policy
making across four pivotal dimensions:
1. Policy design demands the ability to identify market failures, design the
appropriate policies to redress them, and establish clear metrics for success.
Many failed experiments in developing countries result from naively
importing institutional models and best practices from advanced economies
FIGURE O.6 The Management of Developing Countries’ Firms Trails That of US (Frontier) Firms across the Distribution
Source: World Bank Innovation study team elaborations, based on World Management Survey 2015.Note: The figure shows kernel density estimates.
0
0.2
0.4
0.6
0.8
Prob
abilit
y de
nsity
1 2 3 4 5
Firm average management score
United States China Brazil India Poland
Weak capabilities on the government side compound the difficulties involved in building private sector capacity and constructing a functional national innovation system.
10 The Innovation Paradox
that may not address the true failures or be politically viable. Many agencies,
such as public research institutions, lack a clearly defined mission and
incentives that would align them with identified clients and goals and shield
them from capture.
2. Efficacy of implementation rests on strong public management practices, as
well as processes for evaluating, adapting, and modifying or terminating
policies when needed.
3. Coherence of policy across the NIS requires the ability to have an overview of
the overall system and effectively coordinate across ministries and agencies. In
developing countries, policy is often balkanized by ministry or administrative
level, and there is little alignment between the stated goals of policies and actual
budgets and impact.
4. Policy consistency and predictability require systems that cultivate
innovation policies and institutions over time, overcoming fluctuations in
the political economy and guaranteeing a predictable environment for long-
term investments in innovation. Instead, there is often only partial high-level
political commitment, and policy is subject to weak backing and frequent
reversals.
None of these capabilities is easy to generate or maintain.
Supporting the “Capabilities Escalator”
The final step in addressing the innovation policy dilemma requires choosing the
appropriate policy mix in the context of scarce government capabilities. The report
offers a heuristic framework,
the “capabilities escalator”
(see figure O.7). Policies to
support firm upgrading are
sequenced in keeping with
the level of capabilities of the
private sector, policy makers, and institutions, and ratchet up through progressively
higher stages of sophistication:
1. Stage 1 primarily supports production and management capabilities in
incipient NISs.
2. Stage 2 increases the focus on supporting technology adoption and imitation
capabilities in maturing NISs.
3. Stage 3 expands the support to invention and technology-generation
capabilities in more mature NISs.
Given the wide variation in the innovation potential of firms found at all develop-
ment stages, the framework is not meant to be deterministic. For example, many
A gradual process—the capabilities escalator—is needed to accumulate the necessary instruments, institutions, and capabilities for firms and the government to promote innovation.
The Innovation Paradox 11
advanced countries—such as Italy, Japan, Singapore, and the United States—have
invested and continue to invest heavily and profitably in the first stage of the escalator.
Rather, the capabilities escalator provides guidance on where to prioritize and allocate
existing public resources. Evidence from India, Italy, and the United States, among
others, suggests that programs supporting managerial upgrading can yield high
returns and increase tax revenue by multiples of the cost of the program. For instance,
textile firms in India that received consulting services almost doubled the share of
management practices they adopt and enjoyed a rise in productivity of more than
10 percent after one year (Bloom et al. 2003) (see figure O.8).
Figure O.9 depicts the three stages of the capabilities escalator and presents the
implications for the policy mix. The important message of the figure is that the policy
mix is cumulative. As firms move up the capabilities escalator, the policy mix also
advances from less sophisticated instruments to more sophisticated ones.
The first stage starts by building basic managerial and organizational capabilities
through management extension. It provides incentives for collaboration among firms,
such as through vouchers for innovation. It also focuses on developing key comple-
mentary factors, such as science, technology, engineering, and mathematics (STEM)
skills and early-stage infrastructure. More important, it makes sure that there is an
enabling environment for firms to invest in innovation.
The second stage focuses on strengthening technological capabilities via tech-
nological extension or technology centers. It provides direct and indirect support to
R&D projects, while continuing to strengthen existing complementary factors and
FIGURE O.7 Meeting Innovation Policy Needs: The Capabilities Escalator
Note: NIS = national innovation system; NQI = national quality infrastructure; R&D = research and development; STEM = science, technology, engineering, and mathematics.
STAGE 1Incipient NIS
STAGE 2Maturing NIS
STAGE 3Mature NIS
Leve
l of d
evel
opm
ent
• Pursue long-term R&D and technological programs• Minimize innovation gap between leaders and laggards• Collaborative innovation projects
• Build managerial and organizational capabilities• Start collaborative projects• Start developing STEM skills and engineering• Build basic infrastructure—NQI and incubation• Eliminate barriers to physical, human, and knowledge capital
• Build technological capabilities• Incentivize R&D projects• Link industry and academia• Improve the quality of research, innovation, and export infrastructure
12 The Innovation Paradox
FIGURE O.8 Management Extension Improved Management Practices in India
Source: Bloom et al. 2013.
–10
20
30
40
50
60
–8
Perc
enta
ge o
f 38
man
agem
ent p
ract
ices
–6 –4 –2 0 2 4 6 8 10 12 14 16 18 20 22 24
No. of months after the start of the diagnostic phase
Treatment plants Control plants Rest of the industry around Mumbai
FIGURE O.9 The Capabilities Escalator: The Policy Mix Evolves from Less to More Sophistication
STAGE 1
STAGE 2
STAGE 3
Instrument accumulation
ImprovingBusiness environment/
Competition
Long-term R&D programsDirect and indirect support to R&DCollaborative innovation projects
Precommercial procurement
Technology extension and technology centersR&D grants
Grants to industry/university collaborationAccelerators and other infrastructureUpgrading and export quality support
Management extensionVouchers to collaboration
STEM skillsNQI infrastructure
Incubation
Note: NQI = national quality infrastructure; R&D = research and development; STEM = science, technology, engineering, and mathematics.
The Innovation Paradox 13
infrastructure for innovation. It is important to highlight that the institutions appro-
priate to this stage take decades to build. Although capability building remains the
priority, laying the groundwork for an advanced science and technology capability
must also begin at this stage.
The final stage facilitates advanced technological development capabilities and
invention, while supporting the strengthening of basic innovation capabilities in lag-
gard firms. Establishing stage 3 capabilities is a long-term process, so it must be started
at the same time as efforts in the earlier stages. Nonetheless, it cannot be considered a
substitute for the policies to support stage 1 capabilities—firms need to walk before
they can run.
Table O.1 presents some illustrative combinations of instruments that could be used
at each stage.
TABLE O.1 The Policy Mix at Different Stages of the National Innovation System
Stage Illustrative policy mixStage 1: Incipient NISPrevalent in low- and lower-middle-income countries• Build managerial and organizational
practices
Focus on employing instruments that improve absorptive capacity and strengthen management and production capabilities:• Support management extension programs• Provide early-stage infrastructure and advisory services (incubators)• Foster collaboration and simple innovation projects through, for example,
vouchers and direct grants (accompanied by advisory services)• Establish standards and basic national quality infrastructure• Strengthen research quality
Stage 2: Maturing NISPrevalent in middle- and upper-middle-income countries• Focus on building innovation
capacities and accelerating technology transfer
Continue to build absorptive capacity.Support technology extension projects.Start university-industry collaboration in some clusters.Focus on research quality and STEM.• Technology extension and business advisory programs• Development of local supply chains and export programs• Grants for innovative projects to finance prototyping, testing, and
commercialization activities• Early-stage infrastructure and advisory programs (incubators), and some
accelerators• Innovation vouchers and grants
Stage 3: Mature NISPrevalent in higher-income countries• Concentrate on generating
technology and supporting capabilities.
• Focus on bringing along laggard firms.
Combine instruments to support frontier technology generation and projects that are highly R&D intensive with a variety of instruments to help SMEs ignite innovation:• Tax incentives for R&D• Grants to large, complex, long-term, and collaborative R&D projects• Procurement for innovation• Equity finance and early-stage capital• Loan guarantees accompanied by firm-level capacity building and advisory
programs• Technology extension and business advisory services• Systemic policies for innovation
Note: NIS = national innovation system; STEM = science, technology, engineering, and mathematics.
14 The Innovation Paradox
Rethinking Innovation Policies
This report explains why the low levels of innovation observed in developing countries are
not due to some irrationality on the part of firms and governments. Nor is the solution simply
providing more training or extension or promoting R&D to remedy well-known knowledge-
related market failures. Rather, policy makers in the developing world face barriers that are
orders of magnitude more challenging than those found in the advanced world. Thus, foster-
ing innovation requires a rethinking of innovation policies along three key dimensions.
First, the importance of a wide range of innovation complementarities implies that
the scope of the NIS that policy makers must pursue is much larger than in advanced
countries. It must include everything that affects the accumulation of all types of
capital—physical, human, and knowledge—and their supporting markets. What looks
like an innovation problem, such as a low rate of investment in R&D, may actually
reflect barriers to accumulating other factors, including physical and human capital.
Second, the cultivation of firm managerial and technological capabilities is critical
to encouraging a continual process of technological adaptation and quality upgrading.
This implies a rebalancing of policy priorities toward management and technology
extension instruments and
away from a focus mostly or
exclusively on promoting
R&D. Although R&D is an
important input for innova-
tion, it requires a set of capa-
bilities that are unlikely to be
met by many developing countries. Its promotion cannot be at the expense of the other,
and more fundamental, investments on the capabilities escalator.
Finally, while the complexity and problems of constructing a functional NIS and
building private sector capability are greater in developing countries, government
capabilities to manage them are weaker. Innovation policy thus needs an honest bal-
ancing of capabilities with tasks. This requires working on a selective set of issues rather
than trying to import a full set of institutions and policies from elsewhere.
Better data and better analytical frameworks are necessary as developing countries face
the dramatic and unpredictable evolution of the world economy. The rate of technologi-
cal change is accelerating. We cannot know with assurance which sectors or industries will
offer rapid routes to prosperity, or what technologies will drive them. However, Pasteur’s
counsel that “fortune favors the prepared mind” remains as vitally relevant for countries
as for people. Policy makers need to ensure that they, and their countries, are ready.
Overall, the issue of capabilities in innovation policy making and how to improve
them is one of the most pressing yet unacknowledged aspects of innovation policy in
developing countries.
Innovation policy needs an honest balancing of government capabilities with tasks. Working on a selective set of issues may be a better approach than trying to import a full set of institutions and policies from elsewhere.
The Innovation Paradox 15
Raising the capabilities of firms to manage uncertainty, ensuring that the innova-
tion system provides necessary complementary inputs and flows of knowledge, and
strengthening government capabilities to manage a large and expanding set of chal-
lenges are all keys to resolving the innovation paradox and preparing countries for the
opportunities ahead.
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SKU 33163
Since Schumpeter, economists have argued that vast productivity gains can be achieved by investing in innovation and technological catch-up. Yet, as this volume documents, developing- country firms and governments invest little to realize this potential, which dwarfs international aid flows. Using new data and original analytics, the authors uncover the key to this innovation paradox in the lack of complementary physical and human capital factors, particularly firm managerial capabilities, that are needed to reap the returns to innovation investments. Hence, countries need to rebalance policy away from R&D-centered initiatives—which are likely to fail in the absence of sophisticated private sector partners—and toward building firm capabilities; and they need to embrace an expanded concept of the national innovation system that incorporates a broader range of market and systemic failures. The authors offer guidance on how to navigate the resulting innovation policy dilemma: as the need to redress these additional failures increases with distance from the frontier, government capabilities to formulate and implement the policy mix become weaker.
This book is the first volume of the World Bank Productivity Project, which seeks to bring frontier thinking on the measurement and determinants of productivity to global policy makers.
“Too often we see companies and countries paying huge costs trying to invent shiny new things
and push out the technological frontier when, for a fraction of the price, they can harvest the low-
hanging fruit of processes and products already found in frontier firms. This book highlights the
critical importance of such untapped technological adoption for development and explores the
reasons countries, counterintuitively, invest so little to effect it. In particular, it brings empirical
discipline and economic rigor to the concept of learning to “walk before they run,” that is, the process
of developing firm and country capabilities, and in particular, sophisticated management practices.
If CEOs and governments followed this advice they could save themselves billions of dollars while
rapidly accelerating growth.”
Nicholas Bloom Eberle Professor of Economics, Stanford University, and Co-Director of the Productivity, Innovation and Entrepreneurship Program at the National Bureau of Economic Research
Financed by
in partnership with