MIKE-E : Economics Innovation, Knowledge and Economic Dynamics

Assignment for Module 1 : Write an essay on Origins of concepts and theories on innovation and
entrepreneurship

Write an essay about how economic and industrial policies (local, regional, national and
international) have been affected by the emergence of the concepts of innovation and
entrepreneurship. How has the topic of this module affected the current public policy for economic
growth ?

Raphael MATEUS MARTINS

25th September 2015
Origins of concepts and theories on innovation and entrepreneurship
Eun Kyung Park

Governments will always play a huge part in solving big problems. They set public policy
and are uniquely able to provide the resources to make sure solutions reach everyone who
needs them. They also fund basic research, which is a crucial component of the innovation
that improves life for everyone. (Bill Gates)1
The Literature of Innovation studies has been largely developed in the last century. This emergence of
concepts and theories changed the individuals-, firms- and policy makers perception for economic
growth and development. This essay will focus on how those concepts and theories affected current
economic and industrial policies at different scales as well as the public policies for economic growth.
This analysis is relevant for the understanding of the importance of public policy on innovation. It is
therefore important to, first, introduce the original concepts and theories on the topic and than discuss
how these were transformed into policies at different levels to finally conclude by assessing the
adaptations made on growth policies after the discussions on innovation emerged.
Innovation literature takes its roots in the 20th century when Schumpeter first defined innovation as
the setting up of a new production function (Schumpeter, 1939). More recently innovation was
defined as the implementation of a new or significantly improved product (good or service), or
process, a new marketing method, or a new organisational method inbusiness practices, workplace
organisation or external relations (OECD/Eurostat, 2005), this definition explains innovation at
different levels product, process, market, input and organizational innovation. A more broad
understanding which can be driven from Schumpeter's work might define innovation as the rupture of
inertia carried out by firms replicating routines. A firm changing any of the levels mentioned above
creates a new variant of its routine and one can thus induce that this firm is innovative. Whether
innovation is carried out by new entrepreneurs 2 or by the research and development department of
large corporations3, the important lesson which must be retained from Schumpeter is that innovation is
essential for the development of the firms and the market in a whole. The literature has been growing
since, many models, theories and concepts emerged defining innovation and explaining the roles of the
different economic actors in its creation. As innovation activities grew, new tools were required for
measuring it and assessing its impacts at the social, economic and environmental level. There was,
therefore, a gap to be filled by economic and industrial policies. An important work to be mentioned in
order to introduce the importance of policies is the Bengt-ke Lundvall concept of innovation
systems. According to a definition by Metcalfe, National innovations systems is a set of distinct
institutions which jointly and individually contributes to the development and diffusion of new
technologies and which provides the framework within which governments form and implement
policies to influence the innovation process.. The three main components of an innovation system
actors, institutions and interaction between actors are essential for an innovative activity.
Accordingly, once a link within the innovation system is defective or non-existent, policy intervention
is necessary. Applying the Neoclassical theory into the innovation system, state intervention would
only be acceptable whenever the market fails to be Paretto efficient. The defective or non-existing
links would be considered as market failures such as uncertainty and (positive) externalities,
asymmetric information between actors and inflexibilities to change. However, innovation processes
are considered evolutionary in nature, therefore, notions of economic optimality and equilibria in
neoclassical theory become irrelevant. Instead of market failures, a system of innovation policies (SIP)
approach would use the term Systematic failures. Keith Smith (2000) describes infrastructural
failures involving physical and technological infrastructures (e.g. IT, transports, universities,
regulatory bodies); Capability and learning failures of firms presenting insufficient resources or
competences (learning and innovation are restrained); Transition failures of (small) firms difficulty to
adapt to environmental changes and Institutional failures which need to be distinguished between
formal institutions (Legal environment hampering innovation Low IPR protection, taxes or labour
regulations creating barriers to innovation) and informal institutions (Politics and social values
1
2
3

BILL GATES, The Daily Beast, 5 Questions for Bill Gates: The Full Interview. Jan. 24, 2010.
Schumpeter Mark I.
Schumpeter Mark II.

openness to change, propensity to cooperation and engagement in entrepreneurial activities).

A comparison of the SIP approach with the neoclassical theory has only one purpose: understanding
the importance of interaction and institutions which is very implicit in the neoclassical theory.
However, the SIP approach does not take into account the effect of public intervention, ignoring then,
dead-weight losses and other costs as well as the lack of complete information allowing the possibility
for policy failures. Nevertheless, Public authorities dispose from an alternative framework for policy
making.
Indeed, Public authorities have implemented policies at different levels (local, regional and national)
based on Innovation systems and the Learning economy 4. The main policies are concentrated in the
pressure of change (Macro-economic level Competition, Trade), ability to innovate and absorb
change (development of Human resources, Labour market) and compensation (Tax and other income
transfers, Social and regional policies) (Lundvall, 1997). The new trend in Innovation policy focusing
on the learning capability of the weak learners is called the New new deal and it enhances the
capability to absorb change allowing people and regions to increase their competences and building
new skills, fostering at the same time the social cohesion and the general welfare of the economy
(Lundvall, 1997). It is seen as a promising long-term plan allowing a sustainable growth. Hence,
Public policy shifted towards a more innovation-driven perspective. National Innovation policies
concentrate more on linkages and interactions within and between sub-systems, they build a basis for
the internationalization of firms, increasing their competitiveness (e.g. developing international rules
for the sharing and protection of IPR). States prevail clusters- instead of sector/industry-specific
policies, stimulating Human resources and organisational change at the firm level. Policy makers
enhance the importance of the user experience, expecting a positive feedback in innovation by
connecting the firm with the user. In this aligning, Macro-economic policy focused on productivity,
Labour market and growth is also synchronised with innovation policies. At the European Union
level, the added value on scientific programs include an increasing in resources for basic research,
training and mobility programs to the detriment of applications in more oriented projects. Additional
support for standards (enhancing the single market) and wider application of Eureka's Bottom up
methodology (Sharp and Peterson (1997)). The bottom line of this analysis explains how Public
authorities had to adapt their actions in accordance to the emergence of the innovative and
entrepreneurial activities. Furthermore, this paragraph shows also how the policy trends align perfectly
with concepts and theories derived by scholars. However, most of the policies programs mentioned
above were formulated in the end of the 20 th century, it would be relevant to consider current (up-todate) policy programs and analyse how strongly they follow original theories and concepts. For that
purpose, this essay will treat two programs at different levels: OECD reviews of Innovation Policy:
China (synthesis report) and the Innovation plan for growth and welfare in the Nordic region
(2012). Each one of these programs will be directly confronted with the original concepts and theories.
Chinese development and Macro-economic situation requires more innovative policies and
environmental-care in order to allow a sustainable development of its economy. Hence, Chinese
government addressed its strategic plan for the development of Science and technology in a Mediumto Long- term perspective. The three main objectives reported by the OECD 5 state: (1) Building an
innovation-based economy by fostering indigenous innovation capability. (2) Fostering an
enterprise-centred technology innovation system and enhancing the innovation capabilities of Chinese
firms. (3) Achieving major breakthroughs in targeted strategic areas of technological development
and basic research., these three main objectives comply perfectly with the concepts mentioned in the
above paragraph, (1) and (2) refer to the infrastructural, learning and capability failures as well as
informal institutions (human behaviour towards change and pursue of innovation) presented by Keith,
such policies would be for instance, reforming higher education, considering Lundvall's taxonomy of
4
5

A learning economy is a concept developed by Bengt-ke Lundvall defining it as an economy in which the ability to attain new
competencies is crucial for the success of individuals and for the performance of firms, regions and countries.
OECD reviews of Innovation Policy: China The Current focus of China's S&T policy (2007)

knowledge6, it would mean policies targeting the development of tacit knowledge (know-how),
developing the working environment of firms affecting workers' attitude and lead them towards more
creative thinking and by extent to more innovative solutions. Further solutions concentrating on the
technological capability include policies facilitating funding of firms to increase their access to
better equipment enhancing productivity. The State council 7 has included other targets like public
awareness towards innovation and nurturing of scientific leader. The third objective (3) concentrates
mainly on enhanced formal institutions and public procurement as well other tools fostering Research
and Development of specific industries. These policies include better IPR protection increasing
incentives for innovation, Tax incentives, development of financial markets tools providing funding,
and Direct Public Investment with the creation of public knowledge and construction of R&D
infrastructures such as incubators and key labs.
Nordic vision on innovation is of highly importance and awaited by most countries considering this
region as innovation and sustainable growth leader 8. (Monday Morning for Nordic Innovation, 2012).
As a result, the Nordic vision is far beyond the Chinese discussions treated above. The main objective
of the Nordic Innovation Policy is to foster the synergy of the three main components for a country
welfare Economy, Environment and Society. Placing Innovation policy at the centre of those
components, the main policies included in the New Nordic Model are, unsurprisingly, perfectly
aligned with the developed policies by the OECD based on the original concepts and theories: Public
procurement, R&D, smart regulation, cluster creation, user involvement, provision of test markets,
and scaling. Digging further, the New Nordic Model is reached after three steps: Sustainable
innovation, Scalable innovation and User- and employee-driven innovation. The first comprises the
movement toward the synergy discussed above, the aim is to include a sustainable thinking earlier in
the stages of innovation, ensuring then more efficient innovation. It also includes the integration of
societal changes in the policies caused by many factors such as Demographics change, climate change
and globalization. An important rising challenge addressed by the second step in the Nordic
Innovation system is the fragmentation of innovation. There is a need to scale up by enhancing
openness of innovation and adopting a demand-focus engaging public action. Nordic firms are renown
for their flat organisations hampering a high power distance, however, the third step requires an
extending of this proximity to users which may foster innovation considering the feedback of the
demand side. There is one concept which is worth mentioning when analysing the Nordic case. By
including and implementing sustainability-driven policies in their agenda, Nordic countries build
strong innovative foundation quite unique compared to other countries. Sustainability has, per se,
much higher economic implications then usually thought, and one, which actually addresses one of the
failures highlighted by Keith Smith, is the resilience nature of Nordic economies. Key Smith explained
how firms especially small ones struggle to overcome and adapt to environmental changes,
extending the concept to the regional and state level, we see that Nordic countries have a major
capability to adapt to economical or financial shocks. One can easily argue by assessing the impact of
the Financial- and later, the European Debt- crisis and conclude that Nordic economics felt a lesser
impact and show the lowest debt within the European Countries 9. Nevertheless, the importance of
History and current strategies is what explains their strengths. It is important to remember the different
crisis Nordic countries suffered from few decades ago and only after learning from those shocks, these
countries were able to develop new sustainable and innovative strategic plans allowing them to avoid
History to repeat itself.
The precedent analysis highlighted explicitly how the concepts and theories of Innovation and
entrepreneurship affected economic and industrial policy at different levels. Here we discussed
policies mainly at the National and International level respectively, China, OECD and Nordic
Countries. After examining the different policy strategies adopted, we notice that they strongly comply
6
7
8
9

Lundvall, B.-. and Johnson, B. (1994)

Chinese state Council announced late in 2006 a new policy package converging with the OECD policies.
Towards a new innovation policy for green growth and welfare in the Nordic Region (2012).
OECD data for Genral Government gross debt between 2002 and 2014. (Changes in Norway, Sweden, Finland and Denmark were very
little compared to other european countries)

with the concepts of System of Innovation Policies, Innovation systems and the Learning Economy.
Such findings explain how important the role of scholars and evolutionary economists is for the
development of the Economy at different levels. In facto, The role of Universities grew extensively in
the last century as firms struggled to carry high costly private research, as a result, many economies
became university centred economies (e.g. Denmark and Sweden) 10. One of the most appealing
subjects driving current academic research and government policies is Growth. Considered the
miracle of Social Sciences, the exponential growth the Economy is experiencing since the industrial
revolution has driven many theories and concepts of this phenomena. However there is an increasing
concern in respect to future growth and new policies were addressed and will be designed to ensure
the continuation of the trend. The next paragraph will analyse how strong the new public policies
implement growth concepts and theories developed by scholars.
A fascinating story on growth theory is undoubtedly the story behind the Solow-Swan model. In
1956 Robert Solow and Trevor Swan developed (separately) one of the most famous theories of
Growth. Many evolutionary economist discard this model as it considers technological change to be
exogenous. Nonetheless, it establishes a crucial analysis on how investment compensates depreciation
of capital and yet is not sufficient to ensure a Long-run growth in GDP per worker. Investment, alone,
in the process of capital accumulation cannot avoid diminishing returns to capital. Hence, a given
poorer country would then grow faster and catch-up the rich country. The model needs Technological
change, which will allow a Long-run growth. This model was the basis for the development of
endogenous growth theories (e.g. Romer, Rebelo, Lucas). These different theories are based on saving
rates, knowledge, Human capital, effect of policies and research and development (Ickes, 1996).
Keneth Arrow contributed with his idea of learning by doing and emphasising knowledge and skills
embedded in the workers of a firm, however, a clear sustained growth model is still missing, the gap is
filled by evolutionary economists and their concepts on innovation. Innovation theories and concepts
fill the models and explain how actors can endogenously create technical change. By extent, these
theories have been used in implementing policies at different levels and have created shifts in
innovation capabilities in different countries. OECD members apply those theories into practice. The
next paragraph will treat the case of Brazilian actions country non-member of OECD and
expectations for growth.
During the G20 meeting in Australia in October 2014, Brazil presented its strategy for future growth.
Tthe country has long suffered from poverty, insecurity, inequality and illiteracy. However, last years
actions by the government have drastically increased the welfare of the Brazilian society and economy.
Poverty headcount ratio has fallen from 17,3 (2003) to 8,9 (2013) 11, doing better than other BRIC
countries (e.g. Russia and India), minimum wages have risen and the Gini coefficient has fallen.
Government intervention conditional cash transfers (CCTs) have helped increasing the societal and
educational level in the country. As of 2015, the country presents strong economic indicators High
international reserves, low external debt and substantial Foreign Direct Investment (FDI) inflows.
Also, the level of employment has risen, helping the population to increase its purchasing power,
increasing the level of the middle class and offer better opportunities for prosperity. Nonetheless, the
country is still far from western countries standards. Furthermore, it has been shaken by the slowing
down of growth since 2011 and it is still fragile in terms of resilience in respect to external and internal
shocks creating an environmental change. The country must adapt to these changes, and the core
objectives of this new policy target mainly Infrastructures, education, employment, innovation and
businesses. This new growth policy is then divided into four main policy measures. First, the
government plans an Infrastructure Investment Package aiming the development of Brazilian
infrastructures and increase the level of competitiveness both at the national and the international
level. To do so, the government designed extensive Public private partnerships (PPPs) to foster the
level of output and by extent the growth rate and employment capabilities of the country. Directly
10
11

Jan Fagerberg's presentation on Innovation and Innovation Policy in the Nordic Region for Kalevi Sorsa fonden at Riksdagens
Infocentrum, Helsingfors (2014).
World bank data on Poverty headcount ratio for Brazil.

driven from the basics of innovation, infrastructural failures must be addressed as well as the
promotion of firms capabilities. Secondly, the state increases the access to technological education and
employment, or in terms of theory, increasing the learning and capabilities of firms, in the Brazilian
policy regulation, all states developed free vocational training for students and increased aids for lowincome households avoiding education drop-outs. The third measure was to create a better regulatory
framework to facilitate market entry and establishment of SMEs. Hence, Brazilian regulation reduces
formal institutions failures hampering innovation and entrepreneurship by providing better access to
funding in financial markets and reduced cost by the means of tax reductions or exemptions (e.g.
permanent payroll tax exemptions; permanent tax devolution in exports; permanent tax exemptions in
some sectors; tax debts payment in instalments; reduction of bureaucracy). Finally, as enhanced by the
theory, Education and Innovation must be prevailed to increase the productivity of the Economy. The
Brazilian government will then, implement two major programs. On the one hand, the implementation
of the ten years National Education Plan (NEP) which aims the eradication of illiteracy by increasing
the number of places in childcare facilities at the levels of high school, vocational education and
public universities. Furthermore, the state will grant access to school care for every children and fulltime teaching for at least one fourth of students in elementary education. And on the other hand, The
National Platforms of Knowledge Program (PNPC), which fosters research and innovation for a period
of 10 years focusing on health, energy, aeronautics, advanced manufacturing, information technology
and communications. Increasing knowledge at all levels know-what, know-how and know-why
which will allow firms and the market to be innovative and thus promote growth.
The application of academic innovation studies by different economic actors has proven the
importance of the subject for today's issues and for the future of the World Economy and Society.
Economic and Industrial policies from local to international authorities follow the original concepts
and theories of the literature in the subject. Countries rising concern about the future of growth have
brought their attention to new solutions and ideas. Their need is filled by the emerging of Innovation
studies offering a new large pool of knowledge with possible direct practical applications. However,
the boundary between economic and industrial policies and growth policies has been fading in the last
decade as they meet only one common goal: increase innovation. Policy makers seek to enhance
innovation and the latter functions as a pivot distributing the necessary means to increase the
welfare of the Social-, Economic- and Environmental areas. Furthermore, the analysis of policy
strategies at different locations shows that there is a convergence of the overall policies and also, of
the methods and means. Public states with different political ideologies implement identical policies
(e.g. China applying the same policies as the OECD). Therefore, innovation concepts seem to cross
political boundaries unifying countries for the same purpose. Further research in the topic could
confirm the hypothesis and assess new opportunities for a better global development. The Evolution of
the different countries clearly follows a well-defined path where after a lousy 12 fast growth, countries
start addressing societal issues (e.g. Health, education, security), increasing than, the efficiency of their
structure in order to stabilize, and finally, they start correcting and improving ecological issues and
focus on green solutions*. Innovation might be the solution for under-developed countries to grow
directly in a responsible way**. Even though Innovation has been carried out by the public and the
private sector. In the end, the State has the strongest tools and the opportunity to influence the trend
and scale it up. As Gates said, Governments will always play a huge part in solving big problems.
They must gather and set common frameworks as [t]hey set public policy and are uniquely able to
provide the resources to make sure solutions reach everyone who needs them. Allowing then, an
equal treatment among the society. And as they have the biggest power to fund basic research, which
is a crucial component of the innovation that improves life for everyone, they are the ones who can
decide which way the economy is heading.

12
*
**

With tremendous ecological and social (negative) externalities.

This tendency may be seen in the Environmental Kuznets Curve (EKC) where first Pollution grow with GDP and when the per-capita
income is high enough, pollution starts decreasing. Yaduma, N. et al (2013), confirmed this relationship with CO2 emissions.
Under-developed countries could growth with a flatter EKC, taking environmental issues into consideration since the early stages.

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