The Impact of R&D and Innovation on Economic Growth

in South Africa
Refiloe Khopolo Phate*, Dr. Ch. Paramaiah** and Ratjomose P. Machema***

Abstract: R&D is regarded as one of the drivers of economic growth. History has shown that
countries with high R&D and Innovation have the most successful economic growth and
development. The study investigated whether there exists a long run relationship between
economic growth, R&D and Innovation in South Africa using Co-integration through Johansson
approach and Error Correction Model. It further estimated the impact of R&D and Innovation to
economic growth, and the elasticity of economic growth to R&D and Innovation. The short run
methodology employed to calculate the impact of R&D and Innovation to economic growth and
the elasticity of GDP to science and technology has been adopted from United States
Congressional Office Bureau, USCBO (2005). The findings indicated that there exists a significant
long run relationship between R&D, innovation and economic growth. The study also found a
positive impact of R&D and Innovation to economic growth.

Keywords: R&D, Economic Growth, Innovation, and GDP

*
Project Delivery and Support Specialist, UNDP, Lesotho, **Senior Lecturer, Department of Economics, National
University of Lesotho, Roma, P.O.180, Lesotho, Southern Africa, paramaiahch@yahoo.com & ***Ph.D. Student,
School of Economics, University of Cape Town, South Africa
1. Introduction

South Africa has in the past been undemocratic, in a different way from other undemocratic
African countries. It is a diverse country in terms of race, religion and ethnicity. In terms of race,
it has white and black communities. The black community is classified as Indians, colored,
Africans, and Chinese. When Apartheid was introduced, the white community was classified more
superior than other communities. The white community hence had more benefits in terms of
employment, salaries, and social services. It was the only community that could vote and make
law in parliament. It only made about 4% percentage of the total population hence a minority. As
a result of this situation, the international community imposed sanctions on the country. But then
in the early 90s, the international community evidenced the release of Nelson Mandela and other
political prisoners paving a way to a fresh democratic election that saw African National Congress
(ANC) take government with a landslide victory. Sanctions were banned and South Africa was
politically and economically integrated with the world.

There are basically two schools of thought on the relationship between economic growth and
technology, namely, the exogenous and the endogenous growth theories. The exogenous growth
model is called the neoclassical theory of economic growth and was developed by a Solow and
Swan (1956) as an improvement of the Harrod-Domar (1946) model. Solow (1956, 1957)
contemplates that technology is determined outside the model and is regular overtime hence has
no impact on economic growth in the long run. The theory postulates that the presence of
technology in production is found in the economic atmosphere and absorbed by businesses.
Moreover, Solow (1956, 1957) asserts that technology cannot influence economic growth because
it is a public good in the sense that is non-rival, non-excludable and can be used without bound.
However, this model is criticized as having limitation because it excluded issues such as
entrepreneurship, strength of economic institutions and inability to account of how technological
progress takes place hence this led to the second growth theory namely the endogenous growth
models developed by Lucas(1988), Romer (1990) and Grossman and Helpman (1991.

In the context of South Africa few studies without any vigorous research particularly on the macro
level investigate the impact of R&D and Innovation to Economic Growth. These studied use the
manufacturing sector and variables different from patents R&D expenditure as percentage of GDP,
and researchers. There is a considerable huge amount of South African investment pertaining to
R&D and Innovation in areas such as human capital development, the creation of attractive, world-
class, large-scale innovation projects, essential S&T infrastructure and research equipment, space
science and technology, bio-technology, nanotechnology, bilateral and multilateral co-operations.

In light of the above mentioned facts, no or few econometric studies have precisely and in earnest
assessed the importance of R&D, and innovation to economic growth particularly the long run
movement experienced by R&D Expenditure, number of patents, researchers and research
personnel to the South African economy. As a consequence of this, there is a need to assess the
relationship between S&T particularly of the amount spend on R&D and output R&D in the form
of patents to economic growth over time. There is a dire need for improvement in the existing
methodologies used is examining both the impact and the long run relationship among R&D,
Innovation and Economic growth. In this paper an attempt has been made to determine whether
R&D and Innovation have a long run relationship with economic growth in South Africa and to
assess the impact of R&D and Innovation on Economic Growth

2. An Overview of Science and Technology Policy in South Africa

The S&T policy in South Africa has the objective of supporting human capital development
through reviving learning institutions’ infrastructure and education curricula. It moreover aimed
at forming attractive, world-class, large-scale innovation projects by making available necessary
S&T infrastructure and research apparatus. In this endeavor, policy emphasis is made on the
significance of R&D and innovation to economic growth. A well-developed science and
technology policy framework enhances economic development hence quality of life.
Technological change is an important long run productivity growth and therefore of increase in
the standard of living over time. Advances in technology arise from innovation, which is a process
of inventing new products, improving existing products, and reducing the cost of producing
existing goods and services. (USCBO: 2005).
 Figure 1: R&D Expenditure as a percentage of GDP
During 1967-2010, Five Year Growth Rates
0.60

0.50
R&D Expenditure as % of GDP

0.40
0.50
0.30
0.30 0.30
0.20
0.05 0.18
0.10
0.09 0.06 -0.03
0.00
1967-1971 1972-1976 1977-1981 1982-1986 1987-1991 1992-1996 1997-2001 2002-2006 2007-2010
-0.10

-0.20

-0.30 -0.28
-0.40
Years

Source: National Advisory Council on Innovation, South Africa

It is evident from the figure 1 that a 5 year average growth rate on the amount of R&D intensity in
South Africa is plotted, a steep decline is evidenced from 1967 to 1971 and a less steep decrease
from 1977 to 1981. From 1982 to 1986 an increase in R&D Intensity is experienced. In the
following years 1987 to 1996 another decrease in R&D as a percentage of GDP is again
experienced. This is followed by a period of increase in R&D Intensity from 1997 to 2006 and
another decrease from 2002 to 2010. South African R&D expenditure as a percentage GDP
declined in the era of transformation. Some researchers for example Blankley et al (2007) claimed
without any use of econometric techniques to be a result of dismantling of military programs
particular the nuclear facilities during transformation. “Gross Expenditure on Research and
Development (GERD)/Gross Domestic Product (GDP) ratio for 1991/92 spiked upward, and the
next two survey points are at much lower level and it has been claimed that this real decline is a
consequence of the cut back in defense R&D” Blankley et al (2007). In 2006 the R&D Intensity
further declined and this was attributed to strong South African GDP.
 Figure 2: Science and Technology Enrolments as a % of Total
Higher Education Enrolments
29

28.5

28

27.5

% 27

26.5

26

25.5

25
2000 2001 2002 2003 2004 2005 2006 2007 2008
Years
Source: National Advisory Council on Innovation, South Africa

In the figure 2, the Science Engineering and Technology (SET) enrolment in higher education as
a percentage of total enrolment from 2000 to 2008 has been revolving around 26% to 28%. There
has not been any much change except that the variation from this period 2% (Lower limit: 26%,
Upper Limit: 28%). It indicates an insignificant amount of change in students enrolling for SET
courses in South Africa throughout the period. The intention of the S&T policy since 1994 is to
increase this number since this is a group of students who directly partake in R&D and Innovation.
This trend shows that there has been minimal change over the years in promoting SET in higher
education.
3. Review of Literature
IDEA (2008) conducted a study on the relationship of R&D to economic growth particularly public
R&D. Their discovery was that there is correlation between the levels of GDP and that of R&D.
Furthermore the study’s finding was that R&D intensity should be an indicator use to measure
long term progress in R&D and other short term research. Moreover the study discovered that the
impact of R&D towards GDP differs across countries with a lag of one year for some economies
and a 3-5 lag for other countries. The importance of private R&D is clearly emphasized in its
influence to economic growth. Stokey (1988) deliberates on the importance of human capital,
product quality and economic growth. Stokey (1988) findings are that the accumulation of human
capital is derived through schooling from adolescence and the period it takes to study, the quality
of education realized and social stock of knowledge until one is employed. Stokey (1988)
concludes that all these characteristics will help in the determination of wage earned over the
lifespan.

Ulku (2004) using patent statistics to study R&D, innovation, and economic growth and in 20
OECD countries and 10 non OECD countries using panel data and discovered that there is a
positive correlation between R&D and economic growth. However the study did not find any link
between innovation and economic growth. Ulku (2004) asserts that this is caused by the fact that
patents, as a measure of innovation do not cover all innovation and R&D activities hence could
distort the findings of the model. “Although there are some disadvantages of employing patent
data to measure innovative activity, such as variation in the intrinsic value of patents and inability
of patents to capture the whole range of innovation they can be accounted for in the econometric
models” Ulku (2004). Findings are that the large OECD countries can increase their economic
growth through investment in R&D whereas the smaller ones imitate the technology from large
economies to boost their local economies.

There are few studies that used econometric techniques to investigate the relationship between
technology in the form of R&D, and Innovation and economic growth in South Africa. Fedderke
(2001), Du Toit (2004), Gerryts and Buys (2008) assent using the new growth theory and the
traditional model of economic growth that technology in fact augments economic growth.
Fedderke (2001) using a panel data of industries from 1970 to 1997 discovered that there was
significant positive relationship between labour growth, skills ratio, TFP, master degree students,
enrolments, apprenticeship, and patents an economic growth. Du Tout et al (2004) using a simple
Cobb Douglas production to estimate the Solow neutrality of technology and the new economic
growth theory demonstrate that technology overtime has an increased impact on economic growth.
Gerryts and Buys (2008) concluded that there is a positive connection between R&D and
innovation and this therefore can ultimately help in improving the National System of Innovation
hence economic growth.

David Kaplan (2008) argues that technology since in the early 90s contributed significantly to
economic growth, while Rattsø and Stokke (2007) avers that South Africa can enhance its
economic growth through trade openness so that technology from developed nations could be
exported to help in the advancement of its economy. Likewise, the United Nations Commission
on Science & Technology for Development UNCSTD (2009) asserts that the current science and
technology policy stood the test of time despite the current world economic crises. Brews (1988)
reflects that the influence of technology on economic growth depends on the environment existing
in such an economy hence it is as a consequence imperative that enabling setting be created for
technology to boost economic growth.

4. Methodology
The study uses the annual time series date used from 1967 to 2010. The variables that are used in
this study are R&D Expenditure, registered patents, number of R&D personnel, number of
Researchers and Gross Domestic Products. The definition of R&D is defined according to OECD
Frascati Manual and that of Innovation is according to Olso Manual whereas economic growth is
growth in GDP.
Model Specification
The model of the study assumes the Romer (1990) endogenous framework model but originates
from USCBO (2005) with some modest modifications in some areas.
𝛼 𝛾
𝜔
𝐺𝐷𝑃 = 𝐴𝑒 𝜆𝑡 𝐾𝑡−1 𝐿𝛽 𝑅𝐷𝑡−1 𝐼𝑁𝑡−1 𝜀𝜙 (1)
Where GDP is Gross Domestic Product, A is Technology, K = capital, L = Labour, RD = All
R&D indicators, and IN = Innovation Indicators.
Rewriting (1) in logs deduce the following equation;

log(𝐺𝐷𝑃) = log( 𝐴) + 𝜆𝑡 + 𝛼𝑙𝑜𝑔 𝐾𝑡−1 + 𝛽 log( 𝐿) + 𝛾 log( 𝑅𝐷𝑡−1 ) + 𝜔𝐼𝑁𝑡−1 + 𝜀𝑡 … (2)

According to USCBO (2005), sometimes equation (2) is used to determine the impact of both
micro and macro economy R&D and Innovation on economic growth particularly when time
series data is utilized. Furthermore, rewriting equation (2) in terms of growth rates through
differencing, the following is the expected equation

Δgdpt Δ𝑘 Δ𝑙𝑡 Δ𝑟𝑑 𝑖𝑛

gdpt−1
= 𝜆 + 𝛼 ( 𝑘 𝑡−1 ) + 𝛽 (𝑙 ) + 𝛾 ( 𝑟𝑑 𝑡−1 ) + 𝜔( 𝑖𝑛𝑡 ) + Δ𝜀𝑡 … (3)
𝑡−2 𝑡−1 𝑡−2 𝑡−1

The equation 3 indicates that GDP growth rate (difference of lag 1) is a function of capital
(difference of lag 1and 2), labour (difference of lag 1), R&D (difference of lag 1 and 2) and
Innovation (difference of lag 1) growth rates with a change in the error term. The growth rate
hereto is assumes to be year to year obtained changes or average growth rate for a specified long
period of years and in this respect, the coefficients 𝛼, 𝛽 𝑎𝑛𝑑 𝛾 are interpreted as the elasticities of
R&D and Innovation on economic growth.

Measurement of variables and A priori expectations

Definitions of measurement variables1
(i) R&D Expenditure, GERD is a measure of how much is spent by private sector,
government, higher education institutions and NGOs. This measure can either in the form
of financier or in the form of a performer.
(ii) Registered patents (PAT) falls within the definition of Intellectual Property and this
includes patents, copyrights and trademarks. It can be described as the legal ownership of
products of the mind hence is derived from R&D and Innovation. In other words a patent
is defined as an exclusive right granted by law to applicants / assignees to make use of and
exploit their inventions for a limited period of time (generally 20 years from filing).
(iii) Researchers is the human resource components that takes part in R&D and innovation
excluding those of the support staff or those doing administrative works in research
institutions
(iv) Personnel in R&D the human resource components that takes part in R&D and innovation
including those the support staff or those doing administrative works in research
institutions
(v) GDP is the total market value of all final goods and services produced in a country in a
given year, equal to total consumer, investment and government spending, plus the value
of exports, minus the value of imports.

Testing for co-integration

The Johansen procedure could be another important test for Co-integration even if the granger test
has given acceptable results. The comparison of the two in macro-econometrics is extremely
important and hereto is a summary of steps to be followed. (Enders: 2009). The subsequent model
is shown;

1
Data for SETG, TBP is not available for a logical period of time hence is not included in the study and TFP is also
not going to be used because it will be replaced by GDP.
RDI𝑡 = 𝐴0 + A1 RDI𝑡−1 + A2 RDI𝑡−2 + A3 RDI𝑡−3 + A4 RDI4 + ε𝑖𝑡 (4)

𝑅𝐷𝐼1𝑡 𝜀1𝑡 𝐴10

A11,𝑖 ⋯ A1𝑛,𝑖
𝑅𝐷𝐼2𝑡 𝜀2𝑡 𝐴20
Where RDI𝑡 = [ ] ; ε𝑖𝑡 = [ ⋮ ] ; 𝐴0 = [ ] ; A𝑖 = [ ⋮ ⋱ ⋮ ]
⋮ ⋮
𝜀𝑛𝑡 A𝑛1,𝑖 ⋯ A𝑛𝑛,𝑖
𝑅𝐷𝐼𝑛𝑡 𝐴𝑛0

In addition, attempt calculate the variance/covariance matrix in equation (4) & denote by ∑ 4 and
the variance covariance as ∑ 1 then by means of the Likelihood ratio test statistic recommended
by Sims (1980)
(𝑇 − 𝐶)(𝑙𝑜𝑔 |∑ 1| − 𝑙𝑜𝑔|∑ 4|) (5)
Where
T = Number of Observations
C= Number of parameters in the unrestricted system
𝑙𝑜𝑔 |∑ 1|= natural log of the determinants of ∑ 𝑖

And to conclude use the distribution with degrees of freedom equal to the number of coefficient
restrictions. In conclusion, estimate the model to determine the rank using the following model;
∆RDI𝑡 = 𝐴0 + πRDI𝑡−1 + π1 ∆RDI𝑡−1 + ε𝑖𝑡 (6)

Analysis of Results

Unit Root Test Results

All the variables are tested for stationarity using the standard Augmented Dickey-Fuller (ADF)
(1984) and the Phillips Perron (PP) (1988) tests. The results of ADF and Phillips-Perron tests are
reported in the table 1. Testing for the stationarity of variables was achieved through testing of the
null hypothesis of a unit roots and an alternative hypothesis of non-unit roots.
 Table 1: ADF and Phillips Perron Test Results
Series Augmented Dickey Phillips
Fuller(ADF) Perron
Level Level
GDP 2.510532** 3.13931**
[3.548490] [3.518090]
PAT 4.176019** 4.128473*
[4.186481] [4.186481]
PERHC 1.520939** 1.327398**
[3.520787] [3.518090]
RDINT 2.407413** 1.917771**
[3.520787] [3.518090]
RESHC 2.854675** 1.773150**
[3.520787] [3.518090]

(*), (**), (***) indicate significant at the 1%, 5% and 10% levels respectively.

It is evident from the table 1by using Augmented Dickey Fuller and Phillips Perron tests all the
variables are stationary at level.

Co-integration Analysis

Co-integration is a test used when variables that are non-stationary are examined to assess the long
run linear combination. If variables have a long run relationship and a linearly combined then it
is concluded that they are co-integrated because their stochastic trend is connected. This means
that their equilibrium relationship moves dependently and cannot in the long run move away
forever from their equilibrium position. This is meant to support the theory of partial competition
in an economy.

Table 2: Results of Johansen Co-integration Test

Trend assumption: Linear deterministic trend
Series: GDP PAT PERHC RDINT RESHC
Unrestricted Cointegration Rank Test (Trace)
Hypothesized Eigen-value Trace 0.05 Prob.
No. of CE(s) Statistic Critical Value
None * 0.809919 187.4918 69.81889 0.0000
At most 1 * 0.764092 122.7399 47.85613 0.0000
At most 2 * 0.586264 66.41171 29.79707 0.0000
At most 3 * 0.478541 31.99317 15.49471 0.0001
 At most 4 * 0.155670 6.599278 3.841466 0.0102

Unrestricted Cointegration Rank Test (Maximum Eigenvalue)

Hypothesized Eigenvalue Max-Eigen 0.05 Prob.

No. of CE(s) Statistic Critical Value
None * 0.809919 64.75193 33.87687 0.0000
At most 1 * 0.764092 56.32820 27.58434 0.0000
At most 2 * 0.586264 34.41854 21.13162 0.0004
At most 3 * 0.478541 25.39389 14.26460 0.0006
At most 4 * 0.155670 6.599278 3.841466 0.0102

Table 2 shows the relevant test statistics that explore the presence of co-integration among the
variables in the question. The same results are found with the maximum Eigen Value test. What
this implies is that there is a long run linear relationship between GDP, patents, R&D personnel,
R&D intensity and R&D researcher in South Africa. These findings are in line with studies that
support the view that R&D economic growth has a positive link. One of the study by Pessoa
(2007) used R&D intensity of 29 OECD nations and discovered a positive relationship between
R&D intensity and economic growth. In addition to this Pessoa (2007) modeled patents to
investigate such as relationship and the results are consistent with the results of this study.

Impact of R&D and Innovation on Economic Growth

Table 3: Results of Impact of R&D and Innovation on the Economy

Dependent Variable: LOG (GDP)
Method: Least Squares
Sample (adjusted): 1968 2010: Included observations: 43 after adjustments
..

Variable Coefficient Std. Error t-Statistic Prob.

LOG(PAT(-1)) 1.885795 0.542570 3.475671 0.0012
LOG(PERHC(-1)) 1.762805 0.238499 7.391238 0.0000
LOG(RDINT(-1)) 2.180036 0.570166 3.823513 0.0005

R-squared 0.787959 Mean dependent var 26.02510

Adjusted R-squared 0.777357 S.D. dependent var 1.728421
 S.E. of regression 0.815557 Akaike info criterion 2.497323
Sum squared resid 26.60532 Schwarz criterion 2.620198
Log likelihood -50.69245 Durbin-Watson stat 0.365585

The results show that when patents (PAT), personnel in R&D (PERHC) and R&D expenditure
(RDINT) as a percentage of GDP modeled, there exist a positive impact of science and technology
to economic growth but this takes a period of year to be evidenced (Table 3). This implies is that,
for any unit increase in innovation, human resource in science and technology (S&T) and
investment in R&D, there will be approximately 1.9%, 1.8% and 2.1% increase in the amount of
GDP respectively. These results have been achieved at Adjusted R2 Square of 0.78. But since
Adjusted R2 Square can sometimes give biased results, the AIC and Schwarz criterion is better
used and complement in the support of showing an adequate methodology because both are low.
The findings are in line Wo and Wong (2009) study that used total factor productivity, secondary,
higher education, professions and technicians to discover that an impact exist between R&D and
economic growth. Whereas Sameti et al (2010) concluded that R&D associated with a free market
system will enhance economic growth.

Conclusion
Since the endogenous growth model emphasizes that technology is important to economic growth,
it is therefore important to assess the impact of science and technology in South Africa. As the
study shows, there exists a significant relationship between R&D, innovation and economic
growth hence any policy that is being developed, formulated or exists will have an impact on
Science and Technology. The study therefore bring to a close the idea that R&D and innovation
have a positive long run relationship with economic growth hence it is recommended that there
policy be augmented to support increase in human resource in science and technology, increased
investment in the areas of R&D and patents registration. Such investment will have tremendous
positive effects on the economy of South Africa.
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