Tuesday, June 28, 2011

The economics of growth and innovation

There is an outfit in the US called the The Information Technology and Innovation Foundation. They are best described by a quote from a job ad;

ITIF is a growing non-profit, non-partisan public policy think tank committed to articulating and advancing a pro-productivity and pro-innovation public policy agenda. We believe that innovation is central to spurring economic growth and addressing key societal challenges and that public policies should actively work to support innovation, productivity and economic competitiveness. ITIF works to help policy makers understand the critical importance of innovation and innovation policy. We produce publications, hold events, meet with policy makers, speak at forums and engage in other activities to shape innovation policy.

Their policy settings put them somewhere generally into the "free market" camp, with a bit of sectoral special pleading.

The President of the ITIF Dr Robert Atkinson has just published an interesting article The Trouble with Progressive Economics in the new Breakthrough Journal. It is worth a read.

Atkinson starts by asserting that progressives are "flummoxed" by economic policy, saying;

Most can't fathom why the neoclassical economic consensus shows no sign of being overthrown despite its role in causing the greatest economic crisis since the Great Depression. Compounding their befuddlement is the fact that the era of bipartisan Keynesianism (mid-1940s to mid-1970s) out-performed the era of bipartisan neoliberalism (mid-1970s to today) along virtually every metric, including unemployment rates, GDP growth, income equality, and the trade deficit.

He suggests that progressives therefore struggle with the reality that neoclassical economics remain the north star of most economic policy makers, including many in the Obama administration.

Atkinson first defines for himself "progressive economics" and then suggests that neither it nor neo-classical is fit for the task, writing;

What passes for progressive economic doctrine today is a haphazardly updated version of mid-century Keynesianism that has largely failed to come to terms with the realities of the globalized, innovation­-powered, 21st century economy in which we live. Just as classical liberal economics was unable to respond to the challenges of the Great Depression, and Keynesianism was unable to respond to stagflation in the 1970s, neither anti-government neoliberalism, nor anti-corporate Keynesianism are fit to deal with America's present economic predicament.

I suggest Atkinson needs to get out a bit more - for heterodox economics is made up of a much wider variety than simply New Keynesians. (see note)

That said it is his general critique that is of interest, a critique that can apply equally well to neoclassical and New Keynesians.

Firstly neither has a real explanation for growth. Neoclassical growth theory refers to some outside force of technological progress whereas the Keynesian view has Government expenditure as the engine of growth. The latter can be, as it was in the sixties and seventies, when it funds R&D and knowledge. He rightly notes that progressive economics has "focused less on promoting growth and more on fairly distributing its fruits" so "what passes for a progressive growth agenda mostly remains a redistribution agenda."

I wouldn't back away from the need for the progressives to point out how inequitable neoclassical theory is, in particular its definition and pursuit of efficiency. I also wouldn't back a Green agenda of labelling "growth" per se "bad", growth is the only way to make the less well off better off without doing a Robin Hood.

And so Atkinson concludes;

the progressive canon still lacks a coherent or credible theory for how to spur productivity, innovation, and competitiveness. Little wonder that many voters find the neoclassical story, flawed as it is, more appealing: it at least claims to produce a larger pie. ...

Developing a credible growth agenda will require progressives to fully embrace efforts to accelerate technological innovation and productivity growth. The best scholarship today identifies knowledge, technology, entrepreneurship, and innovation as the primary drivers of long-term economic growth. Over the long-term, innovation (the development of new products, services, processes, and business models) creates jobs and enables higher wages and lower prices. Moreover, sustained increases in rates of innovation and productivity growth likely represent the only long-term path to equitable growth and a sustained social welfare state in an increasingly competitive and globalized economy.

But innovation does not simply materialize out of thin market air. In fact, sustained government investment was required to produce many of the big innovations we take for granted, from the steam engine to the Internet to the iPhone. Unfortunately, progressive Keynesians, like neoclassical economists and a large swath of the American political elite, tend to ignore the government's role in proactively spurring innovation. Neoclassical economists have an excuse: they believe the market drives innovation and that governments need not get involved since government interference in markets only makes matters worse.

With this I agree. I part company with Atkinson when he says;

Supporting innovation and productivity will, by necessity, require progressives to support corporations. The vast majority of jobs and economic activity are in the private sector. In fact, most small business jobs, especially the "Main Street" jobs progressives claim to love, are fundamentally dependent upon the health of corporate manufacturing and the technology sector. As such, improving the productivity and growth rate of the US economy requires helping private firms, including corporations, become more productive and innovative. Unfortunately, progressives today overwhelmingly view businesses, especially large multinational corporations, as part of the problem, not the solution.

Most large corporations are the opposite of innovation.

There are three strands that need to be developed for an Atkinson style "progressive economics".

1. An understanding of "managerial capitalism"
Capitalism as a theory is founded in the concept of a unitary producer who accumulates capital. The reality is firms which are an agglomeration of "capital" and the issue of the principal/agent problem occurs - do managers do what shareholders want. This has been very poorly resolved by defining a purpose of the firm to "create shareholder value" and managers to manage to the share price. Firms need to exist for a market purpose and the thing shareholders want from managers is entrepreneurship to perform that purpose better.

2. An understanding of the source of profit
Basic economics talks of production functions that convert labour, capital, entrepreneurship and land (or resources) into goods. But all modelling tends to be focussed on just two dimensions of capital and labour. This conveniently enables two dimensional diagrams, but is more driven by the apparent ease of measuring quantities of labour and capital compared with the other two inputs. In reality "capital" isn't as simply quantified as it might seem, and labour has an annoying problem of being not of a uniform quality.
Indeed land can be treated as a special kind of capital and entrepreneurship as a special kind of labour, but both make the elegant mathematical models of the neo-classicist impossible to construct.

3. An understanding of the benefit of "spill-overs".
To the extent there is a growth theory that accounts for innovation it is Romer's New Economic Growth Theory. This explicitly allows for the fact that an innovation by a firm has some "public good" characteristics - others benefit from it. This runs counter to corporate thinking which is about their right to fully retain the benefit of innovation.
This issue is worse when it is added to the university sector and the desire for "commercialisation".

New Keynesians might struggle, but Neo-institutionalists (not New Institutionalists) wouldn't. This lot are also known as evolutionary economics and study the dynamics of markets and industries.

That would lead to an understanding of the need for a competition policy that focusses on externalising transactions, an intellectual property regime that does not grant excessive rights and an R&D policy that does not try to commercialise public investments.

Note: Interested readers may find out more at the website for the Association for Heterodox Economics. Their forthcoming conference features Australia's own Lynne Chester on regulation. There is one paper I'd really like to hear Dennis Badeen, Ontology and Pluralism: A cognitive map of ontologies in economics and the critique of neoclassical economics

Novae Meridianae Demetae Dexter delenda est

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