The Role of Innovation in Driving Economic Growth

Economic growth

The economic growth of a nation can be defined by various factors: GDP, productivity and the value of the local currency in foreign markets. However, one element that rises above the rest and remains the ‘holy grail’ for economists and researchers is Innovation. As the world undergoes a confluence of changes, new innovations have played a crucial role in how we spend, save, do business and interact with others in economies and societies across the globe.

World economic growth

How to Measure Innovation In An Economy

Innovation is central to economic growth but researchers are often divided on how innovation can be measured in an economy. Theoretically, there are two major ways to determine the level of innovation in a nation.

1.Entrepreneurial Activity

A major catalyst for innovation is the research and development done by entrepreneurs. The motive behind R&D is economical-that is to develop a new idea or product and gain a competitive edge in the market. R&D can help identify new ways for companies to do business more efficiently, thereby attracting more customers and earning higher revenue. Researchers have used the number of patents issued in a country as an underlying metric for measuring innovation.

2. Greater Insights

In many cases, innovation occurs through trial and error. As businesses go through their daily operations, they may notice anomalies and opportunities for change. Firms and workers gain new insights on business practices which leads to innovations in the current process. This type of innovation is solely based on learning and does not require any investment in R&D.

How Innovation Leads to Economic Growth

Greater levels of innovation have the ability to drive economic growth in a country which in turn translates to greater levels of productivity. In simple terms, economies are able to accomplish greater levels of output with the same level of inputs. As more goods and services are produced, it stimulates the economy.

In the U.S, growth in the economy is inexorably linked to investment in R&D, access to markets and the money to fund expansion. Economists refer to this as the capital-labor ratio because capital investments coupled with an innovative workforce leads to a greater GDP.

Innovation Led Economic Growth Around The World

Economic growth driven by innovation is largely dependent on the number of skilled laborers in the workforce and the proper allocation of investment capital. Based on these two metrics as a basis for measuring innovation, here’s how innovation has impacted economic growth in major economies:

United States

The United States has an impressive record of technological and scientific innovation with tech hubs like Silicon Valley at the forefront of disruption. While the nation has the most productive workers, a strong educational system and high R&D budgets, recent data shows that the country no longer prioritizes innovation- resulting in slower economic growth.

For instance, the U.S is no longer the leader in the number of adults with a college degree which has led to a less skilled workforce than its counterparts in other nations. Secondly, the federal budget allocated towards R&D in the public and private sectors has declined by 2.8%. It’s also worth noting that public spending on R&D is crucial for growth, in fact, it was used to fund innovations in early computing equipment. Thirdly, the waiting period for patent approvals has risen significantly in recent years. Nearly all the patents issued in the U.S are for non-U.S corporations.

Europe

Europe is known to be the birthplace of innovation and while the region has made some substantial impact in this space, there is still room to increase innovative capacity across the continent. Among the World Economic Forum’s top ten nations, only three are euro countries. Additionally, there is a large gap in R&D spend between Europe and other economies which has led to lower levels of growth in many countries. Thirdly, there is also innovation inequality in the region. While some firms benefit from higher productivity as a result of innovation, it does not trickle down to other businesses in the country.

China

China is an innovation powerhouse and will likely remain one for many years to come. While many look towards Silicon Valley as the hub of innovation, Chinese companies are also an increasingly important element in this picture. A major reason why Chinese companies are able to innovate and effectively drive economic growth is because of the ‘Great Firewall.’ Many tech companies like Google and Facebook are restricted from the Chinese market. Local Chinese tech companies have developed a similar version of these products and are able to outperform Western competitors with loyal followers in their market. Keeping their innovation ‘in-house’ has resulted in high levels of economic growth for the Chinese economy.

The Bottom Line

While economic growth is driven by innovation, it should not simply be measured by metrics like the number of patents or skilled workers. Instead, governments should foster a culture of research and creativity in the economy that translates to greater innovation and commercialization. Perpetrating an innovative culture this way ensures that the benefits of innovation have an equal impact on all rungs of the economy.

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