How important is R&D for economic growth?

As global growth is expected to remain sluggish toward the end of 2019 and into early 2020, we explore the role of R&D as a conduit for an economic boom.

Posted January 8, 2020

Innovation has had a profound impact on economic growth throughout history—although many experts say it is now harder to reap big gains from a good idea than it was in the past.

During the industrial revolutions of the 18th and 19th centuries, technologies such as steam power and electricity turned countries such the UK and US from agrarian economies in industrial powerhouses, transforming living standards in the process.

The motor car, antibiotics and aviation had similarly outsize effects in the 20th century, changing the way we worked and helping spur strong economic growth rates across the developed world. But over the last 50 years, economists argue that there have been fewer “breakthrough innovations” with the power to drive significant economic growth. While personal computers, mobile phones and the internet have reshaped the way we live, they have not led to massive increases in productivity.

This has coincided with a slowdown in economic growth in most developed countries that has left some feeling pessimistic about the future.

In truth, however, technological development continues apace, with disruptive new businesses increasingly influencing the way we travel, shop, eat and socialise. And while innovation may not generate the returns it used to (, it continues to play a critical role in driving growth and employment, not just in the developed world, but also in fast-rising economies such as China and India.

A tricky relationship

As competition between countries mounts, and global growth slows, the need to innovation and R&D has never been stronger. But while most agree the link between innovation and economic growth is incontrovertible, it is also complex, and convincing policymakers of its importance requires constant effort.

Firstly, there’s the thorny issue of causation. Innovation enables growth, but growth is also necessary for the investment and demand that lead to innovation, creating a chicken and egg situation. This may explain why as overall spending on R&D has increased—to an estimated $2tn globally last year according to Unesco—public investment in science has been scaled back in places such as the US, leaving much of the heavy lifting to business.

It is also very hard to predict whether a new idea or discovery will spread across the entire economy, so that its full benefits can be realised. Take the Concorde airplane, a magnificent achievement in terms of engineering design and speed for which a profitable business model was never found.

When the project began, it was forecasted that 300 of the planes would need to be sold simply to cover its development costs. By the time it ended in 2003, only 16 had been sold.

Squaring the virtuous circle

Despite these caveats, most economists agree that innovation can lead to higher productivity, meaning that the same input generates a greater output in the economy. As productivity rises, more goods and services are produced—in other words, the economy grows.

Proponents say this creates a virtuous circle for consumers and businesses, because as productivity rises, so do the wages of workers, meaning they have more money in their pockets and can buy more goods and services.

At the same time, businesses become more profitable, which means they can invest more and increase recruitment.

When it comes to calculating the actual return on investment of R&D spending, there is a shortage of available evidence, however the reports that have been done present a highly positive picture.

For instance, a report for Science/Business in 2017 estimated that the average return on public investment in R&D had been about 20% over the preceding decade—far higher than that on stock, bond or other asset classes.

The payback from such investments can also be widely shared across the economy. Take the US Human Genome Project—which mapped the human genome—in the 1990s. According to the report, for every dollar invested, $141 was paid back in new medicines, products, services and employment.

Likewise, the European Union’s investment over 30 years in mobile technologies—funding more than 380 research projects, and in the 1980s and 1990s lobbying for cross-border technology standards—catalysed the growth of mobile phone markets around the world.

How can we nurture innovation?

With cutting edge technologies such as artificial intelligence, the internet of things and nanotechnology developing rapidly, it sometimes feels we are on the brink of another industrial revolution. So how can we nurture and develop our innovation ecosystems so that that they drive growth?

Historically, R&D and innovation have thrived when business, academia and the government work closely together to turn new ideas into profitable enterprises. Take the Californian hub Silicon Valley, where an influx of federal government funds in the 1990s to universities such as Stanford and Berkely helped to create burgeoning ecosystem that later gave birth to the likes of Google and Facebook. While government spending on R&D has been scaled back in some countries, it has still played a pivotal role in enabling research into new innovations such as 3D printing, nanotechnology and robotics. This should continue –and it does not just have to take the form of hard cash. It can also involve regulation to help entrepreneurs start businesses more easily or failed businesses exit the market more quickly.

Business and academia continue to play a big role in conducting R&D, too. And they rely heavily on the intellectual property system to legally protect their discoveries and help licence them to others—vital at a time when trademark theft and industrial espionage remain real threats in some markets.

That said, open-source communities that facilitate knowledge sharing have also been key to allowing innovations to flourish and should be promoted. Take the Linux family of operating systems, which as of 2015 had helped generate an estimated $5 billion in economic value, according to a report by the Linux Foundation.

A way forward

It is hard to say definitively whether greater investment in R&D will guarantee economic growth. For most of human history global growth has been flat and only really took off during the first industrial revolution of the eighteenth century.

With industrialization, the most developed economies started to see average annual growth rates of more than 1%, and that increased to more than 2% per year after the Second World War. But more recently growth has slowed, a trend worsened by the global financial crisis of 2007-08.

Some economists have warned that low or no growth is the “new normal”, while productivity levels remain depressed in countries such as the UK. In this climate, policymakers might be tempted to further scale back their investments in innovation and R&D, but that would be a mistake. Not it only would further damage our chances of returning to the growth rates of the last 50 years, it would also diminish the gains we currently enjoy from ground-breaking ideas and the potential to expand those returns in the future.

If innovation is key to economic growth, how can R&D teams access the intelligence they need to make more successful innovation decisions? Find out in our eBook: ‘Why IP data is R&D’s new competitive advantage’.