8. Innovation, Entrepreneurship and Technological Change
- Innovation combined with entrepreneurship drives technological change. Technological change has two principal impacts that drive increases in productivity:
- new products to enable niches in new markets to be identified and satisfied
- the ability to adopt new processes and capital (e.g. tools and machinery) that can lower costs.
- The indicators suggest that:
- Government funding and basic research dominate R&D by sector and type: New Zealand's levels of investment in R&D are lower than the OECD average. Investment by the private sector is particularly low. As a result, basic research appears to predominate. However, New Zealand is a net importer of technology and firms (including farmers) need to be able to successfully apply this technology, often combined with local R&D, to have a material impact on productivity.
- New Zealand's investment in knowledge (intangible investment) is increasing. This should, over time, contribute to higher levels of innovation, and the ability to make the most effective use of new capital and processes and to respond effectively to niche-market demand. Currently, however, intangible investment levels remain lower than many OECD countries.
- New Zealand firms are relatively innovative and a majority are using up-to-date technology: New Zealand firms appear to be quite innovative and are investing in technology that is new for New Zealand. However, small firm size may contribute to a lack of the connections with the research community that can make the most of innovative ideas in New Zealand and offshore. A lack of global connectedness may also reduce firms' awareness of the demand for innovative products and services. Current returns on investment in innovation and new technology may be below their potential as a result.
- The contribution of high technology to New Zealand's total value added is increasing: However, international comparison is difficult because major areas of New Zealand's economy, for example agriculture and the food, beverage and tobacco industry, are significantly more technology intensive than in other OECD countries.
R&D Investment by Sector Performing the R&D: New Zealand's Total R&D Investment is Low and the Government is the Main Funder of R&D
Why is it Significant?
Technological progress from research and development (R&D) is seen as a key driver of long-term economic growth through increasing competitiveness and productivity.34 In addition to driving economic growth, technological progress can improve the quality of people's lives and the environment.
Investment in R&D is crucial to transforming New Zealand into a highly skilled, high value-added economy. This investment is a useful measure of activities that support knowledge creation in an economy, but it is only a proxy for the benefits produced from it.
In an innovative economy, all sectors would be expected to undertake at least some R&D. However, even in such an economy small firms might undertake little or no R&D, given their size and the costs involved.
Governments generally invest in R&D that has public benefits and would not otherwise be undertaken. There is also a role for government in ensuring that at least some of the basic research undertaken or funded by government is, ultimately, transferred to the private sector to help generate new products and services. UK evidence suggests that government R&D leads to higher levels of business R&D.35
However, innovation also requires private sector R&D effort and entrepreneurial drive:
- to seek out new market opportunities and/or new production processes that use new ideas and knowledge
- to ensure that firms have the skills and capability to take on new ideas and knowledge
- to provide some direction for future basic research.
Research in the UK and other OECD countries has shown that the spillover benefits of private sector R&D are greater than those of public sector R&D.36
How Does New Zealand Perform?
The most common (although not necessarily definitive) method of measuring R&D activity is total expenditure on R&D.
New Zealand's investment in R&D has been steadily increasing over the past decade. This is from a low level relative to the rest of the OECD. As a percentage age of GDP, New Zealand still spends less on R&D than most other OECD countries. A contributor to this may be the tax treatment of R&D. Other OECD countries provide greater incentives for private sector R&D through the tax system. This may result in higher reported levels of R&D in those countries.
Sector Financing the R&D
The government is the main funder of R&D in New Zealand, followed by businesses and others.37 Crown Research Institutes and universities perform most of New Zealand's R&D. It should be noted that the 2001/2002 R&D Survey used new methodology to identify enterprises undertaking R&D. The solid lines in the accompanying charts are based on the old methodology. The results for 2001/2002 based on the new methodology are indicated by the broken lines on the charts. The 2001/2002 data indicates that, under either measure, there was a substantial increase in private R&D expenditure from 1999/2000 to 2001/2002.
Sector Performing the R&D
Both the public38 and private sectors in New Zealand invest less in R&D than the OECD average. This is most pronounced in the private sector. New Zealand businesses contribute 34 percent of the total R&D effort. This is lower than almost all other OECD countries and one-third of the OECD average (as a percentage age of GDP),39 possibly as a result of the predominance of relatively small businesses and the structure of the economy.
Across the OECD, a 'typical' private R&D firm is a large manufacturer. However, in New Zealand most private sector R&D is done by smaller firms40 and within short timeframes. New Zealand has few manufacturers in industries that require high levels of R&D, such as major defence industries, aeronautics and pharmacology. It should be noted, however, that a higher proportion of New Zealand R&D is undertaken by the service sector than in the rest of the OECD.41
R&D Intensity
R&D Financing
What Does This Mean for New Zealand?
It is difficult to determine the appropriate balance of public and private sector R&D. However, it is likely, given the structure of the New Zealand economy, that the balance for New Zealand will be different from other OECD countries.
Cultivating the Habit of Businesses Doing Research
New Zealand businesses do not appear to have cultivated the 'habit' of doing research. This suggests that there may be room for higher levels of R&D by the private sector and the latest data indicate that the private sector may be improving its performance. It is the private sector, rather than the public sector, that will drive the demand for new ideas and technologies that will find market niches or carve out new markets. As New Zealand is a net importer of technology, the private sector also needs the capability to spot and develop ideas from overseas, build on them and translate them into marketable opportunities.
Commercialising R&D
The government is the main investor in R&D and it is imperative that it obtains the best value from its investment. Realising the full benefits of its R&D investment and using it to achieve a high value-added economy requires commercialisation of R&D. The Science and Innovation Advisory Committee found that public sector R&D institutions, where a large amount of New Zealand's R&D is carried out, appear to have difficulty with part of the process.42 They require better connections with businesses and entrepreneurs to support increased commercialisation of R&D.
Major Changes in the R&D Undertaken by the Private Sector Require Significant Changes in the Economy
Any significant changes to the balance of R&D between the public and private sectors is likely to arise as a result of a transformation of the structure of the economy, both in terms of firm size and the industries in which firms operate.
New Zealand as a Technology Importer
Because New Zealand is a net importer of technology, the private sector also needs appropriate R&D capability to spot and develop ideas from overseas, build on them and translate them into marketable opportunities.
Breakdown of R&D Investment by Type of Research
Why is it Significant?
Boundaries between types of R&D are becoming increasingly blurred. However, for the purposes of categorising R&D, the OECD uses the following definitions:
- Basic research: Experimental or theoretical work undertaken to acquire new knowledge of the underlying foundation of phenomena and observable facts, without any particular application in view.
- Applied research: More directed research, conducted with an application in mind.
- Experimental development: Systematic work that draws on existing knowledge gained from basic and applied research and practical experience. This work may be directed to producing new materials, products and services, to installing new processes, systems and services, to improving substantially those already produced or installed or to translating new knowledge in social sciences into operational programmes.
The development and implementation of a new technology (products or processes) involves a series of scientific, technological, organisational, financial and commercial activities. As different types of R&D are needed at different phases of the development and production process, it is important to have an appropriate balance across the research types.
Basic research is increasingly seen as a key long-term driver of innovation.43 However, the economic benefits of that research cannot be realised unless it is applied or commercialised. In addition to basic research that need not be undertaken in New Zealand, this requires other types of R&D and skills. To realise the value of New Zealand's R&D, key players involved in each part of the research and development process need to be well connected.
How Does New Zealand Perform?
Official data on New Zealand's expenditure by type of R&D are not currently available. The following information is based on existing studies and OECD statistics.
Government Focus is Principally on Basic Research
The government is the main funder of R&D in New Zealand and there is a significant focus on basic research. Governments are generally the largest investors in basic research, as the private sector is rarely able to capture its full value. Accordingly, countries in which the government is the main funder of R&D tend to have higher levels of basic research expenditure as a proportion of their total R&D expenditure.44 This is the case in New Zealand.
In a recent report for the Knowledge Wave Trust, McKinsey and Company noted that, for OECD countries, total basic research averages 40 percent of total government R&D budgets. In New Zealand, the Foundation for Research, Science and Technology (FRST) (which has a total research budget of around $500 million per year) estimates that approximately 50 percent of its contracts are directed towards basic, 32 percent towards applied and 18 percent to developmental research (experimental and product). The Health Research Council estimates that 86 percent of its $115 million budget goes towards applied research.
Care is needed in interpreting these estimates45. However, it appears likely that, in terms of government funded R&D, New Zealand has a reasonable spread across the different research activities, although, as expected, this is weighted towards basic research.
Over the late 1990s, OECD countries have tended to spend more on basic research46. However, the OECD has also found that governments increasingly want to be able to demonstrate that public investment in R&D is used efficiently and is generating returns. Across the OECD, there is a growing emphasis on research for business performance and an expectation that the public sector can contribute to this objective47. In New Zealand public funding for R&D is increasingly contingent on a private sector contribution.
Private Sector Has a More Applied R&D Focus
Private sector R&D is usually skewed toward applied research and experimental development. This tends to have shorter timeframes, more immediate returns and less risk than basic research. The low levels of private sector investment in basic research across the OECD48 are likely to be more pronounced in New Zealand because of the large number of small firms. Given this, the private sector has an important role in commercialising the research of government institutions and universities.
What Does This Mean for New Zealand?
The Science and Innovation Advisory Committee indicated that it considers that New Zealand is having difficulty commercialising research49. This implies that New Zealand needs to focus increasingly on the applied or developmental end of the spectrum and the commercialisation-oriented processes beyond (such as pre-production testing, marketing and distribution activities).
This is a complex issue, however, as basic research is a key driver of long-term innovation and makes other contributions to the country, particularly in areas in which New Zealand is unique (such as research relating to health, biodiversity and Māoricommunities). Conducting basic research also tends to make New Zealand a more attractive destination for the scientists needed to drive innovation at this level.
Basic and applied research can also be responsible for the big research developments that can generate significant commercial gains. Commercialising as much as possible of this research in New Zealand will ensure New Zealand reaps the full benefits of its discoveries. This requires:
- early end-user engagement in the research process and a greater level of partnership between public research providers and private sector developers
- the existence of a venture capital market that can fund the development phases of at least some of New Zealand's inventions (while recognising that the commercialisation of some inventions will always go offshore).
New Zealand's distribution of R&D by type also needs to take account of the fact that New Zealand is a net importer of technology. Much of New Zealand's R&D is therefore likely to build on international developments or look for solutions either to New Zealand-specific issues or issues New Zealanders have particular expertise in.
Measurement issues
A data series for this indicator will be available for the next Growth and Innovation Indicators report from the R&D expenditure survey to be carried by Statistics New Zealand.
There are considerable definitional difficulties in determining the types of research being undertaken. Funding providers and researchers often use different definitions of basic, applied and experimental development (and sometimes different terms) and there is no clear distinction at the interface between the different types of research or the cut-off point between experimental development and the related activities required during the realisation of an innovation. To compound the issues, sometimes it is only when the research has been underway for a period that it becomes clear what type of research it is.
Intangible Investment as a Percentage of GDP: New Zealand's Investment in Knowledge is Below That of Many Other OECD Countries
Why is it Significant?
Knowledge is a key driver of innovation. Investment in knowledge, along with investment in more efficient physical capital, is a factor in sustained productivity growth. Intangible investment as a percentage age of GDP is a rough measure of a nation's investment in knowledge50. This indicator captures some aspects of inputs into innovation. However, it does not measure the outcomes of investment in knowledge.
The last decade has seen OECD countries move towards an increased level of investment in knowledge (as a percentage age of GDP) and a declining investment in physical capital (as a percentage age of GDP). This is seen as evidence of the move towards a knowledge-based economy51.
How Does New Zealand Perform?
Intangible investment is measured by a nation's total expenditure on R&D, higher education (from both the public and private sectors) and software.
Although New Zealand's investment in knowledge as a percentage age of GDP is below that of many other OECD countries, it did increase over the 1997-1999 period.
Total investment in knowledge in New Zealand increased from 3.1 percent of GDP in 1997 to around 3.4 percent of GDP in 1999, compared to the OECD average of 4.7 percent. However, care must be taken in analysing this data. There are differences in data availability and type between countries, while the split of New Zealand data used by the OECD has not been obtainable.
The top ranking OECD countries by this measure are Sweden, the United States and Korea.
New Zealand is:
- at about the same level as Belgium, Austria and the EU average
- slightly below the UK and Australia, but above Ireland.
Investment in Knowledge as a % of GDP
Note: OECD data are for 1998, New Zealand data are for 1999 and have not been broken down because of poor comparability with other OECD data. New Zealand's R&D figures (from MoRST) exclude expenditure on computer and related activities, and university fees and contracts. Software figures (from Statistics New Zealand) relate to total use in the New Zealand economy, and include exports but exclude households. Including households raises the figure from 0.6 percent to 0.7 percent. Education figures (from the Ministry of Education) relate to expenditure by public sector providers only (but do include expenditure on tuition fees by domestic and international students). The Ministry has not recorded or estimated private-sector expenditure on tertiary education, although the level of expenditure on private-sector providers is thought to be a relatively small component of total expenditure.
What Does This Mean for New Zealand?
The correlation between a country's investment in knowledge and its ranking in terms of GDP per capita is not clear-cut.
Investment in R&D is a complex process. There can be a long lead-time before any returns are captured. Any successes may subsequently fail to be successfully commercialised. It can take even longer for any resulting benefits to flow through the economy. This means that R&D is high risk. It can involve high levels of investment with a low probability of high returns.
Therefore, there may be stronger incentives on New Zealand firms to take up and adapt to new innovations and technology than to invest in R&D themselves. Similarly, investment in education may take time to be reflected in increased productivity and is not necessarily indicative of investment in skills necessary to make the most of new ideas and technology.
Innovativeness in New Zealand: New Zealand Has a High Proportion of Innovative Firms
Why is it Significant?
Innovation is a key factor in sustaining economic growth, and in developing a more flexible New Zealand economy capable of competing successfully on the international stage.
Innovation is the dynamic process of creation, which involves the search for, experimentation with, and development and adoption of, new and better products, services, processes and organisational mechanisms. Innovation is driven not only by the breadth and depth of skill in R&D, engineering and market research, but also by an atmosphere which fosters, recognises and rewards innovation.
Levels of innovation may reflect levels of competition. Innovation (in terms of both products and processes) allows businesses to better compete on a number of fronts, including price, quality of goods and services and the development of new or adapted goods and services.
Innovative firms also tend to have better organisational and management practices leading to increased productivity levels. In addition, innovative firms tend to be more profitable and export more.52
How Does New Zealand Perform?
Innovativeness in New Zealand is measured by the proportion of firms with new products (goods or services) or processes introduced in the last three years. This indicator provides a rough measure of the extent to which new knowledge is being commercialised through the introduction of new products and services, new production processes and service delivery mechanisms53.
Firm Foundations found that a large number (68 percent) of New Zealand firms introduced an innovation (relating to either a product or a process) in the three years ended June 2001. Levels of innovation appear to increase with business size. 80 percent of large firms (those with 50 or more full-time employees) introduced an innovation, compared with 66 percent of small firms (those with six to 19.5 full-time employees).
Firm Foundations indicated that approximately 50 percent of firms consider their innovations to have originated from within the firm. The result is slightly higher for process innovations (as opposed to product innovations), and larger firms are slightly more likely to introduce their own innovations than smaller firms are.
Firm Foundations did not, however, distinguish between products or processes that were new to a firm and those new to the market generally. It is therefore difficult to know the extent to which New Zealand firms are developing novel products or processes. As New Zealand is a net importer of technology, it is likely that a key source of innovation for New Zealand firms is adapting or adding value to technologies and processes developed elsewhere.
The manufacturing sector had the highest rate of innovation, with 79 percent of manufacturing firms introducing a new product or process. 67 percent54 of service sector and 56 percent of primary sector firms introduced an innovation.
Manufacturing is also the leading innovative sector in European Union (EU) countries. The charts below compare rates of innovation of the New Zealand manufacturing and service sectors and their European counterparts.55 This comparison suggests that New Zealand businesses are at least as, if not more, innovative than their EU counterparts.
Firm-level Innovation
Note: The definition of innovation used relates to the introduction by a firm of a product/service or process that is new to the firm.
What Does This Mean for New Zealand?
New Zealanders have traditionally thought of themselves as innovative. Businesses here have displayed a propensity to find innovative solutions to some of the problems they face, such as overcoming geographical barriers in distributing their products56.
Firm Foundations has confirmed that New Zealand firms willingly adopt and develop new ideas and methods to enhance their products, production and management processes. However, New Zealand's apparently high levels of firm-level innovation do not appear to have resulted in higher firm profitability or productivity levels. This may reflect levels of openness and FDI. Improvements in these areas might provide increased opportunities to better exploit New Zealand firms' innovativeness. The results of the Firm Foundations study also suggest there may be room for more entrepreneurship to better connect innovators with markets and allow New Zealand firms to realise the full value of their innovations.
Proportion of Firms Using the Latest Technologies: a Number of New Zealand Firms Invest in the Latest Technology
Why is it Significant?
New Zealand firms are increasingly operating in a globalised and intensely competitive environment. Demand is increasing for more customised goods and services, higher quality, faster delivery and more environmentally friendly products. To keep up with this rising demand, firms must raise their productivity through investment in improving staff capabilities and employing new technologies.
Increases in productivity are closely related to innovative performance and contribute to growth. The uptake of new technologies, along with the commercialisation of innovation, plays a pivotal role in enhancement of firm productivity and contributes to higher technological capabilities and better-skilled employees.
How Does New Zealand Perform?
Previous business practice studies found that many New Zealand firms did not have proactive approaches to technology. The Firm Foundations (2002) study suggests that this trend has been partially reversed by a number of New Zealand businesses. 53 percent of New Zealand businesses (with six or more FTEs) consider their core equipment to be fully up to date. 80 percent employ equipment that they consider to be no more than four years behind the most up to date.
The study shows a positive correlation (though not causation) between better operational outcomes and more up-to-date equipment. 83 percent of high performing firms had core equipment that was fully up to date and 98 percent had core equipment that was no more than four years behind the most up to date.
NZ Businesses' Core Equipment - Comparison with the Best Commonly Available Technology
The use of information technologies is generally viewed as an important component of business practices and is a proxy for the uptake of new technologies, even though its application can differ markedly across firms and industries. A relatively high proportion of New Zealand households has access to a computer and this usage rate is also reflected in New Zealand's business population. 89 percent of firms (with six or more FTEs) have some proportion of their employees regularly using PCs, 89 percent of firms have employees that regularly (at least once a week) access the Internet, and 36 percent of firms have a website.
Businesses with Internet and Websites
New Zealand compares well on internet access with all the countries surveyed, being second to Finland by just 2 percent age points. New Zealand lags behind other OECD countries on the measure of companies with a web presence, but is still ahead of Australia and Canada57.
What Does This Mean for New Zealand?
Well-performing New Zealand firms are moving towards the frontier for goods production. Firms are replacing existing technology with that available internationally. This implies that many firms are watching international developments.
In addition, some of the work on productivity growth suggests that New Zealand should, over time, start to see productivity improvements through the relatively high usage of ICT by firms and individuals.
However, in both cases, technology is being used that has generally been designed for other economies. There is some evidence that, for these technologies to be fully effective, firms and others need to be able to adapt them to local conditions58. This requires links to those with appropriate skills, including researchers in universities, Crown Research Institutes or private research establishments. In addition, staff may need to be retrained to make the most of the new technology. This is more difficult if levels of existing skills are low and processes have been learned by rote.
Overall, the performance against this indicator is encouraging. But this will only translate into higher productivity if other factors are also present. Only then is the investment being made in new technology worthwhile.
Value Added in High-Tech Manufactures as a Share of Total Gross Value Added: New Zealand Has Very Low Levels of High-Tech Manufactures
Why is it Significant?
High-tech, knowledge intensive firms have the potential to develop new, high value-added products and services, which are likely to more readily find market niches and be less price sensitive than low-tech products.
While all industries generate and/or exploit new technology and knowledge, some are more technology or knowledge intensive than others. It is possible to assess the importance of technology and knowledge by monitoring growth in the production of high-tech goods in an economy. High-tech R&D manufactures as a percentage age of total sales can provide some measure of the transformation of the economy from low-tech to high-tech with greater levels of value-added production over time.
The structure of the New Zealand economy and the OECD classification system may limit the usefulness of this indicator. The OECD classifies manufacturing industries into high-tech, medium-high tech, medium-low tech and low-tech by ranking industries according to their average over 1991 to 1997 of aggregate OECDR&D intensities (gross domestic expenditure on R&D as a percentage age of GDP). Those industries whose average OECDR&D intensities are higher receive a higher technology classification.
As of 2001, those industries classified as high-tech included: aircraft and spacecraft; pharmaceuticals; office, accounting and computing machinery; radio, television and communications equipment; and medical, precision and optical instruments. Industries classified as medium-high tech included: electrical machinery and apparatus; motor vehicles, trailers and semi-trailers; chemicals excluding pharmaceuticals; railroad equipment and transport equipment; and machinery and equipment.
The OECD classification was based on 13 OECD countries. Consequently, the classification has been derived from data provided by countries whose industry technology intensity scores will differ from New Zealand. For example, New Zealand R&D intensity (for private organisations) for the Food, Beverage and Tobacco industry is approximately 30 percent higher than the equivalent OECD intensity (1.5 percent of value added compared to 1.1 percent of value added for the 1999/2000 reference period). The OECD therefore classifies the Food, Beverages and Tobacco industry as a low-tech industry, whereas it may be higher for New Zealand.
How Does New Zealand Perform?
The chart below shows New Zealand's high and medium-high tech manufactures (using the OECD technology classifications) as a proportion of total gross value added. It shows that, in 1997, such manufactures accounted for 2.7 percent of value added. By 2001, this had increased to 2.9 percent.
High and Medium-high Technology Manufactures
High and Medium-high Technology Manufactures
By contrast, in the OECD high and medium-high tech manufacturing comprised approximately 9 percent of total OECD value added. Notably, high and medium-high tech manufacturing has been a driving force behind recent economic growth in Ireland, where it now represents more than 16 percent of total value added.
What Does This Mean for New Zealand?
It is not surprising that New Zealand performs poorly in this indicator relative to other OECD economies. Much of this has to do with the structure of the New Zealand economy. New Zealand's low R&D intensity in high-tech manufacturing can, in part, be explained by New Zealand's high proportion of small and medium-sized enterprises by international standards. As at 2001, 97.3 percent of enterprises in New Zealand employed 19 or fewer staff.
In addition, agriculture accounts for 7.5 percent of value added in the New Zealand economy, compared to less than 3 percent for other OECD economies. This reflects New Zealand's uniqueness in the OECD. New Zealand agriculture has relatively high levels of R&D and uses medium and high technology inputs more than other countries. This results in high productivity levels in this sector.
New Zealand's R&D intensity is typically much lower in the OECD classification of high and medium-high tech industries. Exceptions are radio, TV and communication equipment, which represented 18.4 percent of value added in 1999/2000, compared to an OECD average of 17.2. Further, many of the high-tech industries such as spacecraft and pharmaceuticals either do not exist or are considered to be fledgling industries in the New Zealand economy. Analysis of trade data for New Zealand using the OECD classification must, therefore, take into account that it does not capture the distinct characteristics of the New Zealand economy. If it were to do so, then New Zealand may compare more favourably to other countries.
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