Depressed Innovation

Why does Canada consistently lag other developed nations in productivity? A commonly held cause of depressed productivity is a lower intensity of innovation. Why would a developed country have a lower intensity of innovation?

Harvard’s Michael Porter model of the four stages of competitive development may hold the answer. Porter believes that national economies exhibit four stages of development. The first stage is Factor-Driven, where a nation leverages its basic factors of production – physical capital, human capital, etc. The second stage is Investment-Driven, where the nation and its firms invests aggressively in establishing their productive capability and capacity. The third-stage is Innovation-Driven where a nation’s firms broaden and upgrade their capabilities. The final stage is Wealth-Driven, where the economy begins to lose competitiveness as it lives off the wealth that has been created in the first three stages. The Wealth-Driven stage is a state of decline.

In the Wealth-Driven state, the pace of innovation falls due to a number of factors, including risk aversion, lack of willingness, and the propensity of firms and investors to preserve capital rather than accumulate it. Mergers and acquisitions increase and firms begin to compete on price rather than building new sources of competitive advantage.Sluggish wage and job growth reduce the incentive for workers to be productive and innovate. As personal incomes stagnate, the sophistication of domestic demand deteriorates, further eroding the incentive for firms to innovate. Manufacturing begins to decline due to its lessened ability to compete globally with more productive nations, and services assume a larger role in the economy.

Moving an economy back from the Wealth-Driven state to the Innovation-Driven state is not easy. Major policy changes from government will be required, along with shifts in social values and discontinuities which may jar the economy back to a more productive state.

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