Research and development (R&D) is vital for future economic growth, but it is the quality not the quantity of investment in R&D that matters. Writing in the March 2010 Economic Journal, Professor Illoong Kwon demonstrates that private firms invest too little in risky, long-term research. He urges governments to focus their efforts on promoting that kind of basic research and less on seeking to boost total investment.
OECD countries are taking more seriously the need to increase research spending as a means to boost economic performance and remain competitive in the face of rapid growth in research spending in other countries, such as China.
But it is the quality not the quantity of research investment that matters. This study shows that the typical firm invests mostly in applied, short-term and safe research, but not much in basic, long-term and risky research.
Moreover, as competition grows, firms invest in basic research even less. Then, even with the large amount of research spending, firms may not be able to produce significant innovations.
Consequently, government policies should focus more on how to motivate basic and risky research, not necessarily on how to increase total research spending.
Even though strong intellectual property rights have been emphasised to promote innovation, this study shows that strong intellectual property rights are not enough.
For example, the lack of basic research persists even when the outcomes of the research are fully protected from imitation by patents. Therefore, it is necessary to have subsidies, financing or government-funded institutions specifically targeted at basic and risky research.
These results arise because firms do not take account of the social cost of multiple discoveries of the same innovation. When two firms succeed in the same innovation, one firm”s success is a waste of resources from the point of view of society.
But firms are only concerned about their own profits, not social welfare. Therefore, as long as they have a chance to win a patent, they have strong incentives to invest in research. This insight works as follows:
- First, firms may over-invest in research. That is, total research spending can be larger, not smaller, than what society needs. This result reinforces the argument that government policy should not focus too much on the total amount of research spending.
- Second, because safe research has a high probability of success, society does not need many firms to invest in the same safe research. But since firms are concerned about their own profits, they tend to invest in safe research more than society needs, and consequently invest less in risky research.
- Third, because basic research has no commercial value by itself, firms invest in basic research less than what society needs even when the outcomes of basic research are fully protected from imitation by patents.
”R&D Portfolio and Market Structure” by Illoong Kwon is published in the March 2010 issue of the Economic Journal.
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