April 21, 2008

Innovation: Measurement and Policies

By Rick Mattoon

It has become almost hackneyed to proclaim that we live in a knowledge economy driven by innovation. The mantra of current economic development gurus is that the race goes to the smartest and the swiftest. Yet, despite this popular consensus that innovation may be the key factor in determining future growth in the economy, we actually know very little about how to measure innovation and what policies might influence innovation.

To begin with, we need a definition. Most definitions of innovation begin with “big bang” product innovation that alters the course of economies and enhances the quality of life. The invention of the light bulb and the airplane, as well as biotech breakthroughs, are just a few examples. But large gains are also made through process innovations that are often more subtle. The application of information technology to banking and financial firms and the advent of inventory and logistics management in retail trade come to mind. These process innovations change the efficiency with which inputs are used while vastly increasing the scale of output. This leads to goods and services that are faster, cheaper, and better. In fact, when the Chicago Fed studied the turnaround in the Midwest economy in the mid-1990s, we concluded that part of the region’s success was based on improving the efficiency of the existing economic base. Innovation in traditional industries explained much of the turnaround, rather than the creation of wholly new industries or products.

In January 2008, the Advisory Committee on Measuring Innovation in the 21st Century Economy issued a thoughtful report on how we might define and measure innovation. The report postulates that, while innovation is critical to the economy, “the nexus between innovation and growth is one of the least understood areas of economic life.” To bring clarity, the committee defined innovation as “the design, invention, development, and/or implementation of new or altered products, services, processes, systems, organizational structures, or business models for the purpose of creating new value for customers in a way that improves the financial returns to the firm.” The report then set about suggesting proxies for measuring innovation.

The committee rejected the notion of coming up with a single, all encompassing measure. Given that the economy and individual firms do not innovate the same way at the same time, the committee felt a single measure would lead to policy distortions. For example, it might be inappropriate to legislate public policy supporting an industry or firm that is going through a rapid period of innovation over an industry whose innovation breakthrough might be several years away. However, the report suggests a clear starting point by emphasizing that we need a better measurement of total factor productivity (TFP)—the change in productivity left over after accounting for the growth in labor and capital. Total factor productivity does provide a measure that can be augmented and refined by several policies to expand data collection on firm investment in key factors such as research and development, technology, and human capital.

So what policies did the Committee specifically suggest? Here is just a partial list:
• Develop annual, industry-level measures of total factor productivity by restructuring the National Income and Product Accounts of the United States (NIPAs);
• Create a supplemental innovation account for the NIPAs in order to expand the categories of innovation inputs and allow those inputs to be tracked as they flow between industries;
• Improve service sector data and increase survey coverage to provide the data needed to improve estimates from the integrated gross domestic product/productivity accounts and supplemental innovation account;
• Improve measurement of intangibles, particularly intellectual property; and
• Better leverage existing data and increase access to enhance research on innovation.

In addition the committee recommended the business community:
• Institute firm-level measurements of innovation to test the correlation on firm performance; and
• Develop and implement best practice in innovation management and accounting.

Another interesting local approach is a new innovation index developed by the University of Michigan at Dearborn’s Center for Innovation Research. This index tracks six subindexes that reflect the state of innovation in Michigan and will be reported on a quarterly basis. The six measures are:
• Trademark applications,
• Innovation workers (measured as a percentage of the labor force),
• Small Business Administration (SBA) loans,
• Venture capital,
• Incorporations, and
• Gross job creation.

The index is benchmarked to 100 for the first quarter of 2007. The most recent reading of the index is 95.8.

These efforts at measuring innovation in the economy continue to be a messy process, but the potential dividends of better understanding and calibrating the role of innovation in economic growth is certainly an important step forward. Hopefully better innovation metrics will help guide policymakers and business leaders to make appropriate investments that will strengthen economic growth.

The Department of Commerce continues the dialogue by hosting a summit in Chicago on May 22 discussing actions to be made to secure America's competitiveness.

Posted by Testa at 12:00 PM | Comments (0)

October 23, 2006

Universities and the Great Lakes Economic Revival

Multi-state U.S. regions are defined in a number of ways. One such grouping is the “Great Lakes Region,” comprising all the states that border the Great Lakes. The states that run east to west are New York, Pennsylvania, Ohio, Indiana, Michigan, Illinois, Wisconsin, and Minnesota (map below). During the nineteenth century, the efficient transportation of materials on the Lakes and connecting canals knitted these state economies together into an agricultural, mining, and manufacturing powerhouse.

Click to enlarge.

As waterways transportation has given way to overland and air transportation, the region’s economic cohesion and linkages have loosened. However, these states continue to share many common and inter-connected manufacturing industries, especially steel, autos, and nonelectrical machinery such as farm and construction equipment. For this reason, as these traditional manufacturing industries account for fewer jobs and less income, these Great Lakes states seem to share a common economic destiny.

The Brookings Institution Metropolitan Policy Program is partnering with many local organizations on a multi-year research and policy initiative to try and boost the economic vitality of the region. During the week of October 23, various Great Lakes cities will host a series of discussions following presentations of a broad “framing paper” called The Vital Center: A Federal-State Compact to Renew the Great Lakes Region.

This initial Brookings paper points out several avenues for the region to pursue, with “Innovative Infrastructure” being the most prominent. With a 33% share of national population, the region is said to generate 32% of the nation’s patents, perform 29% of its R&D, and graduate 36% of the nation’s scientists and engineers. The report calls on public and private research facilities in the Great Lakes to work together to take advantage of these and other “innovation” opportunities.

Further, perhaps because they are mostly fixed in location, highly prominent in stature, and somewhat amenable to public policy, the region’s universities are receiving a lot of attention as potential engines of regional growth. On the plus side, by one ranking, 19 of the world’s top 100 universities are located in Great Lakes states and Ontario, Canada. On the negative side, graduates of the region’s universities are increasingly gravitating to the East and West coasts and other out-of-region locales.

Click to enlarge.

Two important public discussions concerning the ability of colleges and universities to affect regional growth and development will take place at Federal Reserve Banks this fall. In addressing the question this coming October 30 in Chicago Rick Mattoon, senior economist, has put together the broader agenda.

As Rick notes in his recent Chicago Fed Letter, the involvement of universities in promoting economic growth and development can take many forms. For one, the spin-off of new local businesses through the transfer of technology from university labs has been an important mechanism for some local economies such as those of Boston, Austin, TX, and Northern California. But in other locales, especially where university research is not prodigious, the primary growth vehicle remains the traditional mission of local schools in producing workers with the skills and talents that match the needs of local industries. And between these two poles, localities vary so widely in their economies and types of universities that a broad spectrum of strategies and roles may be most appropriate in catalyzing regional growth.

At the October 30 event, Richard Lester of MIT will lay out his typology of university–economy relations and their attendant avenues for economic growth. This will be followed by case study discussions from around the Midwest and a panel of university leaders.

On November 16–17, the Cleveland Fed will follow up with a more intensive and focused examination of universities’ roles in innovation. The first day’s agenda addresses how university research leads to economic innovation, and what role geography and proximity play in the productivity of both university research and in local economic growth.

On the second day, the Cleveland conference will present case studies of the university–local economy linkages, “geared toward people in the business community.” Participants will “hear experiences and insights from high-level executives who have faced head-on the challenges and triumphs collaboration can bring.”

As the collaborative Brookings project to stimulate economic activity in the Great Lakes gets underway, these Federal Reserve System discussions should be very helpful in considering how the region’s universities can contribute.

Posted by Testa at 8:31 AM | Comments (1)

May 23, 2006

Connecting to achieve tech commercialization

Several cities and metropolitan areas in the Midwest are actively encouraging startup technology companies. Not all of these cities are likely to succeed, but those that have a prodigious base of basic research activity have the best prospects. The Chicago metropolitan area has long been one place where the strong flow of both federally-funded and large-company R&D in the medical and life sciences suggests that there could be greater potential for technology startups as well.

A number of recent efforts in the Chicago region are specifically focussed on technology startups. These efforts include new technology parks, cooperative university R&D consortia, new venture funds, and entrepreneurial assistance. On May 15, technology leaders gathered at the Federal Reserve Bank to discuss the formation of a Chicago-based network that might better link and connect technology commercialization efforts to like-minded organizations in the metropolitan area. Places such as San Diego and Cambridge, England, are notable locations where such connecting organizations are reputed to have stimulated growth in technology startup companies. What can the Chicago area learn and adapt from such models?

The program began with the observations of a technology founder and business builder in both Seattle and in Chicago. Wilbur H. (Bill) Gantz, Chairman of the Board of Ovation Pharmaceuticals, Inc., in Deerfield, Illinois, emphasized how very difficult it is to successfully bring a new company to market. Raising funds is very difficult, but building a company with a profitable product is even tougher. As a result, life-sciences startups “can never get enough support.”

Life-science startups in the pharmaceuticals arena go through many distinct phases, each with unique support needs. University scientists may be needed early on. And in following stages, competent partners must be close at hand to assist with financing and protection of intellectual property. At later stages, product development, marketing, and manufacturing expertise may be crucial.

In Gantz’s Seattle startup, PathoGenesis Corporation, the University of Washington was a helpful partner in sharing university faculty in research and development. Local financing was also key to the startup there. However, the Seattle location presented challenges in local availability of pharmaceutical chemists. For that reason, such personnel were recruited from the Midwest and East Coast, and product marketing expertise needed to be outsourced to the Chicago area.

Gantz further emphasized that Chicago tends to be very strong in such basic business services as marketing, public relations, and intellectual property. Moreover, the metro area is rich in technical personnel that can be hired as necessary from the large life sciences companies Baxter and Abbott and local universities, or else recruited back to Chicago from former Searle employees who left the area when their facilities closed. Despite access to such personnel, recruitment of cutting-edge university scientists is more difficult; Chicago’s university scientists tend to be more adverse to risk and to commercial ventures than those in Seattle.

Nonetheless, Gantz sees the Chicago environment as strong and getting stronger. The real estate end has been expanding with the establishment of a research park at the Illinois Institute of Technology as well as one at the former Searle facility, along with expansion of the Chicago Technology Park. So too, Chicago’s early stage capital scene is now brighter as so-called angel investor networks are forming. Government support of an appropriate nature has also come around, as evidenced by the city’s competent hosting of the nation’s premier business conference in the life sciences, BIO2006.

The next conference speaker was Stuart Henderson, Partner and Biotechnology Practice Leader for Europe at Deloitte, UK, who offered his insight and experiences with Cambridge’s connecting organization, Cambridge Network. The initial conditions in the Cambridge area were not so different from Chicago, prodigious university research but comparatively less commercialization. Also similar to Chicago, there was no “burning platform” of general economic demise in the Cambridge area 20 years ago, but simply unfulfilled economic potential. Yet today, Henderson claims that there are 1,500 technology companies in a town of 200,000 people (though perhaps 6.5 million people reside in its labor market area), including global companies such as BP-Amoco, Schlumberger, 3M, Amgen, and Pfizer.

Henderson reported that a well-conceived organization called Cambridge Network was key to bringing about this success. The network was founded by a small group of highly passionate and committed leaders who put up only modest funding at the outset. He described it as “a simple meeting of minds.”

Henderson further described the Cambridge Network as serving as a window to the world into Cambridge technology capabilities and activity—a vehicle to showcase the Cambridge brand. Most importantly, the Network’s organization built a community of many other organizations who came to share information and to cooperate. The Network’s success depended on listening carefully to their members’ needs and responding quickly with appropriate services. These services included directories of who was who in technology, a continually-updated virtual (online) press room, training materials, benchmarking surveys of progress, open meetings, formation of special interest groups, and events to bring new and younger members into the mainstream.

Henderson cautioned on the pitfalls into which their organization sometimes stumbled along the way. His suggestions included being ruthless in keeping non-contributing government officials and other “hangers-on” away from discussions and events, along with entrepreneurs who had been “one-hit wonders” who monopolized discussions with poor advice for others. As always, the leadership of the network also needed to be constantly vigilant against turf-fighting behavior among membership organizations while promoting partnership and consensus instead.

San Diego’s over-arching organization, called CONNECT, is highly renowned as a prototype to facilitate interchange among technology interests leading to commercialization of technology. Unlike Cambridge’s motivation to build on untapped potential, the original impetus for San Diego’s actions was a rapidly-sagging economy in the mid-1980s that was impacted by the Savings & Loan crisis, military base closings, and reductions in national defense spending.

According to CONNECT's CEO, Duane Roth, CONNECT’s purpose is to facilitate the spawning of commercial enterprises from the region’s R&D base. Over the past 20 years, the region has experienced 1,000 company startups, a rate of about one per week. The public and quasi-public research base is now comprised of over 40 institutes and centers including Scripps Research Institute, Salk Institute, and the University of California, San Diego. Both major institutes and many companies are located close to each other in the San Diego area which Roth considers an important precondition for the continuous inter-personal communication and collaboration that ultimately gives rise to innovation and new ventures.

Duane Roth characterized the collaborative culture that has been achieved in San Diego by describing how local entrepreneurs first market themselves to visitors. Unlike most other places in which a company director will begin touting their own enterprise to visitors, Roth claims that San Diego companies will instead begin touting the San Diego cluster and working environment.

As a former Iowan, Roth also made a clear cultural distinction between the Midwest and the West Coast. Midwesterners are, on average, less likely to take the risks that lead to new enterprises. The reason is that, in places such as San Diego, failure is not a cause for personal condemnation, and so, entrepreneurs are willing to just try again after failure. To a greater extent, at least in Roth’s experience in Midwest agriculture, the fear of failure and the resulting shunning by the community tends to create a culture where people are afraid to take risks in the first place. In order to build and nurture a risk-taking culture, the community must also support entrepreneurs of well-crafted failures in the aftermath.

Roth also mused that, because changing an existing culture is so very difficult, it may be easier in the Midwest to “start a new one.” By this he meant that entrepreneurship should especially be pitched to the young and, more generally, to as many willing listeners as possible in order to generate the critical mass of people that are necessary.

In addition to the celebratory and risk-taking culture in San Diego, some of the key processes that give rise to new companies and enterprises are rigorous and intense. Of these, a “springboard” program sets up panels of critics before which would-be entrepreneurs vet their business plans in two-hour sessions. Review panels are comprised of volunteer “entrepreneurs in residence” along with financial company reps, professors, angel investors, and business professionals. To prepare for such rigorous reviews, CONNECT offers many short and intense educational programs on starting and building a successful technology enterprise.

Despite its success, San Diego’s technology industry currently faces challenges if it is to sustain its growth. In particular, work force availability is tight and high housing costs limit the recruitment of new personnel to the area. Industrial land for later stage operations, including manufacturing, is also very tight and restrictive.

Partly for these reasons, Roth foresees a deconcentration of technology activity to other regions of the U.S. Perhaps places such as Chicago, Indianapolis, and St. Louis, can most easily enter the small company technology arena by specializing in those business stages such as marketing, scale-up development, clinical testing, or manufacturing where they currently have an advantage, and then possibly expand from there to other (more innovative) niches.

In any event, the successful experiences of San Diego and Cambridge have given interested Chicagoans much to consider as they build a CONNECT-type organization. Existing features that have been successful elsewhere, and those that have flopped, offer many practical clues. However, adaptations will be necessary because some features are different in the Midwest, such as a more spread-out geography of existing technology activity. Still, the basic and most important precondition of a large R&D base would appear to be here already, in addition to the region’s added strengths in business services, transportation, and manufacturing.

Can these strengths be successfully connected and appropriately commercialized?

Posted by Testa at 10:43 AM | Comments (0)

January 18, 2006

China and Midwest Biotech

Many Midwest businesses are scrambling to adapt to the rise of China’s economy in world trade and financial markets. Import competition is especially keen. Some Midwest automotive parts suppliers are watching with concern as China has climbed to the number four exporter to the U.S. behind Japan, Mexico, and Canada (CFL).

How can U.S. businesses successfully adapt to the expansion of the dynamic Chinese economy with its low labor costs and less stringent environmental regulations? One way is to shift some operations overseas, investing in China for export back to the states and/or for sales to the growing Chinese market. So far, China has grown at a spectacular rate by inviting foreign companies to set up shop there. While many U.S. multinationals such as GM, Tenneco, and Motorola have done so, so have smaller producers such as Wahl Clipper (hair grooming products) out of Sterling, Illinois, and Atlantic Tool and Die Co. of Strongsville, Ohio.

Another avenue to survival and adaptation is to partner with Chinese companies on investment inside the U.S. So far, foreign direct investment (FDI) by Chinese companies in the U.S. has been miniscule. A few prominent examples of late may make Chinese FDI seem larger than it is, such as Legend’s purchase of IBM’s personal computer business and CNOOC’s failed attempt to purchase Unocal (petroleum). Over time, it is natural to expect that as Chinese companies grow and mature, they will sometimes find it advantageous to invest overseas. Likewise, foreign investment flows into the U.S. can mean new technologies and new portals to global markets for U.S. products, which often keep American workers productive and well-compensated.

This week I am speaking about biotech in the Midwest to the Midwest China Association (MWCA). The MWCA’s mission is to attract inbound Chinese investment into the greater Midwest. They do so by educating the Chinese business community about the benefits of the Midwest, as well as educating our region about overseas opportunities. The MWCA sees Midwest biotech as one of the future cornerstones of the Midwest economy and aims to gather a portfolio of information that can be used to characterize and market the region to potential Chinese investors and partners.

Where can the MWCA and foreign investors learn about biotech activity and opportunities in the Midwest? Currently, there is no Midwest biotech association that compiles information and markets the region’s industry assets. However, journalist and seasoned industry veteran Michael S. Rosen is a virtual encyclopedia of information on the Midwest biotech business scene (link). And for a more active way of gathering information, the nation’s premier biotech meeting, BIO2006, will be held in Chicago this coming April. Due to its nearby location and Illinois sponsorship, Midwest states will be heavily represented.

As we learned at the December Chicago Technology Forum, past “BIO” meetings have galvanized the host regions, if not spurring them to significant cooperative efforts and partnerships, then at least delivering a more comprehensive and cohesive image and understanding of biotech activity and opportunities in the host region. Past meeting have been held in Philadelphia (2005), San Francisco (2004), Washington, DC (2003), Toronto (2002), San Diego (2001), and Seattle (1999).

How will I characterize the Midwest biotech landscape when I speak to the MWCA? For one, the Midwest is long on research and short on commercialization (CFL). A familiar refrain among biotech wannabe locales across the U.S. is their inability to attract venture capital investment flow and to originate startup companies, which is also true of most locales in the Midwest. However, less common among U.S. biotech wannabe locations are the host of potential assets for commercialization that can be found here in the Midwest.

Our region’s universities and federal labs boast prodigious R&D funding and activity (see figure below). One prominent ranking of world universities’ science capacity reports that the states of Iowa, Minnesota, Missouri, Wisconsin, Illinois, Indiana, Michigan, and Ohio are the domicile of 7 of the top 50 and 12 of the top 100 institutions. Overall academic R&D funding in Midwest states tends to be above the U.S. average, with Ohio, Illinois, Michigan, Missouri, and Minnesota ranking 9th, 10th, 11th, 12th, and 14th nationally in 2004. Licensing revenue from the region’s universities amounted to $197 million for FY2003, with 47 new startup companies created, many of which are biotech in orientation. A young organization, the Midwest Research Universities Network (MRUN), is a collaboration that promises to raise the number of startups emerging from the regions universities and labs.

*The Shanghai Jiao Tong University ranks universities by several indicators of academic or research performance, including alumni and staff winning Nobel Prizes and Fields Medals, highly cited researchers, articles published in Nature and Science, articles indexed in major citation indices, and the per capita academic performance of an institution.

The Midwest also hosts large pharmaceutical companies, including Abbott and Baxter in Chicago, Eli Lilly in Indiana, and large Pfizer facilities in Michigan. So far, although large pharma companies have become the prime buyers of basic research from biotech nationwide, local linkages between these companies and biotech have not always developed.

A “diversity” of biotech arenas also characterizes the Midwest. Aside from pharmaceuticals, companies that design and manufacture medical devices are found here. Minneapolis hosts Medtronic, Inc.; Milwaukee hosts GE Medical Systems (high-end imaging); Indianapolis has Guidant; the area around Warsaw, Indiana hosts the prosthesis industry; and the Chicago area is home to Baxter and Hospira.

Attendees of BIO2006 will also learn about the Midwest’s agricultural biotech sector. Ethanol plants are being built or expanding in the corn belt, and high-end research to more efficiently derive energy products from agricultural feedstocks is taking place at the region’s universities and biotech companies (link). Seed and chemical companies such as Pioneer Hi-Bred and Monsanto are continuing to produce stronger strains and new varieties of crops, as are smaller companies such as Chromatin Inc. in Illinois.

Will biotech become a cornerstone of the Midwest economy? While the outlook is promising, there are no guarantees. Despite all that the Midwest has going for it, some studies indicate that biotech activity is becoming more concentrated in just a few places rather than dispersing (link). So too, Midwest assets are noticeably dispersed and spatially separated across the region, making collaboration more difficult than within some existing biotech centers.

Still, it is a little more likely that the Midwest will realize its tech commercialization ambitions so long as organizations like the MWCA are working to connect Midwest biotech opportunities with potential investors and partners.

Posted by Testa at 3:35 PM | Comments (0)

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