European economic governance: a new impetus for public sector innovation?

The global financial and economic crisis has demonstrated the need for closer economic policy coordination between the European Union (EU) Member States as a pre-condition for sustainable public finances. Economic governance, as defined in recent EU legislation, is designed to enhance budgetary surveillance and to prevent major macroeconomic imbalances in the future.

Economic governance will have consequences for the public sector within the Member States too. Resources can become scarce, and the expansion of public spending will probably be limited. Against this background, the efficiency of the public sector will acquire greater importance, and modernisation through innovation can be a major tool for driving efficiency. Public sector innovation can help cut excessive government spending and can also result in more efficient public sectors in EU Member States.
 

Private versus public sector innovation

Any estimation of the potential direction of change is dependent on an awareness of the specific features of public sector innovation. The innovation process in the public sector differs in many ways from how it happens in the private sector (it is slower; the bureaucratic rules and rigidities of the public sector hamper the innovation process; public sector innovation generally has an intangible nature of innovation; risktaking and political issues are interlinked; there are sector-specific organisational and management structures etc.).

There are different analyses of the barriers to public sector innovation (Ref. 1). The specific nature of the public sector is also present in the motivations for innovation. Røste and Miles (2005) identified the main motivations for innovation in the public and private sectors (Ref. 2). They present a long list of motivations, including elements whose importance are likely to be enhanced in the era of European economic governance, such as money, potential for spin-off businesses or the propagation of a policy, idea or rationality. According to Technopolis (2008), the most important drivers of public sector innovation are political will, and pressures for economy and improved efficiency (Ref. 3). There is no doubt that some of these motivations and drivers will be strengthened in the era of European economic governance. The big question is what public sector innovation is likely to look like in such an economic policy environment.
 

Examples of efficient public sector innovation

While a definite answer to the above question is not available, examples from the past – good practices in the field of public sector innovation resulting in less government spending – can help identify some potential directions for public sector innovation in Europe in the near future.

The first example is a financial innovation called “Payment by Results”, promoted in the UK health sector. The NHS Plan (July 2000) introduced the government’s ambition to link the allocation of funds to hospitals to the activity they undertake. Hospitals have been paid according to “block contracts”, so they received a fixed payment in respect of providing a broadly specified service. Consequently there was no incentive for healthcare providers to increase efficiency.

The main aim of the new system was to provide hospitals with greater motivation, by paying them for the optional activity they undertake. A system of payment by results was the outcome. This new financial system offers incentives to remunerate performance, to support sustainable reductions in waiting times for patients, and to make the best use of available capacity.

The UK Audit Commission, a public corporation set up in 1983 to protect the public purse, concluded that, following the introduction of “Payment by Results”, most hospitals improved their financial management and have a better understanding of the costs of treating their patients. There are some indications that the NHS is providing care more efficiently, such as an increase in the number of patients treated as day cases and a reduction in the number of avoidable hospital admissions. Although the Audit Commission has concluded that greater efficiency is not yet widespread across the health service, the process of improvement has begun.

A second example is the Higher Education Initiative of Kingsport, Tennessee, which was the winner of the 2009 Innovations in American Government Award. Kingsport launched a successful “Educate and Grow” campaign to attract new business investment to the region by upgrading the quality of its workforce in 2001.

The Initiative contributed to the revitalisation of a formerly depressed rustbelt region by improving the academic outcomes of its residents and adapting curricula to meet the workforce needs of the medical technology, healthcare, and information technology industries. It did not run the risk that many governmentfunded job-training programmes face, of providing unnecessary skills or training citizens for jobs that do not exist. Through data analysis, Kingsport developed a deep understanding of the marketplace and helped the local government focus its investment in training on the jobs that could be available, rather than those that used to be.

Notable results included the diversification of economic activity and, consequently, employment, including new jobs in different sectors such as healthcare (8000), hospitality (5000), construction (3900), professional services (2500) and information technology (600). Increased employment means less public spending for unemployment in the region. Sales tax revenues have also increased in the region by nearly USD 950 000 since 2005. Property values are increasing, as well.

The results are visible in investments, too: an increase of USD 370 million in new construction has been observed since 2006. Some of the evidence is the 12 new restaurants and regional education buildings that have been built. As a consequence of these positive tendencies, the population has increased: 2700 families had moved to Kingsport by 2006. The number of residents earning college degrees has also increased by 2 percent (Ref. 4).

The above examples demonstrate aspects of the theoretical analysis of barriers to and motivations for public sector innovation. These cases are good indications of how it would be possible to cut government expenditure and/or increase public revenues through public sector innovation, and of how public sector innovation could play an important role in EU Member States in the era of European economic governance. National and EU level economic policies should pay attention to assure adequate framework conditions for similar developments.
 

References and further information

1. See for example: Mulgan, G. – Albury, D. (2003): Innovation in the Public Sector. London: Cabinet Office Strategy Unit.
2. Miles, I. – Røste, R. (2005): Differences between public and private sector innovation. Publin Reports, pp 22-39.
3. Technopolis (2008): Innovation index: 2008 Summer Mini-projects. NESTA Working Paper, September 2008.
4. See more at Harvard Kennedy School’s Ash Center, accessed in October 2011.