5.2. Socio-economic and regulatory environment

This section provides a summary of the thematic paper on socio-economic and regulatory environment [1]. Economic growth is at the heart of increases in people’s well-being. Innovation including technological progress is one of the main sources of economic growth. Variations in economic growth and well-being can be partially explained by variations in innovation performance. This section seeks to identify factors that can help explain why countries' innovation performance varies so markedly.
Previous EIS Thematic Papers – the NIS 2003 and EXIS 2004 report – have identified innovation categories and indicators which explained variations in innovation performance as measured by the Summary Innovation Index (SII). This section builds upon the findings of the NIS 2003 and EXIS 2004 report and extends the analysis to the 5 innovation dimensions as identified in the EIS: Innovation drivers, Knowledge creation, Innovation & entrepreneurship, Applications and Intellectual property. Based on the findings of the NIS 2003 report, the EXIS 2004 report, the World Economic Forum’s ‘Global Competitiveness Report 2006-2007’ and the World Bank’s 'Worldwide Governance Indicators' project 7 categories of ‘policy indicators’ have been identified covering 26 indicators. The explanatory power of each of these on the five different innovation dimensions was explored using linear regressions controlling for differences in per capita GDP [2]. Table 3 summarises for each of the innovation dimensions the explanatory power of the indicators.

Table 3 Relative importance of socio-economic and regulatory environment for explaining differences in innovation performance

The main conclusions of the analysis are as follows. The two categories that seem to correlate best with differences in overall innovation performance are social capital and technology flows. These dimensions are also highly significant for the Innovation & entrepreneurship aspect of innovation performance. This is important because this aspect is not highly correlated with GDP, meaning that factors other than overall income level are important in determining country performance. This finding suggests that policies that build trust and collaboration – such as promoting innovation networks and collaborations – should be relevant for countries at various income levels that under perform on innovation and entrepreneurship.

Social capital and technology flows are also highly correlated with innovation drivers, but in this case the causality may be in the other direction. For example investments in innovation drivers (education, public research, broadband access) may help build social capital which in turn improves technology flows and innovative performance.

The other five categories investigated also appear to have some influence on overall innovation performance, but here the linkages are less clear. Within the demand category, the indicators for government procurement and demanding regulatory standards appear to be most important, suggesting an important role for government in raising innovation performance through these mechanisms. These indicators are not strongly correlated with any of the innovation dimensions, suggesting that their impact is diffused over different parts of the innovation process.
Most indicators of market efficiency and the institutional framework have some correlation with differences in innovation performance, of which price stability, intensity of local competition and flexibility of wage determination appear to be the most important. This result might be related to the importance of macroeconomic stability and strong competition for raising innovation performance. The indicator for burden of administration is particularly correlated with the innovation drivers and innovation & entrepreneurship dimensions, suggesting the need for governments to reduce administrative burdens in order to foster innovation and entrepreneurship.

The result for flexibility of wage bargaining is more curious, particular as it is most strongly correlated with the innovation drivers dimension of innovation performance. Linked to this, the indicators of social equity also correlate relatively strongly with some dimensions of innovation performance, with the notable exception of social protection expenditure. There are no clear cut causal explanations for this, but it is consistent with earlier work (e.g. NIS paper) and could warrant further examination.

There are some correlations between indicators of governance and overall innovation performance. This is particularly the case between government effectiveness and innovation drivers, and to some extent for explaining differences in innovation and entrepreneurship [3].

It is noticeable that relatively few of the indicators correlate with the applications dimension of innovation performance (which includes employment in high tech services, exports of high tech products, sales of new to firm and of new to market products, and employment in medium high and high tech manufacturing), particularly as this is the dimension which is least correlated with GDP. The most highly correlated indicator with applications is that for income equality. One possible explanation might be that more equal societies have a higher demand for innovative products and services, i.e. that income equality creates innovation friendly demand conditions. Another explanation is that this dimension of the innovation performance is the most difficult to measure, and hence improvements in the indicators are needed before causal factors can be properly identified.