Fifteen years after the first report on Canada’s competitiveness by Michael Porter of Harvard in 1991, Canada’s ability to produce high value-added, knowledge-based products has actually deteriorated relative to that of other countries, according to OECD reports in 2004 and 2006. It is a surge in resource prices— not a cornucopia of paradigm-busting “must-have” innovations— that is keeping Canadian exports high and bringing in billions of dollars of foreign investment. This despite broader market access through free trade arrangements, lower taxes, increased spending on R&D, and a tremendous number of papers and conferences about adjusting to the global, knowledge-based economy.

One obvious conclusion is that Canada’s piecemeal approach to coordinating its national innovation system (NIS) has failed adequately to serve the national interest. How serious is this? Canada’s innovation performance flies way below its economic rank as a G7 country and is continuing to fall in relation to that of competitors. Canada’s business competitiveness, as ranked by the World Economic Forum, has slipped to 16th. On the OECD database, science and technology (S&T) indicators are uneven in that strengths in education are matched neither by proportional S&T spending nor by commercialization of new knowledge, nor by number of R&D personnel or production of science and engineering graduates and postgraduates (OECD S&T Scoreboard 2005). These indicators matter. They are telling us that Canada is losing its capacity to generate a relatively high living standard and that other countries are creating the platforms they need to outperform Canada economically.

Canada has not paid the full cost of its NIS shortfalls yet because of good macroeconomic management, our lucky portfolio of natural resources and economic integration with the US. But the downside is that Canada’s sources of net trading value remain intermediate sub-components for products designed and patented elsewhere or resource-based outputs produced for foreign markets with global capital. Long after the demise of colonial empires, Canada continues to run a substantially colonial economy.

What’s wrong with that is that, first, resources are nonrenewable and, second, resources are themselves of value only because others are using them to create products of superior value. There is no convincing sign that the value generated by intermediate product production or resource exploitation is successfully creating platforms for higher levels of prosperity in Canada. Indeed, Canadian per capita incomes are now significantly below those in the US and on that measure all but two Canadian provinces rank among the poorest states in the US, according to Roger Martin of the Rotman School at the University of Toronto.

In the past, Canadians sought to overcome the reality of a weak industrial sector with protectionist trade policies that effectively raised the price of incoming products so that Canadian domestic manufacturers could compete. In today’s economy such strategies will fail not only because they fly in the face of sound economics but also because Canada’s domestic economy is not itself large enough to support an advanced economic base of competitive scale. Instead, thanks to NAFTA and the World Trade Organization, Canada participates as an integral part of the North American economy, which has made some Canadian firms among the most efficient in the world.

But if those firms are doing things right, the question still remains whether they are doing the right things. Of the Globe and Mail/ Commerce top 50 Canadian firms by revenue, almost all are resource related, in protected service sectors, retail giants or companies that focus on activities whose intellectual property, marketing and financial flows are mainly organized elsewhere. Only 3 of the 13 Canadian firms in the Fortune Global 500 are technology companies (Magna, Bombardier, Nortel). This contrasts starkly with most other G7 countries whose big industries have a heavier S&T presence and therefore a higher proportion of revenues generated from S&Tbased innovators. Canada’s industrial structure perhaps represents a successful commercial adjustment to globalization in its first phase of regional market openings. Strong companies can grow in Canada. But our economic base is not likely to generate the prosperity Canadians need to meet their social and economic challenges going forward. Canadians have no companies of global scale in computers and software, life sciences, pharmaceuticals or any other industry likely to add significantly to living standards.

Already, for example, Canada is having trouble meeting the costs of social programs Canadians count on. As our population ages and workforce participation declines, Canada needs to become more innovative and more competitive to make up the difference, just to maintain current living standards. The formula for doing so has so far eluded policy-makers, despite a stream of prosperity initiatives and innovation strategies announced in succession since the mid-1990s.

Before proceeding, some definitions and a discussion of terms might be useful. National competitiveness rates the ability of countries to produce high-value products for the global marketplace. National productivity rates the value of outputs compared with inputs either of labour (labour productivity) or labour and capital (total factor productivity). Innovation is the ability to develop new productive processes and products so as to achieve high productivity and competitiveness. The link between productivity and living standards is complex. For example, a surge in commodity prices may raise productivity in that sector, but since that sector is an input to manufacturing, those higher prices may actually lower productivity in the economy as a whole. However, if the higher resource prices stimulate innovation to reduce the need for expensive inputs, the result will be not merely high productivity overall, but additional competitiveness owing to new, cost-saving processes. That higher competitiveness will enable living standards to rise.

National innovation system is a concept used by the OECD to group together the elements that make up a country’s innovation capacity, from the education system to the science base to macro and micro demand and much in between. If these elements function synchronously toward the goal of improving national innovation performance, then it is clear that (1) a country actually has a NIS as opposed to simply an array of system elements and (2) when the elements are working together, as a system, they will be mutually reinforcing and generate superior performance “for free” as a result of policy coherence. Examples of successful NISs abound, especially in Asian tigers and Scandinavia, as measured by OECD performance indicators, and backed up by World Economic Forum competitiveness rankings. Unsurprisingly, the US has the most powerful NIS in the world and is particularly outstanding in its ability to commercialize new knowledge, despite weaknesses in public education at high school and primary levels.

Perhaps it’s the success of the US in commercializing innovation, but a lot of policy-makers think an NIS is just gaudy patter for commercialization. Make researchers more sensitive to market needs, and bingo! Problem solved. If that were true, however, Canada would probably be a world leader already, owing to the measures already taken. Experience shows there’s more to managing a successful NIS than the relatively simple issue of commercialization. The challenge is one of understanding complexity and the gains that emerge from coherence. That’s what generates the positive feedback among system elements— gains available for free, as a reward for good management.

To understand what is going on (or in Canada’s case not going on) in prosperity creation, let us examine more closely the concept of a national innovation system. The OECD recently outlined a diagram of a generic NIS (figure 1).

An NIS is a “system” that enables countries to generate innovation. There is a demand side, encompassing national as well as regional and global consumer and industry demand, and a supply side that includes R&D entities such as small and medium companies (SMEs), large companies, research institutes, universities. Market forces typically undersupply knowledge, which for investors may be too easily shared and difficult to evaluate at the level of ideas and early research and therefore only weakly tradable, according to Aghion and Howitt in 1997. Public policy performs a dual function: creating inducements to innovation and attempting to control the result through regulation and education policies.

An NIS may expend from time to time a larger quantity of resources than it takes in directly. However, in so doing, it generates a profitable return by transforming and energizing the broader economy. Wealth, economic growth, superior competitiveness and ultimately higher living standards are achieved by upgrading and revolutionizing the economy through applications of innovative technologies and organizational change.

The catch is that to deliver on the promise, the system has to work coherently and is subject to instability when that coordination is lacking. Indeed, one advantage of taking a system approach to the innovation problem is that it frames and highlights the policy challenge of coherence and coordination. If the aim of the system is to promote knowledge broadening and deepening in national industries, public policy has to operate in support of that goal. It makes no sense to encourage post-secondary education and then handicap companies so that they move the best graduates offshore. It makes little sense to expect business to match government funding of R&D unless business can see a rationale linked to wealth capture. If the tax system does not reward channels for exploiting or commercializing the R&D that is developed under a tax credit system, then the R&D will remain unexploited in that jurisdiction.

Regulatory policy, too, must be based on scientific integrity and evidence. Finally, the internal motor of the system is Schumpeterian competition— creative destruction of the obsolescent by the new: a witheringly competitive dynamic designed to produce champion enterprises. 

Under-investment in science means Canada has a relatively smaller population of engineers and scientists than other G7 countries and top competitors elsewhere. Moreover, as Canada spends proportionately less than relatively better endowed countries on the science base, that proportional gap is unlikely to close. Consequences at (5) the company system include relative lack of powerful S&T companies, which in turn affects the career prospects for MBA students who might wish to become managers in such companies, so that Canada has relatively few managers experienced in commercializing S&T products.

This is quite a list (far from complete) of policies which may seem adequate in isolation that have cascading consequences that destabilize Canada’s NIS. Other dimensions include Canada’s political capacity to handle scientific controversy, the impact of weak intellectual property protection on business strategies, etc. Yet the root cause of this jumble can be traced to a single factor: policy incoherence with respect to innovation or, otherwise put, the failure of the NIS managers to find ways to coordinate their efforts so that Canada’s NIS functions as a stable, coherent system with a single objective, namely to enable the national performance in the creation of globally traded high-value products to become a national competitive advantage with respect to peer countries.

An explanation for this failure is that policy shops in Canadian governments dealing with NIS elements are not rewarded for keeping the full NIS picture in view. Instead, they compete with each other for political attention using economic arguments that stress the importance of single-factor solutions, e.g., more support for R&D, better program support for SMEs or exports by particular sectors, etc. Despite the role of cross departmental agencies and secretariats, there is no powerful body in government which continually monitors and analyzes the Canadian NIS and rates policy choices based on improving the coherent functioning of the system as a system. To underline a cliché from the 1980s, micro industry policy remains too intent on rowing oar by oar and not enough on steering the boat as a single vessel.

One might well ask whether the incoherence in the Canadian NIS is not offset to a large extent by the degree of integration with the US economy. Canada’s innovative firms operate in US dollars, aim at US-based customers (often performing contract research), seek venture financing in the US, armour-plate their intellectual property rights in the US patent system, draw on a domestic science base with close ties to the great research centres of the US, and seek out top researchers and managers with US experience and professional networks. The Canadian NIS in this perspective is an add-on to the US system in which relatively generous Canadian tax credits and exchange-rate-driven lower operating costs compensate to some extent for the other shortcomings in Canadian innovation policies. Indeed, many Canadian researchers are in fact members of US-based teams and supported by the National Institutes of Science to levels unobtainable in Canada. From this perspective, Canadian innovation is essentially North American innovation. The US is dominant and Canadians are paying a small price to sit at a table at which a great number of players will emerge as significant winners. As to the “system attractor”— global demand— Canadian companies have won a considerable market share in the US economy by being the most reliable suppliers of sub-components, beating out US domestic and foreign rivals both. Indeed, southward expansion has completely transformed the Canadian economy and made it a lot more competitive than it was a generation ago. But those gains reflect successful trade policy, not innovation policy, and also the way the world worked a generation ago, before 9/11 (and threats of border impediments) and the entry of the BRIC countries (Brazil, Russia, India and China) as full participants of the global economy.

Also, seeking solace in North American integration assumes the level of incoherence at work in Canadian innovation policy serves some other, compensating national goals. This is in no way the case: it serves no rational policy objective that Canadian output per capita, management education levels, and science and engineering population should be proportionately anything but leading among North America and its main trading partners. Canada’s ability to assert itself in North America’s future depends upon our scientific and engineering performance as much as anything else.

What therefore are the major causes of Canada’s continuing innovation policy incoherence? More specifically, why is it so difficult for Canadian tax, regulatory, education and immigration policies to adopt national innovation as one of Canada’s highest priorities and in consequence align policies coherently to serve science-based innovation? One reason is that at a conceptual level, innovation is seen as just another claimant on public spending rather than as an activity nourished by complex systems in which government’s role is at once subtle yet essential. More crucially, before policy-makers can embrace a systems approach to innovation policy, there must be a shift in the way policy is framed within policy circles. To put the problem into OECD jargon, Canada must shift from phase 1 innovation policies that emphasize science and education to phase 2 policies that stress coordination and policy coherence.

To understand how difficult a challenge that is for Canada, consider the following questions:

• Who in Ottawa advocates at cabinet level for science and engineering values and what inducements are in place that evaluate management according to NIS performance?

• In all the brouhaha about “accountability” what significant mechanisms are in place in the federal government to promote cross-departmental, comprehensive “policy evaluation” and “organizational learning” at a systemic level?

• Leading-edge sciences, especially those that cross categories such as life sciences and nanotechnology, challenge cherished beliefs and call out for informed technology foresight in policy-making. How well equipped is Ottawa’s policy machinery for providing leadership in these areas?

Unfortunately, to ask those questions is to answer them. Canada’s macroeconomic policy is a success because government learned to control its own spending. But government cannot directly generate a highperformance NIS. To get Canada’s NIS to function with the necessary coherence, government has to become as adept at the management of complexity and the inducement of system coordination as it now is at manipulating macroeconomic levers.