Canada’s lagging productivity growth, lack of top international brands and knowledge-based companies operating at the Fortune 500 level make us unique among the G-7 countries in that our relative standard of living is steadily decreasing. Every few months a new research report emerges, repeating the same recommenda- tions ”” cut taxes on business inputs and incomes, reduce barriers to factor mobility and competition and increase sup- port for science and technology (S&T). Over the last 10 years, including the federal budget of 2007, taxes have come down, depreciation has been somewhat accelerated, and from the Canada-US Free Trade Agreement onwards, barriers to factor mobility ”” principally capital but also labour to some extent ”” have been coming down. As well, government financing for S&T has grown to the point where it is proportionately the largest in the OECD. Result: not much change. Why?
One obvious reason is that other countries have gone further in their framework policies to ensure that market forces can both signal and reward management decisions that increase productivity and innovation. Since some of these countries ”” especially the Scandinavians ”” started from a more restrictive base, their liberalization has had a more dramatic effect on national performance. But the small countries of northern Europe still have in some respects ”” labour mobility for instance ”” more barriers than Canada does and lack Canada’s major competitive advantage, name- ly its complex economic intertwining with the US. Clearly there’s more to the story ”” but what? Recently attention has been focusing on the way Canada organizes innovation, and particularly the low levels of so-called BERD, or business expenditure on R&D. In some official circles this has begun to emerge as a mantra ”” business has to do its part.
The problem with all these approaches ”” which is now showing up in the relative lack of BERD (although in fact some of Canada’s high-tech sectors exceed the OECD aver- age and even US BERD) ”” is that they fail to consider suffi- ciently the management dimensions of innovation and thus fail to attach sufficient weight to the fact that Canada’s econ- omy is not organized for commercializing ”œnew-to-world” innovation (tables 1 and 2). If we want to avoid continued economic decline, that will have to change and it will be a big job. To sum up the situation:
Canada’s national innovation system has many strengths, but is crippled by three glaring weaknesses: there is a near fatal disconnect between the national sci- ence capacity and the national ability to commercialize the research; Canada’s traditional value chains are not evolving rap- idly enough to ensure future pros- perity growth; and the inducements or automatic regula- tors that would enable the system to heal itself without significant change are almost entirely absent.
Improving Canada’s competitive performance is ultimately a chal- lenge of re-aligning and upgrading Canadian value chains and inno- vation so that the economy can profitably export more knowl- edge-based products. In addition to ”œre-alignment,” there is also a need to develop the organization- al knowledge required to compete globally with the best.
Unlike many of its more successful competitors, Canada has no micro- economic coordinating institutions of sufficient scale to re-align science, industry, and national prosperity or competitiveness objectives, or to accelerate the development of orga- nizational competitive advantage.
To get the innovation payoffs in a timely manner from current and future framework-liberalizing meas- ures, it will be necessary to overcome those weaknesses. Already a price is being paid for failing to match the governance and national economic management skills of our competitors. Successful innovation becomes a plat- form for more innovation, so lack of innovation carries enormous opportunity costs. To cite two examples: nei- ther Canada’s medical technology nor telecommunications networks is any longer leading edge, so there are few if any Canadian companies that might have built service businesses around them at the global level. Yet these are among the largest business opportuni- ties, going forward.
Indeed, in internet, computer and telecommunications (ICT), life sci- ences, nano-technology and cognitive sciences, sluggish uptake of innova- tions means we have too few major companies with the management skills and resources to bring significant inno- vations to global markets. This con- trasts with rising innovation stars like Denmark, Singapore, Finland, Sweden and the Netherlands, all of whom surpassed the US rating in the World Economic Forum (WEF) network readi- ness survey. (The US ranked 11th, Canada 14th). Five of these ”” Switzerland, Finland, Sweden, Denmark and Singapore ”” outranked the US (6th) and Canada (16th) in the WEF competitiveness report as well.
Canada is recognized as having an ”œinnovation- based” economy, but Canada’s adaptation to the new economy has unfortu- nately lagged behind that of other countries. Essentially Canada derives its wealth from the same value chains that made us a world beater in the 1960s and ”˜70s: energy-minerals- metals-transportation equipment; agrifood; and forestry and lumber.
The first of these is the most suc- cessful in generating both export sur- pluses and volumes, among which are high technology products respected world wide. Canada’s mining and met- als and transportation product sector, including energy extraction and metals processing, is actually an excellent model for what a first-rate innovation system should provide. The sector has one of the highest BERD rates in Canada, links to university research across the country, and is active in every province. In addition to providing the basic ingredients for a great many advanced manufacturing products (e.g., steel and aluminum for automobiles and other surface transportation, and for aviation), its financial needs form the heart of Canada’s investment activi- ties organized around the TSX in Toronto, which has become the global hub for financing mining ventures.
A smaller but similar linkage of firm-driven commercialization of sci- ence is to be found in the transporta- tion and civil aviation firms around Montreal. Here too, university research and degree programs are interlinked in the service of better products, growing firms, and preparation of highly quali- fied personnel.
Another example of successfully linking government support, education and company output is to be found in Ontario’s auto sector. A good example of a Canadian company that has suc- ceeded because of its own organization- al innovations as well as its presence in the Ontario cluster is Magna International, now the third largest auto parts supplier in North America.
Yet powerful as these and other suc- cessful export platforms are, they are no longer the generators of rents they once were. Metal prices have taken off because of the emergence of India and China. Metals and energy, in particular, are experiencing a welcome boom. But it is cyclical demand, over which the compa- nies have no control. Canada’s sources of mineral wealth are growing more and more expensive to recover. The final stage products that make use of them are using less and less metal and more and more alternative new materials. North American producers are losing market share to offshore manufacturers, who use more effective design and manufac- turing methods. In addition, the prod- ucts and the manufacturing processes are becoming increasingly knowledge- intensive. Canadian suppliers do not lead in the creation of intelligent control ystems and are not leaders in this new element of design and manufacture.
As significant as the technology base, however, is the management chal- lenge. Only a handful of Canadian com- panies actually face the full challenge of developing transformative products in advance of the standardized design stage (new-to-world products or services) and continually renewing their products every five years or less. Because most innovation in Canada is local adaptation by subsidiaries of global brand holders, Canada is not particularly well endowed with the man- agement capacity required to develop and lead really inno- vative, complex global com- panies.
Moreover, services have now become a major source of economic value-added and have transformed the wealth-creating environment in the process. The expansion and prolifera- tion of these new wealth-generating innovations ”” ICT-based, drawing on the new web-based service technologies to generate new sources of value and therefore rents to the top performers ”” is portrayed in several recent OECD studies.
The OECD highlights this devel- opment and describes a number of contemporary value chains and sup- ply chain relationships. These are instructive in that they map out the new rent-creating terrain and by implication underline Canada’s absence in those innovative fields. Figure 1 shows the wood furniture value chain. Despite its overwhelm- ing presence in forestry and wood products, Canada has only a number of small companies in the wood fur- niture sector; Canada has no global players, although globally, this sector expanded 36 per- cent between 1995 and 2000. It is companies like Ikea that have made the most of this opportunity.
The chain diagram is also interesting for illustrating by implication some of the difficul- ties Canadian companies could encounter in trying to devise new ways to compete against IKEA. Canada is strong in the areas of forestry and sawmills, and is pres- ent in furniture manufacturing. However, some elements of potential value capture are not easily achieved in Canada:
Proprietary seed or wood fibre development is possi- ble but is foreign to the public ownership of forests and culture of commodity wood production that dominates the industry. Saw mill logistics are organized by the mills, whose business focuses mainly on sup- plying house-builders.
Furniture design, another poten- tially high value area, is mainly contracted out by smaller manu- facturers to individual designers. There is no organized design capa- bility in Canada with direct links to customers selling world innova- tive designs to manufacturers.
Paint and upholstery innovations occur but are dependent upon innovations by the chemical com- panies. There is no wood furniture- maker in Canada large enough to work directly with materials engi- neers to develop proprietary break- through products or create new sources of rent in that segment.
Access to market is in general con- trolled by third parties rather than linked directly to the manufactur- ers themselves. More generally, the manufacturers will act as con- tract suppliers to market outlets, such as Ikea.
Canadians may generate consid- erable economic activity in this sec- tor, and the best companies will succeed in outperforming others like them. But major sources of potential innovation that could create rents on a scale to build global leaders are hedged about by significant barriers encrusted in tradition.
Not surprisingly, Canada’s energy- mining-metals-manufacturing value chain dominates Canada’s export picture. While in fact energy and min- eral exports are extremely science- based, they are nevertheless commodities, unbranded, and traded without differentiation. But bringing them into the framework of human exploitation adds value, and indeed value could be further added by addi- tional investments. The metals derived from mining also require considerable science to achieve the high perform- ance needed for contemporary fabricat- ing materials. Canada uses its own supplies and imports other metal pellets for auto parts and sub-assemblies, which become semi-processed exports. Additionally, about 20 percent of rev- enues for consulting engineering derive from mining and oil and gas projects.
Yet even as industry expenditures on applied science deepen and our traditional value chains become more knowledge inten- sive, Canada remains stuck in the same pattern of export ”” primarily of unfinished and semi-finished products. A 2007 Conference Board study on Canada’s integration into global supply chains by Goldfarb and Bechman reveals that despite increases in processed product export volumes, as a proportion of value (i.e., with price effects included) Canada’s exports have hardly advanced up the process- ing chain, and this after nearly a generation of free trade. Where we should have seen a consider- able transformation from low value-added to higher value- added and diversification into new sectors, what we actually see is essentially more of the same, with some improved specialization owing to free trade effects. Canada currently spends about 2 percent of its GDP on science and technology, about the same as the UK. But Canada’s value chains are not evolving as rapidly as increasing prosperity requires.
Canada’s failure to move beyond resource- and medium-technology-based rents emerges strikingly in the 2006 State of Trade (SOT) annual report. In one sec- tion it highlights China’s growing export sophistication. In 10 years (1995-2005) China has almost doubled its world exports of motor vehicles (1.2 percent to 2.2 percent) and electronics equipment (12.6 to 22.6 percent), tripled its exports of machinery (5.9 to 19.4 percent) and slashed its dependence on textiles by nearly 42 percent (from 29.3 to 17.1 per- cent). As the SOT report points out:
As China’s exports continue to become more sophisticated, Canada will feel increased pres- sure from China’s growing export competitiveness. If Canada does not adjust to the competitive reality of China, we will not be making the most of the opportunity of being next door to the largest market in the world.
The deeper message is that Canada must be able to generate innovations that permit it to capture rents from full participation in the global economy. The alternative is to struggle to match costs through exchange rate devaluations. The difficulty is that although that message may be well understood, the problem of how to get from here to there has so far not been solved.
Yet however much one may regret this lag, in fact the Canadian econo- my is only responding to the incentives economic policy-makers have designed for it. It is not reasonable to assume the economy will suddenly create, reward and promote additional innovative capacity unless the incentives change. Under current circumstances, therefore, even if improving framework policies improves productivity through efficien- cies, Canada will continue to trail in the generation of new sources of wealth. The good news is that other countries that have found themselves in similar circum- stances have been able to change, and Canada can as well. But it will take a new approach and require some controversial refitting of Canada’s innovation system.
It is relatively easy to describe some of the changes Canada should make if it wants to become more prosperous through increased innovation. There is a prevailing consensus that Canada must pursue much more aggressively the opening of domestic markets to compe- tition if Canada wants to improve signif- icantly the yields it now gets on its roughly $10 billion a year in public spending on R&D. For innovation to achieve the levels required, companies have to face at least the same levels of Darwinian winnowing in Canada as they would outside Canada. Currently, many Canadian companies are shielded from the full force of global competition. We should not wait a day longer to bite the bullet: the steps outlined in OECD and other reports urging greater market opening should be followed, i.e., the OECD recommendations for opening Canada’s domestic market in goods, services and investment to greater com- petition should be implemented.
More controversially, Canada must upgrade its current approach to financing S&T. If we are to pursue innovation seriously as a national goal, then we must also link academic research more closely to indus- try needs by (1) ”œjoining up” customers, industry and researchers, and (2) making continued research and commercializa- tion funding contingent upon achieve- ment ”” more patents, more internationalization, faster product mix re-seeding and expanded market share.
To achieve and oversee this, Canada needs to create a national (i.e., federal) innovation platform along the lines of agencies in some of the countries with higher innovation capacities than ours ”” a platform designed to strengthen innovation performance and aid Canada’s global companies to diversify and develop the new value chains the country needs. This would mean:
A consensus that Canada’s pros- perity will depend upon successful innovation ”” a complex activity embracing scientific discovery, commercialization, business process and value chain upgrading and internationalization.
Improving innovation accounta- bility, transparency and executive capacity by bringing innovation into the centre of public policy.
Currently, Canada lacks a ”œgo to” centre in Canada’s bureaucracy for tracking national innovation or accept- ing accountability for Canada’s innova- tion performance. Clearly that should change if we want innovation to have the central importance it deserves.
The good news is that Canada has the elements needed to manage a sig- nificant innovation program. But these elements are currently serving inde- pendent constituencies rather than working together to build value chains that will generate competitive advan- tage at global scales. Academic scien- tists are financed by the institutes and granting councils without reference to industry’s needs. Public support for industry innovation is aimed primarily at keeping small companies operating and offering some support to help them grow. Very little or nothing is done to induce industries to upgrade and restructure their value chains in light of emerging global technologies and trends, although the federal gov- ernment has units for business interna- tionalization that could take on such tasks (e.g., Export Development Corporation and International Trade).
There are also some noteworthy exceptions to these S&T silos ”””join- ing up” organizations such as Innovitech in Quebec, the MaRs proj- ect in Ontario, OCRI in Ottawa and various technology development agencies at the provincial level across Canada. One example of these at the national level is Precarn. As a 4th pillar, i.e., public-privately funded organization, it is (as are others) something of a model for what Canada needs. Precarn is a ”œjoining up” agency promoting collaborations that add value to S&T research. However, it aims at growing individ- ual commercial stars from the start- up stage rather than promoting national innovation capacity. Clearly, Canada has the ”œjoining-up” skills required for a national effort. But they are not being applied or resourced for a larger strategic role. The technology platform Canada needs at the national level should go beyond ”œhorizontal” linking to ”œjoin up” vertically science and industry advisory councils, programs and funding decisions as well. And it should regularly evaluate progress according to industry performance improvementachieved.
An example of the kind of ”œjoining up” agency required is the Finnish Tekes organization. Tekes is primarily a place for industry, science and govern- ment to cooperate on improving Finland’s innovation capaci- ty, and it is responsible for about 57 percent of Finland’s total innovation budget. Figure 2 illustrates one of the ways Tekes operates to build performance accountability into the funding process and link a portion of academic research with industry needs, including pushing industry to restructure, upgrade and internationalize.
Canada needs such an agency ”” actually a regrouping of existing bodies under a single administrative roof with the savings that should entail ”” to change the way industry innovation is encouraged, to bring some of Canada’s larger companies into the process, to lower the risks and costs of diversifica- tion into opportunities within general purpose (GP) technologies (as Nokia, a lumber company, was encouraged with the help of the Finnish government to become the world’s leading cell phone company) and to successfully pioneer new-to-world products and processes.
The agency would use a variety of funding instruments, from research grants to vouchers for use at Canadian engineering schools and universities and repayable loans for exports. The aim: to stimulate companies to develop new lines of business, find partners and com- plementary technologies, and develop the dynamic competitive advantages they will need to achieve and sustain world leadership. One might protest that Canada in fact conducts such activities already, but there are a couple of differ- ences in this proposal: the coherence of the funding strategy with a stress on building greater orga- nizational capability in Canada, and the emphasis on performance accountability ”” if recipients don’t achieve their specific targets, the funding disappears.
Canada’s economy, a leader at the end of the industrial age, is not leading in the global, knowledge-based economy. Canada remains strong in three major value chains and has promising innovations bottled up in small companies spun off from academic research with little prospect of commercial success. Currently, these elements are working at cross purposes. Despite a generation of programs designed to free up factor mobility and improve pricing efficiencies in the econ- omy, Canada’s output mix is not evolv- ing as fast as those of our trading partners. As a result, prosperity growth is faltering. There is now a body of man- agement research that shows that beyond factor mobility, the capacity to create and share knowledge is a key ele- ment in building competitive advantage. In addition to improving factor mobility, Canada also needs to upgrade its capaci- ty to create organizational advantage.
The recommended agency is not to be a central planning agency or anything like it. Competition is the only motor able to drive this transfor- mation. For firms under competitive pressure to innovate, the new agency would (1) serve as a knowledge-sharing and ”œjoining-up” engine that facili- tates achievement for managers want- ing to build more innovative and globally competitive companies, and (2) make it easier to achieve a produc- tive alignment of Canadian research and development in support of that goal. The agency should additionally supplement industry knowledge with such formal measures as technology foresighting, technology road-map- ping, networking and extensive con sultation to promote a shared vision of Canada’s future technology paths. It should also work to lower the risks and costs for Canadian firms to diversify and build the foundations of new, globally competitive value chains. The programs would be coherent, account- able and reward success.
When the first modern Europeans came to Canada some 400 years ago, they found what seemed spectacu- lar abundance: whole schools of enor- mous fish awaiting capture, thick, loamy soil crying out for cultivation, endless acres of land and forest awaiting exploitation. As recently as the 1950s, Canadian uranium and hard rock mines acted as magnets that drew in FDI to the point that the Canadian dollar traded above the United States dollar and Canadian mining entrepreneurs launched hundreds of new companies, some of which eventually became glob- al leaders. For the last four centuries, the power of nature is what has made Canada a ”œgo to” address for prosperity, the way young American writers flocked to Paris for inspiration in the 1920s.
Canada’s traditional value chains continue to dominate the economy, and while they align science and indus- try, the industries themselves are generally declining in relative competitiveness. As things now stand, Canada’s traditional value chains are no longer pow- erful enough engines to ensure the continued rising living stan- dard of the country.
The Canadian economy as it is currently managed is not evolving rapidly enough toward producing innovation-based rents derived from global eco- nomic presence. Up to now, Canada’s policy-makers have addressed this as merely one problem among others. The innovation/productivity prob- lem cannot be solved that way. No less than a significant adjust- ment in innovation governance and policy will be required, not only to enable our taxation, educational and industrial policies to align with new-to-world innovation at the top of the agenda, but also to create the micro-economic processes required to ensure an alignment of new science and the commercial platforms capable of commercializing it. Once embarked upon, the journey will become progres- sively easier, encouraged by the positive feedback of rising returns, and with that, rising prosperity.