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Kevin Lynch on Innovation at IPAC Annual Conference August 20 2012


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The Honourable Kevin G. Lynch
Vice-Chair, BMO Financial Group
Institute of Public Administration of Canada
L'Institut d'administration publique du Canada
64th Annual Conference
St. John’s Newfoundland
August 20, 2012

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Kevin Lynch on Innovation at IPAC Annual Conference August 20 2012

  1. 1. “THE NEW GLOBAL REALITY: YOU WANT TO BE COMPETITIVE, YOU BETTER BE INNOVATIVE!” by The Honourable Kevin G. Lynch Vice-Chair, BMO Financial Group to Institute of Public Administration of Canada LInstitut dadministration publique du Canada 64th Annual Conference St. John’s Newfoundland August 20, 2012 1
  2. 2. THE NEW GLOBAL REALITY: YOU WANT TO BE COMPETITIVE, YOUBETTER BE INNOVATIVE!Introduction Why does innovation matter so much for our competitiveness today? What is the roleof government in building an innovative economy? Where is there scope for innovationin public administration during an era of fiscal restraint? All good, pertinent andchallenging questions, and ones with which public servants should be earnestly grapplingbecause getting the answers right will be crucial for Canada’s future. Long banished to the periphery of public policy and corporate strategy, innovation isnow front and centre, as a core element of the solution to countries struggling withausterity and low growth, and companies confronting stagnating sales, new overseascompetitors and declining competitiveness. The public policy starting point for innovation is the context, and the context we nowface is pervasively global and profoundly changing. Structural trends and seismic eventsare reshaping economies, societies, politics, power and expectations around the world.And, this changing context is shifting the “drivers of success” for the Canadian economy.Six such pivotal trends include: o Pervasive globalization: the global center of economic gravity is shifting towards Asia with the rise of dynamic emerging economies in Asia and elsewhere. The “new global reality” is increasingly a two-speed world, where the West is in the slower lane. o Demographics: for the first time in a very long time, we’re collectively aging in Western countries, and this will have underestimated consequences for potential economic growth through slowing expansions in the labour force, and for longer term fiscal frameworks through increasing pension and health care costs. One consequence is that the hunt for talent is going global, and the winners, both countries and firms, will be in the driver’s seat in the new global competitiveness. o Information revolution: from the Internet to Facebook to Tahrir Square, we have moved from a connected West to a hyper-connected world. This hyper-connected world is changing the reality of what a market is, how markets are accessed, and where work can be done in real-time distributed systems. It is redefining the nature of communications, both the medium and the style of messaging and, as the Arab Spring has demonstrated, anyone with a smart phone is now a journalist. o The ultimate hang-over: the global financial crisis of 2008 is like the hangover that will never end, no matter how many aspirins governments and financial systems in many countries take. It has spawned a low growth, low interest rate, 2
  3. 3. high volatility environment in the developed world, with continued deleveraging and uncertainty a fact of life in Europe and a lingering reality in the United States. o The decline of trust: the cumulative effect over the last decade and across countries of corporate failings, environmental disasters, financial crises, government mishaps and misleading public information has led to substantial and sustained loss of trust by the public in leadership broadly defined. o New global competitiveness: today, it is increasingly productivity and innovation that drive competitiveness. In advanced economies, it is less low costs and massive scale and more flexibility and creativity; it is less geography and more capacity. So, in this future, what will competitive economies look like? Tom Friedmanbelieves we have progressed to a hyper connected world where, for innovation-driven,global corporations, the mantra is now: “imagined here, designed there, manufacturedelsewhere, sold everywhere.” Michael Porter believes we can only have competitivenesswith rising living standards in Western countries if we reinvent ourselves as highproductivity growth economies, led by innovation. Even President Obama believes that“Innovation is the first step in restoring American competitiveness”. And why do they all believe that innovation is so pivotal? Simply put, innovation isthe ability to create new products or services, produce existing products or deliverexisting services in new ways, and develop new markets. Innovation is clearly not thesame as research and invention; rather, it is the process of turning new ideas intocommercially successful goods and services that bring perceived value to consumers. Or,more colloquially, research is a process that transforms money into knowledge, andinnovation is the process that transforms knowledge into money. Innovation is crucial to the economy because it drives productivity, and a moreproductive economy grows faster, adapts better, and supports higher wages, more jobsand improved living standards. It helps answer the question of how a high-wage economylike Canadas can compete with those of emerging countries. It is as much a socialimperative as an economic one: increasing productivity growth through innovation raisesthe living standards of a society just as it increases the competitiveness of an economy. Where does all this leave Canada? Frankly, we are wedged between the new globalreality and an economy that has not stressed productivity, innovation and diversification.Consider a few, rather dismal, facts: o Canada’s business productivity levels are now only 72% of U.S. business on average, and we no longer have a low dollar to subsidize poor productivity. o Canada’s business spending on R&D is 1.0% of GDP, well below the OECD average of 1.6%, half that of U.S. business and almost a third Swedish business. Canadian business has the dubious distinction of ranking 20th in the OECD in research, at a time when innovation is the life blood of the new competitiveness. 3
  4. 4. o Canadian business spends only 48% as much as U.S. business on ICT (information and communications technologies) and only 75% as much on leading edge machinery and equipment --- both instrumental to productivity growth. o Canada’s trade is highly concentrated with the United States (over 75% of Canada’s exports), and no dynamic emerging economy accounts for more than 1% of Canada’s exports (save China which is only 3%). Herein lies Canada’s challenge --- we are a sophisticated economy, with a well-educated and multicultural workforce, and a very high standard of living. We are one ofthe great economic success stories. But the global marketplace we operate in is dynamicnot static. Competitiveness is increasingly bifurcating into either enormous scale withlow costs or high creativity and flexibility with premium prices. In this changing worldwe are a high wage economy and a chronic underperformer in innovation andproductivity. Canada simply cannot sustain above-average living standards and below-average innovation investment and productivity growth, especially with a Canadiandollar around parity, weak U.S. growth and growing demographic pressures. In this new global reality, Canada is over-invested in trade with slower growingWestern economies and under-invested in continual innovation in the goods and serviceswe produce and how we produce them. What this means is we need to diversify: to shiftmore of our future trade towards a strategic set of dynamic emerging economies; to focuson the new middle class in these emerging economies, not solely on selling them naturalresources; and to change the nature of what we sell and how we sell it, in both our coreU.S. market and in the new emerging markets, towards more innovative goods andservices that rely on meeting changing consumers’ needs at premium prices.Innovation Nation: The Challenge Ahead While Canada has produced world class innovative firms and exceptional innovators,no one would rank Canada as an “innovation nation” or a nation of innovators. Thereality is that Canada’s productivity and innovation challenge runs deep and broad. Thekeys to its solution lie in many hands --- the private sector, universities, financialmarkets, individual entrepreneurs and of course the public sector. And, the urgency ofgreater, faster, and more sustained action rises as the pace at which the global economy ischanging, increases. Getting the “macro conditions right” is absolutely necessary, and Canada has donewell on this front. We have low levels of net public debt, low corporate tax rates, highpublic investment rates in university research, sound financial system, strong civicinstitutions and a commitment to fiscal balance, which most governments in Canada areimplementing at present albeit at different paces and intensities. But these are clearly not sufficient for success in creating an innovative andproductive private sector --- the facts above speak for themselves. So what is missing? 4
  5. 5. Governments need find the right balance between pressure for change and support tochange, both key elements in encouraging firms to innovate. We should not forget theoft-cited observation that “most people don’t change because they see the light, theychange because they feel the heat”. Competition and exposure to diverse foreign marketscreate pressure on firms to innovate and improve their productivity, just as well designedprograms and tax incentives can support corporate innovation. While there are a number of Canadian businesses that have demonstrated exceptionalinnovativeness through entrepreneurial risk taking, they are more the exception than therule. There is not enough competitive pressure in the Canadian economy to drive mostfirms to continually seek productivity growth and new innovations. As a result, ouraverage competitive performance is well below our best performance. To be successful at innovation, firms need to organize for it, manage for it, and createincentives for it. Today, the majority of innovations start with consumers and front linestaff, not research labs. But to turn the knowledge of consumer wants or needs intoinnovative, commercially viable goods and services requires corporate leadership, anopenness to new ideas from customers and staff, non-hierarchical channels for expressingthem inside firms, and organizational structures within firms to turn ideas into iPods. Diversity plays an important role in creating inventions and innovations --- thecreative process is anything but linear, and new perspectives, learnings, experiences,backgrounds can provide that creative spark. Immigration provides such talent diversity,and the innovation impacts can be dramatic: between 1995 and 2005, 25 % of all newU.S. high technology firms had at least one foreign-born founder. Corporate innovation is not the sole preserve of high technology firms; indeed,innovation can have equal impacts on productivity and competitiveness in the retailsector, the manufacturing and the natural resource sectors. Whatever the sector, what ischanging most about corporate innovation strategies is the shift to “open innovation”rather than solely “in-house innovation”. Proctor and Gamble now sources 50% of newproducts outside the firm. However, no matter how open, networked or collaborativetheir innovation model, firms still need internal “receptor capacity”--- both organizationaland technological --- to be successful at continual innovation. And governments --- federal, provincial territorial and municipal --- have to be part ofthe productivity and innovation solution, not just in the policies they establish but also inthe way they work. Government accounts for a sizeable proportion of GDP in Canada,and innovation-led improvements in the productivity of the delivery of governmentservices would improve our national competitiveness. Governments need a productivityfocus and lens, just like the private sector; after all, they are huge suppliers of health andeducation services, security, taxes and pensions, information, regulatory compliance anda myriad of other services --- all of which are amenable to innovation and productivity. 5
  6. 6. While we have many programs to encourage innovation, we lack alignment ofinterests, strategies and support mechanisms across governments, the private sector andthe higher education sector. What we need is a clearer “frame”, or ecosystem, aroundwhich the various participants in the innovation system can coalesce. While such anecosystem in reality will be complex, dynamic and somewhat sector specific, it will havecore common elements such as a clear sense of collective and individual purpose, activecollaboration among private sector firms, governments, universities and financialmarkets. And the establishment of such alignment and the frame for it requires the use ofthe “convening power” of governments to engage leaders across the economy. One possible “frame” for the Canadian ecosystem could include four basic elements:  the “macro innovation environment”, where governments, both federal and provincial, play a lead role in establishing the public finance, tax, regulatory, competition, trade and broad-based support environment --- the “ objectives and rules of the game” if you will;  the “micro innovation environment”, where universities and community colleges play a lead role in developing the talent and the research excellence Canada needs, and in collaboration with the private sector (not in isolation from), and where governments deploy more customized supports when there are market gaps and a lack of scale;  the “community innovation infrastructure”, where the modern version of industrial policy, that of picking sectors and broad technologies with the potential to win, takes shape, and it brings together at the local level governments, universities, financial sector, mentors, angel investors and peers, all of whom have a key role; and  the “organizational innovation infrastructure”, where firms play the lead role in putting the structures, incentives and capacity in place within corporations (and outside with research centres) to drive continual innovation.Innovation in Government Besides the framing role for government, the government sector, as you well know,is a multi-faceted player in innovation through: the public policy it sets; the way itdelivers public services; and, the standards it sets for what it buys. The good news is thatCanada has some excellent public analysis of what government can do in this regardthrough the work of the Wilson Panel (The Competition Policy Review Panel, June,2008) and the Jenkins Panel (Panel on Federal Support to Research and Development,October, 2011) as well as the recent OECD Survey of Canada (OECD EconomicSurveys: Canada, 2012). Further, there is much that we can learn from experiments andexperience in other countries. 6
  7. 7. Drawing on both this research on innovation at home and promising successesabroad, I would offer several areas where the public service itself could examine thepotential for innovation and change within government. And I do not think thatinnovation and austerity are incompatible --- indeed, in flush times, it is more difficult totackle the status quo not less, and lean times offer more understanding of the need forchange as well as the impetus of necessity. The five areas that I would encourage you to examine are procurement; regulatoryprocesses; health care delivery; shifting to less indirect and more direct innovationsupport; and helping SMEs go global. Let’s touch briefly on each in turn. First, consider the enormous potential procurement has to stimulate and supportinnovation, without impeding competition concerns or value-for-money concerns ofauditors general. With respect to government procurement, a giant change would be tomodify the standard procurement mandate towards something akin to “innovative goodsand services at the best price” and away from the current mandate of “goods and servicesat the lowest price”. This would have a major impact on both start-up firms andestablished firms that are branching out into more innovative and less standardizedproducts and services. Second, more efficient processes working backwards from the business or citizenperspective, using technology to improve the process without any reduction of standards;a slow process is neither a necessary or sufficient condition for a rigorous standard. Third, we have a great health care system in Canada but the Canada Health Act(CHA) enshrines principles not the status quo, and there is much scope for innovationand productivity in the way we deliver health care consistent with the CHA. As a verymicro example, look at what the application of “lean processes” at St. Joseph’s Hospitalin Toronto has done for processing times and patient satisfaction. Fourth, Canada is an outlier among OECD countries in its reliance on taxexpenditures to encourage and support private sector innovation, and without muchevident success. It is timely to consider reducing this excessive reliance on passive taxexpenditures, and re-directing support towards targeted, active and customized types ofsupport. This could include experimenting with interesting Israeli and U.S. models of“de-risking” support to venture capital. And fifth, getting many more Canadian SMEs trading throughout Canada (andputting pressure on governments to eliminate internal trade barriers as part of theexperience), across the NAFTA region and around the world. The experience from othercountries is that the more Canadian SMEs engage in trade in new and diverse markets,the more experienced, innovative and productive they will become. But, we still haveonly a minority of our firms trading outside Canada, and fewer still outside NAFTA, andthis could be a useful area for innovation in programs and policies. 7
  8. 8. Conclusion To conclude, despite our challenges, there is absolutely no reason for Canada to be aninnovation and productivity laggard. Governments can and should play a leadership role,and it is not all about spending --- part of its role is framing the questions and conveningthe players. Business, university and labour all need to be part of the innovationleadership imperative. We also need our public service leadership fully engaged – youare a tremendous national resource of knowledge, analysis and policy capacity, and beingnonpartisan and without sectoral self-interest, you have a unique contribution to make tothe public good of improving Canada’s innovation and productivity. We all need to make the question “What will it take for Canada to build an innovativeand productive economy?” part of our ongoing public discourse, as well as the continuedfocus of future budgets and corporate Canada’s strategic business plans. 8