Want More Innovation? Increase Pressure, Not Support

Canada's policymakers are concerned about our poor economic productivity and innovation performance. The two are the highly linked – productivity improvement (more value added per hour worked) comes from innovation in process or product.

But what drives innovation and hence productivity?

Innovation in a country's economy is driven by the presence of specialized support and competitive pressure. Support means conditions that provide a foundation for our firms and individuals as they compete and innovate. Innovation by our companies benefits from specialized support from skilled workers and managers, government support for R&D, capable suppliers, and complementary industries. At the same time, more competitive pressure from sophisticated customers and vigorous rivals compels our firms to innovate or die.

Support and pressure need to be balanced. Policy over-emphasis on support and not enough on pressure creates a comfortable and lazy environment inimical to productivity and innovation. In contrast, all pressure and no support creates a harsh and barren environment, equally inimical to productivity and innovation.

This search for balance is common in our language – carrot and stick, good-cop and bad-cop, etc.

We have a plethora of government policies on support factors – SRED to support R&D, skills development support for our firms and employees, Global Innovation Clusters, small business financing, scientific research support, and various targeted sector supports to name a few. Support factors are easily identified and implemented. Business leaders can articulate areas where government support would help their firms and political leaders are happy to announce a new program to support industries and workers and innovation.

But does our public policy provide adequate competitive pressure? Consider, for example, regulation to limit competition: Many Canadian industry leaders benefit from regulations that shield competition, especially foreign competition.  

Our telecommunications industries – broadcasting and cellular services – are shielded from foreign competitors through entry and ownership restrictions. Our broadcasting firms’ voting shares must be 80-percent owned by Canadians and 80 percent of directors must be Canadian. Similar restrictions apply to cellular services firms that have more than 10-percent market share. Lifting these would expose our incumbents to the competitive pressure from world class innovators.

Airlines are protected from foreign competition in Canada through the policy of cabotage – not allowing foreign carriers to provide service between two Canadian points. In addition, foreign ownership restrictions apply, which limit ownership limits at 49 percent of Canadian carriers. This blocks the benefits of competitive pressure on the innovative capabilities of our Canadian airlines.

Supply management sets up massive tariffs – often more than 200 percent – on imported dairy, poultry and eggs, to protects domestic producers. Consequently, we export little. New Zealand made great productivity and export gains in its dairy sector after abolishing its subsidies from 1984 to 2003.

Trade is an important stimulant to innovation through both support and pressure, but we tend to ignore the latter.

Trade supports innovation by opening larger market opportunities for innovators, thereby achieving greater scale and easier return on investment. Additionally, trade helps innovators achieve more effectiveness and efficiency through access to international supplies of materials, people, and capital. These are critical supporting conditions for innovation.

Equally important, international trade exposes our businesses and managers to the beneficial pressure that creates the imperative for innovation. It requires our businesses to confront and outmaneuver aggressive and capable competitors who are a threat to complacency. It also opens our businesses to a greater number of sophisticated customers, who demand innovative goods and services at low prices.

The environment for international trade has changed dramatically in recent years. And as governments respond to higher US barriers, they should consider the following:

• Retaliatory tariffs are not likely to change the behaviour of a much bigger trading partner; instead, they increase prices for Canadian consumers
• Closing our market to US producers (e.g., the current boycott on US-produced wine and liquor restrictions) reduces the competitive pressure on our domestic producers to innovate
• Tariffs and barriers reduce the supply of critical inputs to our industries thereby limiting the potential for innovation and productivity.

The 1984 Macdonald Royal Commission recommended a move away from building our manufacturing industry behind high tariffs walls. Let’s not go back to the walls. Instead, Canadian governments should keep our tariffs low or non-existent to help consumers and spur our industries through international competitive pressure – while considering geopolitical implications.

These various regulations protect Canadian companies in various industries – but most Canadian firms who have excelled in global competition, like Gildan, Cirque du Soleil, and Garda Security have emerged from non-protected industries.

In sum, if we want more innovation and productivity, we need to be thinking about increasing the pressure on business leaders and managers through greater competition and spend less time thinking about more support initiatives.

James Milway is the former Executive Director of The Institute for Competitiveness & Prosperity and co-authored Canada: What It Is, What it Can Be with Roger Martin.

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The views expressed here are those of the author. The C.D. Howe Institute does not take corporate positions on policy matters.