The past decade has witnessed a steady, though largely groundless, drumbeat of warnings about how the West is losing its innovation edge. The first such warning appeared soon after the 2003 report by Goldman Sachs predicting that in the long run the BRIC emerging economies – Brazil, Russia, India and China – will eclipse the industrialised nations. One year later, Adam Segal of the Council on Foreign Relations argued in a commentary for Foreign Affairs that “the U.S. lead…may be slipping, and the most serious challenge is coming from Asia.”

It is hard to square these warnings with such paradigm-shifting technologies as smartphones, tablets, wearable computing, autonomous cars, hydraulic fracturing or ‘fracking’ for shale gas and oil, 3D printing, and stem cell engineering that western researchers have churned out one after another in the last few years.

Comments about the West losing its innovation edge reflect a number of fallacies. Often, they are no more than broad generalisations without any data on innovation. The assumption seems to be that because emerging economies are growing faster than those of developed countries, they must automatically be getting stronger at innovation. Related to this is the assumption that because high-tech products like iPhones, iPads and laptops are assembled in China, or that many information technology services are performed in India, China and India are becoming technology powerhouses. A third fallacy is to equate investment in R&D (a measure of input) with strength in innovation (a measure of output). It is equally mistaken to assume that the countless examples of product adaptations for the ground-level realities of emerging markets (a Tata Nano in India or a low-cost mobile money transfer system in Kenya) mean that the tide of innovation is turning away from the world’s developed markets. A final and very common fallacy, especially in the case of China, is to assume that the number of patent applications filed with or granted by the local patent office is a reliable benchmark of global innovation power. These fallacies prompt five salient observations about the West’s current status and trajectory regarding innovation vis-à-vis the rest of the world.

First, with the exception of China, the bulk of R&D spending is still concentrated in the world’s developed economies. According to data compiled by R&D Magazine in collaboration with Battelle Memorial Institute, on a PPP-adjusted basis, developed economies in 2012 accounted for 74% of the world’s gross R&D expenditure, well above their 59% share of world GDP. China’s global share of both GDP and R&D expenditure was about 16-17%. All other emerging economies, including Brazil, India and Russia, contributed a total of 24% to the world’s GDP but only 10% to the world’s R&D funding. Economic growth in much of the emerging world has so far been driven either by labour cost arbitrage (for manufacturing in China and services in India) or by the commodities boom driven by demand from China and India. Except at the margins, emerging economies haven’t focused on technological innovation as the primary driver of their economic growth.

“Except at the margins, the emerging economies haven’t focused on technological innovation as the primary driver of their economic growth”

Second, again excepting China, for every other large emerging economy, not only is R&D-to-GDP ratio well below global averages, there is also no long-term upward trend. Between 2006 and 2012, the R&D-to-GDP ratio for the world as a whole declined slightly from 2% to 1.8%. Comparative data for the big developed economies have remained well above average. During this period, the R&D-to-GDP ratio remained constant at 2.8% for the U.S., 2.1% for EU4 and 3.4% for Japan. China increased its R&D-to-GDP ratio from 1.6% to 1.8%, but the data for the other emerging economies is very weak: India’s R&D-to-GDP ratio seems stuck at a low 0.9%, Brazil’s at around 1.3%, Russia’s at around 1.5%, Mexico’s at a very low 0.5%, and Indonesia’s at only 0.2%.

Third, China’s record on the output side of technological innovation is unimpressive when compared with the country’s commendable record on the input side, where in 2012 its share of global R&D funding was 17%, second only to the U.S. share of 30%. On the output side, China’s share of patents granted by the U.S. Patent and Trademark Office and also by the European Patent Office is markedly lower at 2.5% and 1.2% respectively in 2012. Of course, the rapid growth in money being spent on R&D means that China’s record on the output side is improving, but is still much weaker than on the input side.

Granted, if one looks at patents issued by, or applications filed with, the State Intellectual Property Office (SIPO) in China as against the U.S. and European patent offices, the output numbers also look very impressive. China is well on its way to achieving its goal of doubling the number of patent applications filed with SIPO from one million in 2010 to two million by 2015. But the vast majority of these applications are for ‘utility model’ patents which undergo only preliminary examination for formalities rather than substance – a concept that doesn’t exist in the U.S. Lee Kai-Fu, one of China’s most respected venture capitalists, and a former president of Google China, has noted that what Chinese entrepreneurs at present do is “iterative innovation” – which means taking an existing idea and tweaking it for the Chinese market.

Fourth, the factors responsible for China’s challenge regarding the productivity of its R&D (the input-output ratio) are structural, and therefore not amenable to quick resolution. The biggest impediments in China’s path are:

  • The dominant role of state-owned enterprises. With rare exceptions such as Huawei and ZTE, state-owned enterprises (SOEs) rule the landscape of big companies in China. Their primary goal is employment and job creation rather than disruptive innovation that may be risky but could undercut other SOEs and create shareholder value. They also enjoy privileged access to input factors and are protected from the rigours of competition. Innovation is not a high priority goal for them, and that’s arguably the reason why, other than Huawei and ZTE, there is no equivalent in China to an IBM, a GE or a Honeywell.
  • Allocation of government R&D funds based largely on who-you-know rather than what-you-know. As Yigong Shi and Yi Rao, deans of Life Sciences at Tsinghua and Peking Universities respectively, put it in an editorial in Science magazine, when it comes to government grants “it is an open secret that doing good research is not as important as schmoozing with powerful bureaucrats and their favourite experts…China’s current research culture…wastes resources, corrupts the spirit, and stymies innovation.”
  • Emphasis on quantity over quality. China’s R&D culture suffers from a focus on quantity over quality, the use of local rather than international standards to reward research productivity or grant patents and a continuing weakness in the enforcement of intellectual property protection laws. The result is not just a massive focus on incremental advances but also duplication of what outside China is already proven knowledge.
  • Rote learning. China’s educational system emphasises rote learning rather than creative problem-solving. As Lee Kai-Fu has also noted, “the Chinese education system makes people hard working, teaches people strong fundamentals, and makes them very good at rote learning. It doesn’t make them creative original thinkers.” The result is that iconoclastic minds either get channelled into conventional thinking or “become outcasts and their parents would think they’d gone crazy.”
  • Homogeneity. Unlike the U.S., and Silicon Valley in particular, which thrives on diversity of ethnicity, national backgrounds, cultures and languages, China is largely a sea of homogeneity. Innovation thrives in a culture of diversity where one doesn’t feel the compulsion to fit in and where people with strong backbones are likely to be viewed as heroes. As Sebastian Thrun, a transplant from Germany and the first head of Google X, the company’s big-think research lab, noted in a recent interview with the U.S. journal Foreign Affairs, “there’s a genuine innovative element in America that you find in almost no other culture…people who came over had to be innovative to make their own rules and clear the land and build society up from scratch.”

Chinese insiders, unlike those western observers who claim that China is about to overtake the U.S. and other advanced economies in the innovation game, appear to recognise the challenges that still lie ahead. In mid-2013, at workshops for three groups of senior executives from some of China’s largest state-owned enterprises, we conducted a confidential survey that revealed that over half of them believed China would be a bigger economic power than the U.S. by 2025, but only 13% believed that it would also overtake the U.S. technologically.

Fifth, the prospects are that in the long run some of today’s big emerging economies will close the gap in technological innovation with the U.S., Europe, Japan and South Korea, and the most likely candidates for doing so are China and India. Despite the economic turmoil engulfing almost all emerging economies, the IMF predicts that in 2014, the Chinese and Indian economies will grow by 7% and 5-6% respectively – significantly faster than Brazil or Russia. China is very likely to emerge as the world’s largest economy by 2025, and India as the third largest by 2030. With their growing economic size, these two countries are almost certain to increase further their investment in R&D, and they also have some of the strongest institutions of higher education in the emerging world. They will benefit, too, from network linkages between the large numbers of highly skilled Chinese and Indian immigrants in key technology hubs such as Silicon Valley and institutions back in their homelands.

The eventual rise of China, India and a few other economies as technology powers will be the culmination of a trend towards the emergence of a multi-polar world economy that has been underway for the last two to three decades. This is almost certain to have positive implications for all economies, including today’s developed economies. Much innovation constitutes ‘public’ goods, either right off the bat or after patents expire or competitors figure out how to legally reverse engineer a pioneer’s ideas. The emergence of new innovation hubs therefore has strong non-zero-sum characteristics that will benefit not just the newcomers but established players, too.

That said, there are a number of policy moves that decision-makers in developed economies must implement to ensure that they remain among the world’s technology leaders. These include: (a) incentivising R&D both directly via institutions such as the U.S. National Science Foundation and the National Institutes of Health as well as indirectly via tax incentives; (b) preserve and strengthen education in mathematics, science and engineering; (c) maintain or establish immigration policies that attract the world’s best technical and entrepreneurial talent; (d) reduce the bureaucratic, financial and time costs of patenting without lowering the technical thresholds that new inventions must cross to be patentable; and (e) be strict in enforcing intellectual property rights both domestically as well as internationally in terms of not permitting IP violators to use stolen IP to develop or enjoy an export advantage.

Photo credit: dorahon