UNDERSTANDING INNOVATION

Ideas Untrapped

Innovation is the key ingredient to human material prosperity and an essential factor in economic development. But the importance of innovation is often misunderstood because of the common belief that poorer nations need not invent anything new and can always copy existing technologies from the richer nations - hence innovation policies are often missing from the development agenda of most developing countries. My guest today is social scientist and innovation policy expert Dan Breznitz - and he has made many significant contributions to changing the conversation and policy around innovation. We talked about the distinctions between innovation and invention, why the Silicon Valley model of innovation does not fit all contexts, and how innovation policies can be set in the long term.

TRANSCRIPT

Tobi;

Where I will start, basically, is innovation as the engine of economic growth is a view that has been pretty much validated through economic history. But when we think of innovation, we still think of new things, invention, which is kinda like a distinction you made in the book. So briefly, just tell me what is the difference between innovation and inventing new things, which most people understand innovation to be.

Dan;

So there's a big difference between innovation (and that's what we should care about) and invention. We should also care about it but it does not necessarily lead to economic growth, especially not where it happens. So if you and I would go back to my lab or your lab in the university, or just a lab in the back room, and we come up with a new idea for a new product or service. Even if we move it to a level of a prototype or have a patent on it, that's great, that's invention but that's not innovation.

Innovation is taking ideas and actualizing them in the real world. So taking the idea that we develop and actually make it into a product (if we talk about economic innovation) or service and sell it to people. It can be novel ideas, but it's across all the arrays of activities from coming up with novel ideas, to improving them, to recombining them with others, to innovation in their production, to even innovation in their assembly and after-sale. And innovation is important and creates welfare, not in the moment of invention but because it's continuous. So let me give you two examples that are very prominent because of Covid.

The one which is the most simple, since I know you love new cars, right, Tobi, and you ordered at least three in the last year, right. And you can't get even one of them. And the reason you can get one of them is not because people cannot produce cars, but because there are not enough semiconductors. And the reason there are not enough semiconductors in the world is Silicon Valley, which is called Silicon Valley because it was in semiconductors [but now] no longer knows how to innovate in the production of semiconductors. There are actually only very few companies. two be exact, and they both come from Taiwan, that knows how to create semiconductors, and how to actually innovate in their production.

But a much better example is COVID itself. I mean, it's great that we came up with new vaccines. But that was not enough, right, with the molecule. We had to innovate in their production, we had to innovate in material science creating a new glass vial, so we can move them around. We have to innovate in their distribution. But it's now very, very clear that that's not enough. True welfare for humanity and the ability to live with Corona would happen when we innovate to a level, which is now very clear, of producing billions of units of said vaccines and distributing them to every human on earth. Okay. That will probably allow us to put Corona behind us.

So it's not the moment of invention. I mean, the moment of invention is great. But innovation is the actualization of ideas all across the [value chain], if you want to call it the supply or the production, network, and stages, in order to constantly come up with better and improved products and services, and its impact, real impact start to happen when either all or most people on earth actually have access to it. And that happens because it's continuous.

So you and I talk on Zoom, which is a very old invention, right? Telemedia. However, you and I can talk - you're in Nigeria, I'm in Toronto - and not even think about the cost of this because hundreds of millions... not because somebody invented it, but because after somebody invented it, hundreds of millions of engineering hours, if not days, went into improvement in fiber optics, improvement in software algorithm, improvement in memory, improvement in CPU and speed to the level that now you and I can do zoom as if this is costless. And that's the real impact of innovation.

Tobi;

There's so much to unpack in that answer. But now today, like you said in the introduction, when people talk about innovation what usually comes to mind is Silicon Valley, and that's the model that you've critiqued quite a lot, rightfully so, in my opinion on many points, but just give me a brief. What are the limitations of the Silicon Valley model of innovation today and why is it an inappropriate example of what innovation should be?

Dan;

So let's understand what has changed in the world. And what has changed in the world in the last 20 to 30 years is before, when somebody came up with an invention and a novel innovation, it was then produced, it was transformed into industries, in production around that area. So let's think about HP, or Apple computers, as it was known there.

It used to be that when they came up with new products, they will produce that product very close to their headquarters. So Apple and HP employed 1000s, if not 10s of 1000s of engineers around Silicon Valley or in places like Colorado, around it. And those people will have great jobs in what you and I will now call advanced manufacturing, and all boats will be right. What we now have is a global system of fragmented production.

So let's talk about semiconductors. Okay. In semiconductors, now, we look at Tel Aviv, Silicon Valley, Taipei, Shinshu Park, Taiwan, Seoul, Korea, Shenzhen, in China, all of those places have unbelievably successful semiconductors industries. And if you look at those places, you'll also see that many of the same companies work in all of those places. So you think great, but then if you look at what the companies in those places do, it's completely different.

So in Silicon Valley and Tel Aviv, it's the first stage, we think about new ideas to put on silicon. In Taiwan, as you now know because you can get your car, it's the only place where they can take those ideas and actually make them into silicon. And Seoul, in Korea, Samsung and LG control very critical niches. So for every smartphone that you buy, the second-highest profits go to Samsung and LG because of memory and the controller of the screen, the touch screen. And in Shenzhen, it's the only place where we can work with different materials, constantly changing components [that] actually produce a product that works, for example, this iPhone and all the rest and sell it.

So all those places are extremely innovative, but they do different activities. And in order to succeed in each one of them, you need therefore different innovational capacities, but also different finance, different institutional system, different education system. And there are real, for two reasons, those options of where you work. One is because once you develop those capabilities and systems, you can excel in one or two of those stages but not in others. And the second is because they also define who is enjoying the fruits of the success, who is being employed, and how we're being compensated for that employment.

[What] happened in Silicon Valley and in Tel Aviv is that when move, we move to fragmented production, and we have a new model of venture capital. We moved [away] from actually having an industry which is really about innovation. So if you want to be completely cynical about it, the industry is about creating companies for cheap and selling them for a financial exit within five to seven years for the highest bidders, preferably 1000s of percent, right? It's not really for most of those people about changing the world. And in this system, the only people you employ are the engineers of the top universities (so not the people we should really care about or worry about). They are getting wages that are at the top wages of the US and Silicon Valley, or Tel Aviv, it's the same wages. So they're on their way to becoming a millionaire and they're getting stock options, right, basically lottery tickets to become billionaires.

But who are the people that enjoy this system, it's only the GEEK ELITE, their financiers, maybe a few celebrity chefs and that's it. No one else is really employed in that level. And as soon as they finish with their work, all the rest of innovation goes somewhere else to be done. So what happened in both Tel Aviv and Silicon Valley is suddenly from a system that created a lot of good employment and jobs for everybody in that society, you're employing only the top 15 percent who are already basically extremely well off, the rest of it 85% are on a treadmill to nowhere.

We all heard about what happened in San Francisco and Silicon Valley. But let's talk about Israel. Israel moved from being the second most equal society in western democracies in the 70s when it started that process, to now moving into a position where one of every five families in Israel is under the poverty line, which means they don't have enough money to buy food at the end of the month. And that's the fruit of a success they enjoy from this tremendous, maybe the most amazing innovation miracle in the second half of the 20th century. 20% of Israelis, including children, don't have enough money to buy food at the end of the month. So I wonder why people, even if they can imitate Silicon Valley, why do we think this is a good model for our community?

Tobi;

Now, you touched on something that I want to sort of press on, which is the finance of innovation and how it has come to be dominated today by venture capital finance model. Now, we all know how even Silicon Valley itself got started with a lot of public funding, either in Defense Research, which created lots of companies from IBM, Oracle, even Microsoft… how DARPA funded Google initially. So my question then would be why did the public, in this case, governments (whether at the city level or at the federal level) stop funding [research]? How did venture capital come to dominate the finance of innovation, and public financing just kept dwindling and dwindling, is it because we stopped believing in innovation as a source of growth, and policy sort of shifted to things like redistribution and things like that?

Dan;

So I will say that it really depends. There are some countries, multiple countries that still have a lot of public support for innovation. Canada, for example, is one. However, the problem with some of them is that they don't know how to transport that investment in basic invention into real innovation. And then all that great wealth, intellectual wealth, if you will, and all those inventions are then being taken away, and becomes great innovation somewhere else with what you say private money. So I wouldn't be as harsh on that. What I think has happened is that we have developed together with what people will call the neoliberal worldview. A firm belief with Silicon Valley is the only model. And then a very thin understanding of how Silicon Valley really works. And that's a belief that actually helps a lot of government if they so wish because then they don't have to be responsible and the only thing we need to do is to allow venture capital, whatever that is to come into the play, instead of actually looking cases of success, real success, from China, to Taiwan, to Korea to Finland, to actually all the Nordic countries.

Whereas a significant role for public money and very interesting division of labor between public funding, public money and what it's trying to do, and where and how, and I think that's the most important thing, how private money and private investment in innovation are done, regulated, and most importantly institutionalized. And the way to think about it remember those stages we talked about?

Tobi;

Yes.

Dan;

Each one of them necessitates a completely different financial system in order to excel in it, right. If your aim is to supposedly create a new Alphabet, Google, or Facebook, you need maybe a system that resembles venture capitalist [...]. I have to say venture capital work only in ICT in biotech so far. So if you are in any other industry, maybe you should look for other ways of financing it. But if you're, for example, in the business of Taiwan where in order to excel as TSMC, you need to build new fabrication facilities, basically, factories at the tune of several billions, if not 10 or above billions a year, Venture Capital, Private Equity and even the New York Stock Exchange and NASDAQ are just not the way you can find this type of behavior.

There is no venture capital on earth that would allow you to spend hundreds of millions or billions every year on basically capital equipment. You need to figure out the different financial systems that allow you to do that and judge you. The metrics of your success are different than the metrics of the success that your VCs and NASDAQ uses. From return on assets, to a margin of profitability, all those things need to be changed for you and your financiers to actually be able to make money.

Tobi;

So not to defend Silicon Valley, I'm not in any position to do that. But I'm just thinking from the perspective of say an African startup founder, for example. And we are talking about the proliferation of this model. So my question is, don't you think this model, the Silicon Valley model, venture financing startup as an approach to innovation spread the way it did because it is permissionless? So for example, I can start a startup right here in my room, in Lagos, Nigeria, whereas the current political economy might not let me be able to build a factory, because then I'll have to go through all kinds of regulatory red tape, I have to know someone at government ministries, I'll have to navigate a whole bunch of things. So an African found out my hear your argument and think, Well, the only way I have this opportunity to rise is because of the Silicon Valley model. So what would you say to them?

Dan;

So I will say that A, you're right. And, and I'm not against the Silicon Valley model. The two things that you have to take into the equation, and again, as a community leader is A, it's very, very hard to innovate with the Silicon Valley model, which is fine. But the second, if you are successful, really successful, one of the results will be growing inequality if you really imitate it. So you might as well think about it in advance and figure out ways how to at least limit this inequality, or, you know, the growth much more positive and wide, instead of, you know, like Israel, who understand that they have a problem, but now for at least a decade now have programs after programs trying to diffuse the miracle with mixed success because they're already stuck in that model.

So from a point of what you just said, yeah, all power to you. The question is, how can we then widen the, in Lagos, or in Nigeria.... the impact of your startups? One thing is what I call in the book, play [...] is, you say, Yeah, that's a model, that's a financial system and it works. And that's one problem. Once you put venture capital into your firm, Tobi, you will need to supply them with a financial exit, right? That's how they make their money. But what I want as the mayor of Lagos is for your company to grow as big as possible, preferably in Lagos.

So we need to then figure out how to do two things. A, how to allow you to grow as big as possible in Lagos for as long as possible before a financial exit. Because then two things happen, A, if you're big enough and successful enough in life your venture capitalist wouldn't want to move, they would like you to be in Lagos. Not only that, then is the biggest you are and the most successful you are the chances are that your financial exit will be an IPO, which means that you will stay as an independent company. And then when we do an IPO, should you go to a NASDAQ IPO or should you go to a local IPO or should you go to an [...] IPO there are several options, right? Each one of them has consequences on your growth. The second if you grow big enough and successful enough, even if the financial exit is somebody is buying you, Tobi, because you by then have already 300, 400 employees in Lagos and you have customers all over Africa, the foreign company that will buy you will probably keep you maybe even grow you to become their main division in Nigeria.

So it's not that the only thing that Lagos will get is you, your co-founders and some of your employees becoming millionaires and then the employment disappearing. But not only you as some of your employees grow and become bigger and employ more people. And as we do that, we also need to think about what will be the financial incentives I'll have you if you're big enough, so you can employ people who are not just r&d engineers. So I would call it, you know, playful delay. So the Nigerian startups or any African startups that now happen, grow as big as they can, for as long as they can before they're being bought by someone else.

Tobi;

So now, if I am the governor of Lagos, the Mayor of Lagos and I'm trying... So my first question before I get that would be, are there geographic? So I'm thinking along the lines of things like new trade theory, economic geography, and specializations. So are there geographic determinants of innovation? Or can innovation be deliberately nurtured and directed in any location? So I had a conversation recently about the supply chain, which you also touched on on semiconductors. And it took the pandemic for me to know that probably two-thirds of the global supply of hand gloves come from Malaysia. But I didn't think, unless you tell me I'm wrong, that Malaysia did set out to become the global supplier of hand gloves. So are some of these innovative niches and economic dominance based on innovation, are they serendipitous or can they be deliberately nurtured in a particular location?

Dan;

So let's talk reality. Okay.

Tobi;

Yeah.

Dan;

And I'm going to use Israel and Taiwan as an example, just because both of them are famous enough that people at least heard about them. So both of them started at the same time, okay. And since I interviewed the people who were responsible, if I tell you that they really knew how the end outcome would look, I'll be lying, and they would be lying as well. But they made particular choices that really define their success. So Israel, even before Silicon Valley became famous and all the rest says, Look, we have no natural resources, we don't have a lot of money, what we have is brains. And we actually have no clue in what industrial sector those brains will transform things into to growth. So we are going to create an innovation policy, which is a horizontal technology policy. Back then just so you understand how limited knowledge was, they called it science-based industries because the term high tech was not yet created. And they said, in order to do that, we will focus all our attention on coming up with new ideas and making them into products. Okay, and we'll derisk will help private [companies] and private companies need to do that. And we will create policy, after policy, after policy to make it happen.

And then those companies started to be created. Then very early on like a year after the NASDAQ was established, there was already an Israeli IPO on NASDAQ. So the state co-evolved its policies to slowly but surely worked down this model. So it's not a surprise that Israel ended up basically as an engine of startups. It's not a surprise because it was horizontal. So it was whatever was successful in the market, it followed very closely in the footsteps of the US in new industries, first hardware, and then software. But the Israelis had no clue that this is what was going to happen. They also invested a lot in Agri-tech companies and in geothermal energy and then all the rest. Okay. But their model of how do we know that we are successful is, we will have a lot of new companies with new products that are exportable and we'll build the financial system to allow that to happen. Taiwan was almost the opposite.

Taiwan says for both political reasons other is we do not want to have very big corporations like Japan and Korea, which is a model we see to our left. And because we are isolated, we can take that risk. We also don't think that we can be successful completely imitating Silicon Valley. So where we can be successful is in new industries working with the US. It's not just Silicon Valley back then, it's the US as a whole. So we will put bets on this new industry called semiconductors. But unlike Japan or Korea, we will not put bets on a specific niche. But we will create two capabilities that will allow Taiwan to excel in what we want to excel, which is basically the sub-suppliers for American companies, maybe Japanese. Remember, there was nothing else in the world back then. So they spent resources on innovation in the production of semiconductors. So all those companies that we talk about TSMC, UMC, Taiwan Mask Company, all of them came from a public research institution, which created projects that basically took the technology from abroad, brought it to Taiwan, created the company that then allow the ability to, you know, produce semiconductors in Taiwan, that was one.

And the second, [is] a huge amount of attention to design. So you want to do something with silicon, you need to do two things. Actually produce the silicon but also design what it is that this chip does. And again, through the same public research institute that was diffused. But the aim was not an industry like Silicon Valley that comes up with new ideas, but the aim was you need much more simple semiconductors, for example, in toys. So we will figure out where there are niches where you already have a need for semiconductors and we'll make those semiconductors more reliable and cheaper. We're not going to invent new ones.

And we will be able to do that because we just created those factories so we can do those two things and be these great sub-suppliers for very big multinationals. So without even understanding how the global system is getting fragmented, they opted for one industry and in one part of that industry. When they created TSMC they didn't know that they were going to completely change the global semiconductor industry. But they had a very specific strategy of thinking, what would success look like to Taiwan? So the ability to do over design and supply for big American, European and Japanese companies, the ability to innovate in the production, and the ability to innovate in second-generation innovation and semiconductors and multiple companies that will grow big but most of them are SMEs, and that was the vision. And then as industry changed, right, they co-evolved.

In both places, there was nothing, really nothing before the government started. So in Israel, there were 860 Something people with any kind of academic education doing any kind of r&d in the whole business sector. So probably less than in one lecture hall in your university. And in Taiwan, not only that the private industry did not want to do semiconductors but even after a few very successful spinoffs from ITRI, (that public research institute I'm talking about) when they wanted to spin off TSMC (maybe one of the world's most successful companies), private investors in Taiwan refuse to participate, and it ended up in a small Dutch company called Philips [which] became the biggest investors in TSMC. So again, did they know how they were going to change the global industry? No. But did they have a very specific vision of what is success and what would it do to Taiwan and Israel? Yes.

Tobi;

Excellent. That brings me to my next question, which is kind of broad. Like I mentioned earlier, if I was the governor of Lagos, or the mayor of a city, or even maybe the President, and I want to design innovation policy, I really want to exploit innovation for real inclusive, widespread, broad-based growth that tries to avoid some of these problems that you have mentioned, both in the book and even in our conversation on Israel, Silicon Valley and all that. What should I do? What should I be funding? What complimentary public institutions do I need? And how should innovation policies be designed generally?

Dan;

So I think you're missing the most important step. The most important step is what, as I just said, Israel and Taiwan have done, maybe even unknowingly. What I will tell you as the governor of Lagos is that, Okay, let's assume you're successful as a first step. 15 years from now, what does Lagos look like? What kind of companies do you have? What kind of people do they employ, what kind of things do they sell to the global system and what kind of things do they buy from the global system? Okay, now that we have this vision, let's do reverse engineering, and figure out how we get into that vision knowing that we, I mean, the world is constantly changing, we might have to, you know, change course, but we have a vision of what success is. And that vision is not the one that too many cases are now [that] when they talk about innovation, they talk, oh, I want to go to VCs and I did a lot of patents. No.

What does your society look like? Once you do that, A) we can reverse engineer and figure out exactly what financial system you need, how you develop it, what changes you need for your education system, how you also tie yourself into those global networks so you get the outputs you need, which are not just physical outputs but the constant knowledge and ideas, and how do you move it back? And as you do that, you also need to look at several things: what are your current strengths and limitations? what you can build upon? And what are gaps that you have that [you think] is reasonable for you to assume you can fix? And then we can start to be much more targeted. Not necessarily in industries, but the way I think about it is in capabilities, where do you want to operate in those four stages? And then we can maybe talk about industries, maybe just talk about core activities of what you need in order to excel in that and build all those institutions and programs. But without that vision, you're basically going into a very rough ocean with no map and the no goal. So the only thing that will happen is, at best, you'll be drowned.

Tobi;

That's powerful and poignant. Final question, Dan. And this is a bit of a tradition on show. What's the one idea, it may be from your work, it may be something you admire, it may be something that is probably even old and the world has forgotten about, what's the one idea that you would like to see spread everywhere, you'd like to see people discuss more, you'd like to see people think about a lot more? What's that idea?

Dan;

That idea is that: believe in human agency, or believe in the ability of humans to do things and to make things better. Right? So if you think about what makes us human, it's really to innovate is to take ideas and make them part of the world. Right? That's what we do. And for too long, everybody has been taught that there's only one way to success. And I think that that's the main problem of modern economics and modern social science. We look too much at structure, and not enough at the human agency. And we need to believe in the ability of societies, humans working together, figuring out new ways to make our communities better. But in order to do it, they have to understand how the world works and how they work. And doing that I think we now have more options than ever before to make communities both richer and more inclusive. But it has to come from the communities itself. Lagos and a lot of places in Africa need to dream their own dreams and stop dreaming the European or American dreams. The other successful countries that have done that manage at least to tailor the American dream and make it into their, I don't know, flavour [of] dreams - from Japan and Korea to Taiwan, Israel, Finland, all of those places that have moved from being poor to successful after World War Two.

Tobi;

Terrific. Thank you so much, Dan, for doing this with me. It's been educating, it's been enjoyable. Thank you so much.

Dan;

You are very, very welcome. I hope that one of those days, maybe after, we will finally innovate our way out of COVID...

Tobi;

Yeah

Dan;

Then I can meet face to face.

Tobi;

Yeah, I would I would love nothing more.

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