The Global Innovation Paradox

It's commonly thought that even though globalization was shifting manufacturing jobs from America to lower-cost, more efficient, off-shore competitors, the U.S. retained a vast lead in high-end innovation. But are the powerful forces of globalization now leading to the off-shoring of America's innovation and R&D? New statistics from the National Science Foundation (via Mike Mandel) certainly point in that direction.

Way back in 1990, I wrote a book titled The Breakthrough Illusion with Martin Kenney that argued that the U.S. had developed a powerful capacity for venture capital-backed innovation, but that the actual manufacturing and production of those innovative new products - and the jobs that flow from that - was increasingly being shifted off-shore.

A couple of years later, I was invited to be part of a Council of Competitiveness group that was looking into the future of American research and innovation. After completing a round of interviews with the R&D directors of leading U.S. and foreign companies and looking into the data, I reported my provisional conclusions saying I was convinced that R&D was becoming much more globalized and that U.S. R&D in particular was being "externalized" - more and more of it taking place outside the wall of big companies with their own R&D labs. My results were met with stunned silence and disbelief. "The U.S. was still the unquestioned leader in R&D, and had little to fear" was the prevailing attitude.

Fortunately, over time, we've come to understand that R&D no longer just takes place in giant R&D labs, and that innovation occurs in many types of organizations and places, from university labs to small startup companies, independent inventors and entrepreneurs to global labs. My former colleague Wes Cohen , now an economist at Duke University, and Daniel Levinthal developed the construct of "absorptive capacity" to explain this shift; firms have to be able to absorb as well as create new knowledge and innovation. As the former director of R&D at Hewlett Packard once told me: "My predecessors used to be able to create all the new information and knowledge they would ever need inside our labs. But now, there is so much information out there, everywhere across the world, I need people who have the networks and ability to absorb it wherever it comes from and synthesize and make it useful to our operations."

Still, so much of R&D and innovation remain a puzzle, largely because we don't have very good data about it. So I was delighted to see economist Mike Mandel's post on newly released statistics on the off-shoring of R&D by U.S. corporations. There's been a lot of speculation about this, as Mandel notes, but not a lot of good statistics and hard facts. "The economy is driven by innovation, but we knew very little about who was doing the innovating and where," he writes. "In particular, we had absolutely no idea how much R&D was being offshored by U.S.-based companies."

Now, the National Science Foundation's Business R&D and Innovation Survey provides new data on the off-shoring of R&D by U.S. companies. It turns out that U.S. manufacturers conduct about a fifth of their total R&D in other countries. Still, as the chart below shows, the numbers for certain industries are, shall we say, non-trivial. Almost 40 percent of auto R&D now takes place outside the U.S., a third of R&D related to textiles and electrical equipment, and about a quarter of R&D in chemicals, computers, and peripherals.

In these key sectors of the economy, innovation appears to be following production off-shore. I recently spent an evening with the founder of a leading high-end road bike company. He told me that when he started the company, some high-end road bike frames were still being made in North America, but more and more of the manufacturing was shifting to lower-wage off-shore locations, principally in China. Over time, virtually all manufacturing would shift there. But still, the high-end design and engineering was performed in the U.S. Not so anymore, he said: Now virtually all the design and engineering of high-end road bike frames had also followed manufacturing off-shore.

I want to make clear, I'm not passing any normative judgment on this: I continue to believe firmly in the gains to specialization and trade. And with its great universities; startup companies; venture capital-financed model of innovation; ability to attract global scientific, technical, and entrepreneurial talent; and innovation ecosystems like Silicon Valley, the U.S. retains tremendous competitive advantages in high-end innovation in new, cutting-edge industries. But it's important to have the facts in hand. And they tell us that the U.S. is no longer the only innovative place on the planet.

Add to this out-sourcing fact one other: According to other NSF statistics, about half of all U.S. patents come from foreign inventors. You quickly see how globalized innovation has become. It's now more important than ever the U.S. remain an open, absorptive economy that can attract the world's best and brightest people and their ideas. America's ongoing restrictionist posture, which I detailed in Flight of the Creative Class, remains a big mistake, and we need to take venture capitalist John Doerr's maxim about stapling a green card to the green card of every foreign graduate of our universities more seriously than ever.

One more thing: Given these global realities it's less likely that an economic strategy based around "shifting" the U.S. economy to new and "better" - that is higher-tech, higher-value economic sectors - can alone power sufficient economic development and employment growth. The U.S. economy - and many of the most advanced economies around the world - now face the conundrum that innovation and production in goods-producing industries will be insufficient to generate employment growth and rising living standards. New job upgrading strategies will be necessary. As I argue in The Great Reset, really, the only place left to look and the place we have to begin is to start upgrading the more than 60 million low-end service jobs in everything from retail sales to home-health care and restaurants and turn them into more innovative, higher-wage, family-supporting jobs.