Economic Notes
Capitalism Vs. Innovation
by Nirbhay

The innovation story told by free marketeers goes something like this: You need to incentivise the ‘risk loving’ capitalists for inventions and innovations to take place. Patenting is essential because patents provide incentives to invent in the first place and to make the necessary investments in research and development, production, and bringing the invention to market. So, it is alright if monopolies exist because only firms who know they can monopolize on their innovations innovate in the first place. A brief puncturing of this myth is necessary. This is what Mariana Mazzucato does in her brilliant book called The Entrepreneurial State. Let us understand how capitalism and the private sector in particular in today’s age hamper rather than foster innovations.

1. General purpose technologies –General purpose technologies (electricity and computers) are technologies which are characterized by the following: 1) they spread into many sectors. 2) they improve over time and lower the costs to their users. 3) make it easier to spawn innovation. Ruttan (2006) argues that large scale and long-term government investment has been the engine behind almost every GPT (general purpose technologies) in the last century. He analyzed the development of 6 different technology complexes such as US mass production system, aviation technologies, space technologies, information technology, internet technologies and nuclear power and concluded that government investments have been important in bringing these new technologies into being. Block and Keller (2011) conclude that between 1971 and 2006, 77 out of the most important 88 innovations (rated by R&D magazines annual awards) – or 88%- have been fully dependent on government research support, especially in their early phases (which are by far the riskiest). In biotechnology, nanotechnology and the internet, venture capital arrived 15-20 years after the most important (and riskiest) investments were made by public sector funds. Funding for seed stage and start up stage where the risk of loss is the highest at around 55-65% (SOURCE: Pierakkis 2010) is dominated by government and universities. (SOURCE : The Entrepreneurial State)

2. Pharmaceutical sector - Let’s also talk about the pharmaceutical sector. Innovation is highly uncertain (in the pharmaceutical sector, for example innovation from an R&D project can take up to 17 years from start to end and the failure rate is extremely high: only 1 in 10,000 compounds reach the market approval phase which means a success rate of 0.01%.)  The short termism of markets is just not suited for these long-term investments. Corporate R&D focuses on short term goals. Long term risky investment in pharmaceuticals is therefore generally made by the state. (Angell 2004) Private pharma only produces 14% of the important drugs. 75% NMEs (new molecular entities) trace their research not to private companies but to the publicly funded NIH. NMEs are basically the important and innovative drugs. Private pharma specializes in ‘ME TOO’ drugs, which are slight variations of already existing drugs. From 2016-2020, the 14 biggest drug makers spent 56 billion dollars more on stock buybacks and dividends than R&D. 56 billion dollars more to enrich executives and investors instead of developing and improving medications. Government funding in USA for basic research is 57% and that of universities is 15% while businesses only contribute to 18%. Let us look at what private pharma does: Taxol, the cancer drug discovered by NIH is sold by Bristol-Myers Squibb for 20,000 dollars per year’s dose, 20 times the manufacturing cost. Yet, the company pays the NIH just 0.5% in royalties for the drug. Lazonick argues that the US government through the NIH (by taxpayer funded money) has been the nations and worlds most important investor in knowledge creation in the medical fields. To look at a recent example, 97% of the research on the Oxford/AstraZeneca vaccine was publicly funded. 

3. I-phone - Let us move on to the I-phone (and smartphones in particular). LCD: made by the NIH and NSF. Micro hard drive: made by DARPA and Department of energy (DoE). Click-wheel: made by CERN. Microprocessor: made by DARPA. SIRI: made by DARPA. Multi touch screen: NSF and DoE. GPS: Made by US navy. HTTP: made by CERN. Cellular technology: made by US military. Internet: made by DARPA. Touchscreens: made by US Airforce. The state literally made the I-phone with taxpayer funded money. Mark Blyth argues that 5 of the 6 major technologies used in the I-phone were made by the state using taxpayer money.

4. Google - The algorithm that led to Google’s success was a public sector National Science Foundation (NSF) grant.

5. Stock buybacks – in the last decade, S&P 500 companies have spent 3 trillion on share buybacks. ‘For the period 2001-2010, 86 of Britain's largest companies that are included in the S&P Europe 350 Index made €882bn in net profits of which 63% was paid out in dividends and another 26% to buy back their own shares. This development, the financialization of British business corporations, has them hot on the heels of their American counterparts. For the decade 2001-2010, 459 companies in the S&P 500 Index, almost all of which are US-based, expended $1.9 trillion, or 40% of net income, on dividends, and $2.7 trillion, or 54% of net income, on share buybacks, leaving only 6% of profits to potentially be invested for the future.’ (Source: Big pay-outs to shareholders are holding back prosperity, Lazonick).

6. Nature of innovation - Innovation is highly cumulative. Innovation today builds on innovation yesterday. Risk taking and speculation are absolutely necessary for new innovation to occur. This is the reason that the state is so often the stakeholder that so often takes the lead not only to fix markets but to create them. Some of the businesses that have benefitted most from large public investments are the same that have lobbied for tax reductions that have significantly reduced tax revenue. The tax system was not conceived to support innovation systems, which are disproportionately driven by actors who are willing to invest decades before returns appear on the horizon. Not only that, but corporations which benefitted the most from government funded research evade taxes and lobby for tax cuts which prevents the government to do further research. In the UK, for example the total tax gap i.e., tax income not collected (tax evasions, tax avoidance and late payments) is 120 billion euros, nearly the same size as the national deficit which stands at 126 billion euros.

7. Monopolization of public funded research – Basic research is 57% funded by the government (via taxpayer money). It is also important to note that basic research and applied research are deeply intertwined. Most of the important research is produced by the state using taxpayer money funded by us taxpayers. However, research shows that 5 for profit academic publishers control more than half of the science research published through the world. Privatization of rewards which were produced socially.