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An Economic View on Technological Change and

InnovationB. Verspagen, 2005

The Economics of Technological ChangeChapter 1

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Invention, Innovation and Diffusion

• Major innovation

• Minor inventions (refinement and development of the basic innovations)

• Radical breakthroughs followed by incremental improvements

• Diffusion of innovation

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Invention, Innovation and Diffusion

• Schumpeter

• Stages in the life time of an innovation– Invention (technological domain)– Innovation (invention put onto market)– Diffusion (process that spreads the

innovation, adoption and imitation)• Diffusion of a major innovation by incremental

innovations of basic design

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Invention, Innovation and Diffusion

• Technological paradigms “Dosi”– “a model and pattern of solution of selected

technological problems, based on selected principles from the natural science and on selected material technologies”

• Basic design of the innovation altered by incremental innovations, but limited by the choice of paradigm and the specific circumstances in which the technology develops

• Technological trajectory “Dosi”

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Invention, Innovation and Diffusion

• Success of innovation (hence of the paradigm) depending on how well incremental innovation is able to adapt the paradigm to local circumstances– Skills and capabilities of workforce– Cultural aspects of the society

• Technological paradigm will ultimately most likely to break down and a new paradigm might emerge (better to adapt local circumstances)

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Interaction of Technology and the Economy:Demand Pull or Technology Push?

• Economic development and growth → technological change → entrepreneurs

• Does technology determine economic development or vice versa? – Technology push hypothesis– Demand pull hypothesis

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Interaction of Technology and the Economy:Demand Pull or Technology Push?

• The demand pull hypothesis– Idea to innovate from the market– Schmookler in 1950s and 60s– Market information– Critique: the difference between needs and

demand

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Interaction of Technology and the Economy:Demand Pull or Technology Push?

• The technology push hypothesis– R&D first then marketing

• Basic (versus applied) science– Basic science, applied R&D, knowledge

developed into product or process, diffusion through the market

– Linear innovation process

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Interaction of Technology and the Economy:Demand Pull or Technology Push?

• Kline and Rosenberg “The Chain-Linked Model”• Combination of two ideas• The central chain of innovation: potential market,

invention, design & test, re-design & produce, distribute & market → demand pull approach

• Also feedbacks → not a pure demand pull model• Research → interacts with different stages in the

innovative process, improvements of the design (incremental innovations)

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Technology in Economic Models

• How to incorporate technology into economic models?

• Exogenous production factor

• Endogenous production factors: labor and capital

• Until 1960s, technological knowledge as a shift factor in the production function

– Raising the level of technological knowledge implies that more is produced with an equal amount of K and L

1Q AK L

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Technology in Economic Models

• A determined by factors that are completely outside the economy (exogenous)

• Technology → endogenous versus exogenous factor?

• Product versus process innovation• Why it is difficult to endogenize technological

change?– Technology has certain characteristics of a public

good– Technology is subject to great uncertainty

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Technology as a Public Good

• The appropriability of technological knowledge • Public good characteristics:

– Non-rivalry (if one person uses the good, this does not prevent other people from using it again)

– Non-excludability (the party that puts the good on a market has no way to control the use of this good by other parties interested in it)

• Firms do not have power to charge consumers a price for the public good to make profit

• Governments may take an active role in supplying public goods

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Technology as a Public Good

• Knowledge to be used as many times as necessary → non-rivalry

• Not possible to exclude others from using the knowledge

• Timing about putting invention on the market first depending on development costs

• Competition in the production of new good is a positive development for consumers (additional value)

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Technology as a Public Good

• Benefits to society versus firm• The public interest in innovation is larger

than the private excess costs that are faced by the company that considers to invest in the project

• Market failure – The public goods aspects of technological

knowledge give rise to an incentive problem in a free market economy

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Technology as a Public Good

• Is technological knowledge a pure public good?• Skills and efforts on the side of the receiver of

this knowledge? → due to cumulative nature• Tacit knowledge → transfer of it?• Master and control technology leading to part of

technology being locked up• The exploitation of knowledge in terms of

spillovers– How about private knowledge versus spillovers?

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Technology and Uncertainty

• The possibility of certain technical options• The costs involved with a specific procedure for

producing a technical result• Degree of uncertainty?• An answer → Nelson and Winter “evolutionary

economics”• Bounded rationality (Simon)

– Obtaining and processing information is a costly process

– Real world is too complex to put into models– Strong uncertainty limits the firm’s predictive

capabilities

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Technology and Uncertainty

• An updated and altered model

• Trial-and-error process

• Decision making under bounded rationality may take the form of routines or rules of thumb– Bounded rationality used as a description of

firm behavior in stylized evolutionary models of the relationship between technology and the economy

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Technology and Uncertainty

• Uncertainty and risk• R&D investment to undertake if expect a higher pay-off

than is associated with a similar investment in an activity with lower risk

• How about from the point view of the aggregate economy?– “An stochastic process, if repeated often enough, will converge

to its mean”• As risk is less of a negative factor for the economy at

large than for an individual firm, leaving risky R&D investment to firms, will tend to lead to lower R&D investment done than would be optimal from a macroeconomic point of view→ K. Arrow– The same conclusion with the notion of technology as a partly

public good

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Evolution: Dawkin’s metaphor of the blind watchmaker

• Evolutionary economics

• Dawkins → the process of random mutation and natural selection

• Blind – uncertainty

• Mutation – process of incremental innovations

• Natural selection – which one to be successful?

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Evolution: Dawkin’s metaphor of the blind watchmaker

• Although the individual entrepreneur has to cope with strong uncertainty and therefore can not design in a top-down way the process (that we have called technological paradigm), the capitalist system, working by means of a combination of the creation of novelty (innovation) and economic selection (markets), can create phenomena that seem as if they have been carefully designed.

• Technological revolutions, steam power to ICT, were created by the trial-and-error method of the blind watchmaker

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What is next?

• Need to endogenize technological change in economic models

• Technological knowledge is a peculiar economic factor that can not be treated like a normal economic good

• Uncertainty and public goods aspects lead to expect that a free market economy will produce less technological knowledge than is socially optimal– Need the interaction between the economy and

technological change