Not all innovation is alike

July 17, 2014

James Pethokoukis at AEI makes a distinction between “efficiency innovation” and “empowering innovation.”  The former can contribute to a polarized job market, while the latter is the necessary ingredient for a vibrant economy and improved living standards:

Not all innovation is alike.  Incumbent firms replacing man with machine is a kind of innovation that may lift corporate profits and boost stock prices without necessarily broadly raising prosperity.  Such technological advancement and efficiency is already contributing to polarized employment markets in advanced economies.  Jobs are created at the top for high-creative workers and at the bottom for high-touch workers.  But jobs in the middle— especially those involving routine, repetitive, and rules-based tasks—are automated away.  In other words, the executives and janitors at a bank keep their jobs, but tellers get replaced by ATMs.

But there is another kind of innovation, termed “empowering” innovation by business consultant Clayton Christensen.  This is the sort of innovation generated by fast-growing startups offering new products and services.  Empowering innovation is a job creator, not a job destroyer—though some jobs may shift from uncompetitive incumbents to these aggressive new challengers.

Both sorts of innovation have their place, of course. But right now efficiency innovation may be destroying jobs faster than empowering innovation creates them.  So what is the key to generating greater levels of empowering innovation? Competition—and the more the better.  As economist Joseph Berliner once put it:

(T)he effect of competition is not only to motivate profit-seeking entrepreneurs to seek yet more profit but to jolt conservative enterprises into the adoption of new technology and the search for improved processes and products.

Vibrant economies need plenty of fast-growing startups to generate empowering innovation and to also push incumbents themselves to become more innovative.

And if incumbents can’t compete, government needs to let them fail.  Free and frequent entry and exit of firms is critical.  Government has to make sure tax, regulatory, and spending policy is neither impeding the creation of new startups nor giving incumbents an unfair advantage.

Some politicians think “innovation policy” means spending taxpayer money on promising young firms favored by bureaucrats.  Rather, innovation policy means ensuring that the status quo is continuously challenged by upstart rivals and threat of failure.  Those are the keys to the Schumpeterian “gales of creative destruction” that drive innovation, which in turn drives long-term economic growth and improvement in living standards.

National prosperity is generated by the start-ups who innovate and challenge entrenched incumbents.  Anyone who’s worked for a large corporation – especially in an R&D department – would not rely primarily on that model for innovation.  Anyone who’s worked for a large corporation – especially in a dying industry – would not rely primarily on that model for job growth.  Yes, start-ups lack the economies of scale and R&D budgets of larger firms; but that’s the support venture capital provides. Those start-ups that do gain traction are able to raise capital, and, with hard work and a little luck, become large companies… and then face the next generation of innovators.

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