The best economic policies for innovation, as ranked by economists

The American economy exists at the technological frontier. And higher living standards over the long run means developing and applying new technologies and techniques, not just more widely applying existing ones. (Not that doing the latter isn’t also important.) Continually pushing forward that tech frontier should be a key focus for pro-growth policymakers.

Unfortunately we aren’t hearing much about any of this in American politics today. This is despite the fact that sustained 3% GDP growth, inflation-adjusted, remains elusive, and that there hasn’t been a sustained productivity boom since 1996–2004. One would think issues about innovation and productivity would be at the heart of national debate. Or at least one would hope.

Then again, fading economic growth ⁠— Q2 GDP was up 2.1% ⁠— might put innovation and productivity squarely in the spotlight. It seems inevitable, really. And when that happens, politicians will need to determine the most effective policies for stimulating technological innovation.

The new Journal of Economic Perspectives paper, “A Toolkit of Policies to Promote Innovation,” is a good place to begin the evaluation process. Economists Nicholas Bloom, John Van Reenen, and Heidi Williams rank a variety of innovation policies  in terms of a) quality of evidence, b) conclusiveness of evidence, c) net benefit, d) time frame, and e) effect on inequality. A summary of their “admittedly subjective” judgments (bold by me):

In the short run, research and development tax credits and direct public funding seem the most effective, whereas increasing the supply of human capital (for example, through expanding university admissions in the areas of science, technology, engineering, and mathematics) is more effective in the long run. Encouraging skilled immigration has big effects even in the short run. Competition and open trade policies probably have benefits that are more modest for innovation, but they are cheap in financial terms and so also score highly. One difference is that R&D subsidies and open trade policies are likely to increase inequality, partly by increasing the demand for highly skilled labor and partly, in the case of trade, because some communities will endure the pain of trade adjustment and job loss. In contrast, increasing the supply of highly skilled labor is likely to reduce inequality by easing competition for scarce human capital.

And here is a chart summarizing their findings:

I particularly want to focus on “mission-oriented” policies. Another word for them is “moonshots,” with the US space program a classic example. Economists are often skeptical of top-down, government-planned moonshots due to concerns about lobbying and regulatory capture. The lack of market forces could mean resources are inefficiently allocated. Indeed, the pro-market Cato Institute refers to the space program as “our biggest bridge to nowhere.”

Two possible exceptions are mentioned in the paper. First, there could be some pressing need such as developing decarbonization technologies to avoid looming environmental catastrophe. Second, “moonshots may be justified on the basis of political economy considerations.” The researchers point to the work of economists Jonathan Gruber and Simon Johnson who want to dramatically increase federal research funding and spread the dollars around the country to “jump start” new technology hubs. Again, from the paper:

To generate significant extra resources for research, a politically sustainable vision needs to be created. [Gruber and Johnson] argue that such a fund could generate local spillovers and, by alleviating spatial inequality, be more politically sustainable than having research funds primarily flow to areas with highly concentrated research, such as Palo Alto, California, and Cambridge, Massachusetts. Of course, it is difficult to bring credible econometric evidence to bear on the efficacy and efficiency of moonshots. We can discuss historical episodes and use theory to guide our thinking, but moonshots are, by nature, highly selected episodes with no obvious counterfactuals.