Australian Innovation: Go Hard or Go Home...

August 3rd, 2014

With troubled commodity prices, higher employment costs and a diminishing manufacturing sector, Australia’s immediate future doesn’t look bright. Unlike the United Kingdom, the United States and most of the developed world, Australia has no current innovation strategy or policy.

If we don’t act quickly to develop a plan to support innovation, particularly SME’s in the manufacturing sector, business confidence will fall, and investment in long term projects will disappear.

It is the responsibility of Government to plan and incentivize our future.

  • Australia needs to reduce red-tape and become a world leader in innovation if we are to maintain our standard of living.
  • Globally connected and patent producing technology hubs are key to driving economic growth.
  • A stable and certain R&D tax incentive and taxation system is needed to give companies confidence to invest.

Australia needs to develop a well executed innovation strategy that involves full and fair stakeholder consultation

Manufacturing in Australia has been steadily declining [1]. This trend can be attributed primarily to manufacturers in the developed world experiencing increasing cost pressures from their competitors in the developing world, where labour costs are lower [2]. In order to fill this gap, there needs to be increased investment in high skill areas, such as innovation and R&D.

Innovative capacity is crucial to the success of a strong economy and is required for Australia to remain a leader in an increasingly competitive global environment. Australia has not had a major innovation plan since Howard’s Backing Australia’s Ability five year strategic plan of 2001.

An innovation plan involving full and fair stakeholder consultation will be crucial to driving growth and employment; and improving living standards. Demands for new skills, knowledge and flexible competencies for globalised economies will require system-wide innovation and reform [3]. As emerging economies in developing countries continue to grow, Australia will need to increase its global competitiveness through utilising its intellectual capacity. Ground breaking innovations will be required to keep us economically prosperous, improve the nation’s gross domestic product (GDP) and build a more sustainable future.

To maintain our high standard of living, Australia needs to become a world class innovator and have less red-tape

There are increased pressures globally for first world countries to innovate as populous low income countries, such as China and India, continue to broaden their expertise. Developing countries are renowned for specialising in manufacturing and bulk production techniques with little or no government regulation.

However, as employment regulation and red-tape increase in Australia and other advanced economies, developing countries are more easily competing in high-tech sectors by training low cost homegrown science specialists and specialising in less skilled manufacturing for the remaining workforce[4].

According to the Global Competitive Report 13/14, “the business community cites labor regulations and bureaucratic red tape as being, respectively, the first and second most problematic factor for doing business in their country”. A sustainable competitive advantage is needed in highly regulated places like Australia where labor costs are high and there is equal access to global markets [5]. If Australia is to compete, it will be forced to produce a higher skilled workforce in a more competitive regulatory environment.

IP intensive industries and globally connected CRCs are key to Australia’s growth

The Cooperative Research Centres (CRCs) Program was established in 1990 to enhance Australia’s economical growth through the development of sustained, user-driven, cooperative public-private research centres that achieve world class intellectual property (IP) and commercial outcomes.

It is argued that the $227 million increase to CRC funding and $1.27 billion increase in grant funding as part of Howard’s Backing Australia’s Ability plan delivered a measurable increase in domestic output [6].

Over the period 1991-2012, 190 CRCs had been established with 60% of these delivering a net economic benefit of $7.5 billion and equating to a contribution of around 0.03 percentage points to Australia’s GDP per annum [7].

Further, the OECD’s testimony to the US Senate Committee on Finance suggested that globally connected technology hubs with strong intellectual property rights (such as Australian CRC’s) could be the main driving factor of local and foreign investment.

“The evidence suggest that the decisions of companies, especially multinational enterprises to conduct R&D in a certain country are certainly influenced by the availability of tax incentive. However, it also suggests that other factors are typically more important. These factors include access to local science and technology, proximity to university research and centres of excellence, availability of a skilled workforce, including engineers and scientists, and strong intellectual property rights. And, if the focus is on development, not on the research but mainly on development access to a large market is particularly important as well” [8].

Patent production is a key element in promoting economic growth indirectly by stimulating the accumulation of inputs from R&D and physical capital [9]. There needs to be an increased focus on industries such as health, technology and biotech which are IP intensive and require the conduct of R&D Activities.

Investing in intangible assets alongside physical capital and infrastructure should also be a priority for maximising future economic growth and competitiveness. According to Porter and Stern [10], companies need to be encouraged into disruptive innovation, that is to create and then globally commercialise new products and processes, essentially shifting the innovation frontier as fast as rivals catch up.

A principal driver of innovation will be a stable and certain R&D tax incentive and taxation system

The R&D tax incentive is the Australian Government’s primary incentive program for innovation. Since its recent introduction in 2011, the government has already proposed two policy reversals:

  • from 1 July 2013 for the 2014 financial year, an exclusion for large companies with a turnover over $20 Billion; and
  • from 1 July 2014 for the 2015 financial year, a 1.5 percent decrease to the refundable and non‑refundable R&D tax offsets (a significant drop in the permanent tax benefit of the incentive for the 2015 financial year, one year before its realignment to the proposed reduced corporate tax rate commencing from 1 July 2015).

As a consequence of the proposed amendments and growing speculation of their passage through the current Senate, many R&D tax claimants have become hesitant to implement any long term innovation strategies. It will be important that innovators have a clear understanding of the R&D tax incentive rules and future corporate tax rates if prudent long-term planning is to be achieved.

The OECD has recently warned against R&D tax policy reversals:

“For countries that have experienced a large number of R&D tax policy reversals, the impact of R&D tax credits on private R&D expenditure is greatly diminished. It is therefore important that governments do not repeatedly tinker with such policies to minimise policy uncertainty for firms. [11]

Further, the OECD has suggested that stable government incentives increase innovation:

“The available evidence shows that R&D tax incentives do increase business expenditure on R&D, with the effects typically being larger in the long run than in the short run. The evidence also suggests that smaller firms seem to be more responsive to the R&D tax incentive than larger firms, typically because these firms are much more credit-constrained. The stability of the R&D tax incentive scheme over times also plays an important role. Expectations that R&D incentives are permanent strengthen their impact on R&D investment. [12]

A robust tax and incentive program will be key to increase our country’s innovative capacity through encouraging companies to undertake R&D activities. However, companies need a stable legislative platform to provide them with the confidence to make long term decisions in anticipation that support will be available.

So…what now?

In the United States and other leading economies, it has been found that protection of IP rights, globally connected technology incubators and well tailored government incentives are vital to promoting innovation. Such activity has flow on effects for high skilled jobs and becomes an essential element of our free-enterprise, market-based system[14].

In order to encourage competition and innovation globally, and particularly in Australia, stable policy with a strong emphasis on fostering innovation is required. Policies to promote innovation need to reflect the ways in which innovation takes place and practically equip an economy with the right tools to thrive in a highly competitive world [13].

Additionally, many developed nations, such as the United Kingdom are well ahead of Australia in the investigation and implementation of innovation inducing tax incentive programs such as patent box.

Next Steps…

  • We need to develop an innovation strategy involving full and fair stakeholder consultation.
  • We should explore grant programs and/or tax incentives that reward individuals, companies and other organisations for producing patents and other IP.
  • We need to explore ways that make it easier for small technology companies to form and prosper.
  • We need to put more money into the CRC program.
  • We need assurance that the R&D tax incentive and other grant programs will not be altered in the long term.
Swanson Reed - Specialist R&D Tax Advisors

[1] Lowe, P. (2012). The Changing Structure of the Australian Economy and Monetary Policy (RBA report). Retrieved from the Reserve Bank of Australia website: http://www.esa.doc.gov/Reports/intellectual-property-and-us-economy-industries-focus

[2] Bates, K. A., Flynn, J. E. & Flynn, B. B. (2009). The pressure to perform: Innovation, cost, and the lean revolution. Business Horizons, 52, p. 215-221.

[3]Luke, A., Freebody, P. Shun, L. & Gopinathan, S. (2005). Towards Research-based innovation and Reform: SIngapore schooling in transition. Asia Pacific Journal of Education, 25(1), p. 5-28.

[4] Jaffe, A. Lerner, J. & Stern, S. (2006). Innovation Policy and the Economy, 6, p. 5-157.

[5] Porter, M. E., & Stern, S. (2001). National innovative capacity. The global competitiveness report2002, p. 102-118.

[6] The Allen Consulting Group, “The economic, social and environmental impacts of the Cooperative Research Centres Program”. (2012) Final report to the Department of Industry, Innovation, Science, Research and Tertiary Education.

[7] Backing Australia’s Ability – An innovation action plan for the future. Commonwealth of Australia (2001), p. 5

[8] Pilat,D. OECD. (2011) Testimony to the US Senate Committee on Finance Hearing on Tax Reform Options: Incentives for Innovation. Retrieved from Source OECD database, p. 13-14.

[9] Park, W. & Ginarte, J. (1997). Intellectual property rights and economic growth.Contemporary Economic Policy, 15(3), p. 51-61.

[10] Porter, M. E., & Stern, S. (2001). National innovative capacity. The global competitiveness report2002, 102-118.

[11] OECD. (2013). Maximising the benefits of R&D tax incentives for innovation.Directorate for Science, Technology and Industry. Retrieved from Source OECD database.

[12] Pilat,D. OECD. (2011) Testimony to the US Senate Committee on Finance Hearing on Tax Reform Options: Incentives for Innovation. Retrieved from Source OECD database, p. 13-14.

[13] OECD. (2010). The OECD Innovation Strategy: Getting a Head Start on Tomorrow. Retrieved from Source OECD database.

[14] Economics & Statistics Administration. (2012). Intellectual Property and the U.S. Economy: Industries in Focus. Retrieved from http://www.esa.doc.gov/Reports/intellectual-property-and-us-economy-industries-focus.

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