Innovation v Regulation: How Turnbull’s Pitch Fell Short

The fundamental problem with the Turnbull Government’s innovation statement is that it is a category error. The only thing governments can do to the “culture” of innovation is hurt it.

When he first took the leadership, Malcolm Turnbull was right to describe our economic growth challenge as one of boosting innovation. The problem has always been what on earth that means.

Now we know. The policies in Monday’s innovation statement try to do two things. Unfortunately, they’re both underwhelming.

First, the Government wants to buy innovation. All those tax offsets, capital gains tax exemptions, and adjustments to the way the tax office treats company losses are trying to trade government revenue for corporate innovation. Same with the money for the CSIRO and the incubator support program, money for “landing pads” in Silicon Valley and Tel Aviv, and money for quantum computing.

Can governments buy innovation? Unlikely. This is a longstanding debate in innovation policy. It is certainly true that if you throw an unlimited amount of money at professional researchers they will eventually research something useful. But as my colleague Sinclair Davidson has pointed out, the OECD is unable to find any relationship between economic growth and public spending on research and development. The OECD speculates that public spending on research crowds out private spending on research.

More prospective is the second approach taken by the Turnbull Government’s innovation statement: clearing existing regulatory barriers to private sector risk taking and entrepreneurship. In this category are the insolvency reforms – which reduce bankruptcy periods from three years to one year – safe harbours for insolvent trading, and changes to the law governing employment share schemes.

Yet these policies are miserly in comparison to the generous policies on the spending side. They barely scratch the surface.

The thing about regulatory barriers to innovation is that they exist for a reason: either because they have constituencies who support them, special interests who rely on them, or politicians who lean on them for populist benefit.

The real barriers to innovation are those steadily accumulating regulatory burdens that hold new products and services back for government approval and divert the attention of entrepreneurs to regulatory compliance.

Think how data retention has gunked up the internet industry, how the regulatory uncertainty of the NBN has slowed down telecommunications investment, how financial innovation is held back by the labyrinth of regulatory controls on financial products. The Australian Government’s left arm doesn’t know what its right arm is doing.

For instance, it takes a special kind of cognitive dissonance to ignore the fact that while the Government is trying to create Apple-like and Google-like companies in Australia, it is at the same time trying to target the real Apple and Google for what is alleged to be corporate tax avoidance.

One of the big reasons these firms have apparently low tax profiles is because they take advantage of the research and development tax credits successive governments have introduced to boost innovation.

The other reason that they have low tax profiles in Australia is simply because they’re not Australian companies, and much of their economic activity occurs offshore. Yet under the Federal Government’s multinational tax avoidance legislation (which passed both houses last week) the tax office will estimate how much tax they reckon multinational firms like Google and Apple should be paying, rather than how much they are strictly liable to pay under current tax law.

This legislation creates enormous uncertainty and is almost guaranteed to push economic activity and innovative firms out of Australia. Why would multinational companies risk being taxed twice? How on earth can the Turnbull Government reconcile its anti-global approach to corporate tax with its apparently pro-global vision in the innovation statement?

In the specific case of Google, the difference between innovation rhetoric and policy practicality is even more stark. Under our archaic intellectual property laws, an Australian Google would be unlawful. Google in the United States relies on a fair use defence in copyright legislation to copy the text of websites onto its servers for searching. But we have no equivalent fair use provision to allow such uses. Google would be legally vulnerable in Australia: our copyright laws constitute “a significant and unacceptable level of business risk”.

Yet the Australian Government has repeatedly rejected introducing a fair use exemption for copyright, despite the advocacy of the Government’s own law reform commission. Movie studios and record labels don’t want fair use, and have lobbied hard to prevent it.

The economist Mancur Olson developed an influential and depressing theory of economic growth in his 1982 book The Rise and Decline of Nations. In Mancur’s view, innovative, entrepreneurial economies develop powerful special interests over time that can prevent the sort of regulatory reform that economies need to grow.

So ask yourself this. Are there any major special interests who will be upset by what the Turnbull Government proposed in their innovation statement this week? Not really. Sadly, for all the Government’s sound and light, very little has been “disrupted”.

Our New ‘Innovation PM’ Needs Policies To Match

While it’s wonderful to hear the new Prime Minister wax lyrical about disruption and productivity, the real test will be putting some policy flesh on those rhetorical bones.

The recently ousted treasurer, Joe Hockey, used to talk a lot about innovation and disruption, and in much the same language as Prime Minister Malcolm Turnbull did announcing his new ministry.

Innovation was Hockey’s theme addressing the National Reform Summit in August. At a small business summit in July he declared that “global disruption is the new black”. When he addressed the Institute of Public Affairs in March, he marvelled at the possibilities and challenges of Uber, Airbnb and ASOS.

But for all that oratory, Hockey’s policy for these new firms was simply to bring them into the GST net, as happened with Uber and all online purchases.

And it’s not immediately obvious what the ideal role for government in innovation is.

We already sponsor, support and subsidise science, engineering, technology, invention and innovation in many different ways. The research and development tax incentive offsets R&D costs against corporate taxation. The patent system is meant to give inventors an incentive to invent things. In 2001 the government introduced an “innovation patent” for incremental changes to business practice.

The Commonwealth Scientific and Industrial Research Organisation (CSIRO) receives $750 million a year to conduct scientific research for the good of industry and encourage commercialisation. Then there’s all the money we give to universities for research – which Ian MacFarlane, the now-former industry minister, wanted to tie to commercialisation.

Innovation policy can easily become as much a boondoggle as any Alice to Darwin railway. State governments have been burning money on wasteful “innovation” policies for decades. Every new premier wants their capital to become Silicon Valley. But who now remembers ComTechPort?

We actually know very little about why economies innovate, let alone how we might encourage them to innovate more.

Take the oldest innovation policy on the books – the patent system. Patents might in fact discourage innovation as much as they encourage innovation. In the classical model of innovation market failure, inventors won’t invest in inventing unless they are protected from free-riders copying their invention for a period of time. Hence patents offer a temporary monopoly.

But if that monopoly is too long or too strict it could prevent new inventions leap-frogging old ones, or prevent inventions being adopted across the economy. We have no reason to believe governments have struck the correct balance here.

Last month the Productivity Commission launched an inquiry into intellectual property. Hopefully under the Turnbull Government this inquiry might be able to make a difference.

My colleague Sinclair Davidson has challenged the idea that there is a market failure even in basic scientific research. The assumptions underpinning the standard blackboard arguments for market failure in science do not hold up. He finds that government spending on science is probably a net drain on the economy – despite the fantastic claims of supporters of science spending.

Whether you accept this or not, the fact remains that while we know that technology and innovation is at the heart of economic growth, there’s no off-the-shelf policy to suit.

Refashioning 1970s-style industry policy with a technology and science focus isn’t going to cut it. Christopher Pyne should be cautious with his new role as Minister for Industry, Innovation and Science. The position could easily become a useless financial black hole.

What’s more prospective is Turnbull’s focus on the “rapidly changing, disruptive environment”.

Ever since he launched his challenge, you get the impression he’s been restraining himself from blurting out “Uber” at every press conference. Over the last year both sides of politics have been trying to grab the future-y high ground of the sharing economy (like Labor’s Andrew Leigh, Clare O’Neil and Tim Watts).

But the lesson of sharing economy firms like Uber is that innovation comes from below. The political battle we’re seeing now between Uber and the taxi industry is a peek at a future where technology butts up against regulation – and the wealthy economic interests that regulation supports.

At the very least a focus on disruption and change is a base on which Turnbull can revitalise the Government’s lagging deregulation agenda. Not just because deregulation will save firms money, as the Abbott government argued, but because it will unleash their potential.

But it’s also a firm intellectual base on which Turnbull can pursue his broader innovation agenda.

Rather than looking to pour more money into government commercialisation and science programs, the new Prime Minister should be looking at this issue from the other side of the glass. What does the Government do right now that prevents industry from innovating itself?

Turnbull opened his bid for leadership with an argument: “Our values of free enterprise, of individual initiative, of freedom, this is what you need to be a successful, agile economy in 2015”.

Fine, heartening words. But it will be quite a trick to turn those words into a reform agenda, let alone a productivity boost.

Entrepreneurs Should Not Get Government Support

The 2014 Federal Budget cuts back family payments, places tough new rules around welfare for young people, taxes doctor visits to fund medical research, and reindexes the pension.

But it’s not all bad news!

If you own a business that’s more than three years old, has good turnover, and operates in any one of 14 favoured sectors, you’ll be eligible for $20,000 of taxpayers’ money to hire management consultants.

Better, you could receive a $50,000 grant to employ a researcher for a few months.

Or, the jackpot: if you own a company that’s about to launch a new product or service, you might get $250,000 of matched government funding to help.

The base immorality of corporate welfare is never clearer than in times of austerity.

These obscenities are part of what’s called the Entrepreneurs’ Infrastructure Programme. The program was announced in the May budget, but it’s only now the subject of a public discussion process. (An incredibly short discussion process. The program starts on July 1.)

The program partly rationalises and partly replaces a bunch of other grants and subsidies from the previous government.

It’s worth $484.2 million over five years – the better part of half a billion dollars. This is huge. The change in Work for the Dole payments will only save $1.2 billion over four years, and that will affect many more people.

The entrepreneurs program is funded from a larger cut of industry programs, so the government can say it is reducing expenses somewhat.

But it is still incredible that even in a horror budget the federal government plans to give money away to successful companies.

After all, we’re not talking about bailing out firms in trouble here. We’re talking about handouts to firms the government believes have “growth potential”. Of course, the real winners will be the management consultants paid to pore over business plans on the taxpayer penny.

The Australian government is awash with small grants, minor programs, petty subsidies. State governments are too. Yet these sorts of policies are rarely discussed, let alone justified.

The Australian government has always been in the business of giving privileges to private firms.

The great tariff barriers of the 20th century acted as an indirect transfer of wealth from consumers to manufacturing interests. By preventing cheaper goods from entering the country, consumers were forced to spend more in order to protect certain politically connected industries. Think the car industry.

Tariffs were not presented to the electorate as a gift to private enterprise. The justifications were more complex – Australia needed temporary barriers to build industries until they were adult enough to compete globally, or that the government knew which industries were “industries of the future” and needed a little kick along.

In retrospect these claims were absurd. The “infant industry” argument never went away, even after decades of tariff protection. Somehow our industries were always young.

And with 20-20 hindsight those “industries of the future” just look like wrong turns. Again, think the car industry.

But for all the intellectual debate, the practical, real-world effect of protectionism was to subsidise private companies; a privilege those companies lobbied hard to defend.

The Whitlam government took the first axe to the Australian tariff. Much of the growth in living standards over the last few decades is thanks to tariff liberalisation.

So what’s going on with the Entrepreneurs’ Infrastructure Programme?

It’s tempting to see programs like this as the last gasp of corporate welfare – simply the trinkets that remain after three decades of liberalisation, waiting to be swept up.

But such programs really demonstrate that the political dynamic that supported protectionism is still with us. Rent-seekers and their political supporters have just gotten smarter.

Instead of the implicit taxation of the tariff, governments just hand firms money directly. The grants are given fashionable titles. Labor had a “Green Car Innovation Fund” and “Innovation Precincts”. The Coalition talks about entrepreneurship.

This is a bit strange. Every minute entrepreneurs spend filling out a grant applications is a minute stolen from doing what makes entrepreneurism so valuable: developing new products, finding new markets, and adding value to the economy.

One of the successes of the economics profession has been to persuade politicians that entrepreneurs are important. Entrepreneurs take risks, and those risks are tested in the marketplace. That’s great. But politicians took that lesson to mean they should give money to entrepreneurs. Never say politics doesn’t have a sense of irony.

To the individual taxpayer, the Entrepreneurs’ program will cost a fraction of a cent a year. Who could be bothered complaining about a few cents of tax? To the recipients, though, these subsidies are huge. Politicians will like the subsidies, too. What better publicity than being photographed with innovative entrepreneurs – to have job creators thank politicians for their support in front of TV cameras?

Tony Abbott is fond of an Abraham Lincoln quote: “Government should do for people what they can’t do for themselves and no more.”

How on earth does taxpayer-funded management consultants for private businesses fit that criteria?

IPA Review Editorial, March 2010

‘People have been saying for a while now that what we need is a book industry plan’, said the Minister for Innovation, Industry, Science and Research Kim Carr in a speech in mid-February. ‘No one is going to ghost it for you-the industry will have to tell its own story-but I will do everything in my power to facilitate the process.’

Carr was launching a ‘Book Industry Strategy Group’ to ‘map the way forward’ for the Australia publishing industry in an era of digitisation.

So we can add ‘save books from the internet’ to the long list of ambitions of the federal government.

We talk a lot about how over-regulation is burdening the Australian economy. But more perverse is the way that state and federal governments want to pull entrepreneurs into their loving, bureaucratic arms.

The government offers a bewildering array of subsidies and grant programs to do so. We have the ‘Australian Tourism Development Program’, the ‘Automotive Competitiveness and Investment Scheme’, the ‘Biofuels Capital Grants Program’, ‘Building Entrepreneurship in Small Business’, and the ‘Certain Inputs to Manufacture Program’.

There’s ‘Clean Business Australia’ (that one gets $240 million to work with), the ‘Climate Ready Program’, ‘Commercial Ready’ ($200 million), Commercialising Emerging Technologies (proudly described as ‘merit-based’, implying that the marketplace wouldn’t know merit if it stepped on its head), and the ‘Early Stage Venture Capital Limited Partnership Program’.

And about forty others. Hop on to the government’s AusIndustry website: you might be eligible for a grant.

In her review of Ron Manners’ book, Heroic Misadventures, in this edition, Julie Novak points out that entrepreneurs are still the fuel with which the Australian economy moves forward. The entrepreneurial drive harnesses the potent combination of risk and creativity – without it we would not have an economy, let alone the technology and living standards we enjoy today.

Do we really want Australia’s budding innovators spending their time filling out paperwork for the ‘R&D Start’ program, instead of scrimping for capital and pitching to potential investors?

In fact, the very idea that we have an ‘innovation’ minister is extraordinary. Innovation is at the very centre of a capitalist economy – companies innovate in order to compete with each other. They don’t – or shouldn’t – need the advice and coordination of a Commonwealth minister to do so.

So it is with the book industry. The digital revolution is a potent challenge to Australia’s publishing industry. Amazon’s ebook reader Kindle and Apple’s soon-to-be-released iPad has emphasised the extent of that challenge. But industries meet challenges by experimenting with business models, and developing better products. Not by looking to government for a ‘Book Industry Plan’.

The drive to fully socialise vast swathes of the economy disappeared some years ago. But the drive to control the economy – to direct it, to subsidise it, to coordinate it – is just as strong as ever.