Innovation Models: Linear & Chain-Linked

Models of Innovation

• The agenda includes the linear model and the chain-linked model

Linear Model and Chain-Linked Model

• Economists considered technological innovation a black box, only identifying inputs and outputs
• Effective innovation policies require understanding the innovation process

The Linear Model

• The linear model involves progression from research to development, then production, and finally marketing
• Medicines, JET, nuclear power, and mRNA serve as examples of the linear model

Science as Source of Innovation: Linear Model

• Origins of the linear model include the success of WWII science programs like the Manhattan project, and top-down managerial approaches
• A key objective was supporting "big science" policies in the US and UK in the 1940s-60s
• It justifies public support to science and provides a classification scheme for R&D statistics

Drawbacks of the Linear Model

• The absence of feedback and trials means the design of innovation isn't optimized from the beginning, potentially missing learning opportunities
• Learning by using feedback can lead to improvements
• Boeing corrected the size and flight range of the 707 based on user suggestions
• The linear model neglects other sources of innovation, such as learning by doing
• It views technology as merely applied science
• Important inventions can arise even when scientific disciplines are inadequate
• The central process of innovation is design, leveraging existing knowledge before new research is needed

The Linear Model and the Role of the State

• According to the linear model, there are two market failures in knowledge production:
  • Suboptimal private provision of innovation, (Arrow, 1962)
  • Suboptimal private provision of basic science (Nelson, 1959). This is due to uncertainty

"Economic Welfare and the Allocation of Resources for Invention," (Arrow, 1962)

• Existing technology allows for constant average costs denoted as C₀.
• Non-drastic process innovation makes c₁ < c₀ and Pmonopoly(c₁) > c₀ possible
• Innovation is introduced by spending a lump-sum R in R&D
• Once innovation is introduced, it is fully protected by patents of infinite length

"Economic Welfare and the Allocation of Resources for Invention," (Arrow, 1962)

• The question is: Who has the greatest incentive to innovate?
  • A Monopolist?
  • A Perfectly competitive firm?
  • A Public planner?

Arrow 1962 - Monopolist

• Incentive = П(c₁) – П (c₀), where П(c) = total revenues – costs

Arrow 1962 - Monopolist

• Innovation incentive = П(c₁) - П(c₀) and can be shown by the area "A"

Arrow 1962 - Perfect Competitive Firm (Price-Taker)

• Innovative firms price is c₀-ε
• Innovation incentive = П(c₁) – 0 = A+B ε

Arrow 1962 - Public Planner

• Innovation Incentive = Welfare (c₁) - Welfare (c₀) = (W+Z) - Z area

Arrow 1962 - Public Planner

• Innovation incentive = Welfare (c₁) - Welfare (c₀) = A+B+C area

Arrow 1962 – Conclusions

• Greatest incentive to innovate follows as:
  • Monopolist = A
  • Perfectly competitive firm = A + B
  • Public planner = A + B + C
• Market failure occurs when investment in innovation is left to the private sector, leading to underinvestment
• Remedies to market failure can include direct public investment in R&D for public inventions, and subsidies to private investment in R&D, like R&D tax credits, for private inventions
• Another result in Arrow (1962): Firms in competitive markets have more incentives to invest in R&D

Knowledge and Uncertainty: “The Simple Economics of Basic Research” (Nelson, 1959)

• In Arrow 1962 there are three strong assumptions:
  • The innovative effort of the firm produces only one innovation
  • There is complete appropriability of the innovation
  • There is no uncertainty
• In the real world R&D investments do not fit these assuptions

Knowledge and Uncertainty: “The Simple Economics of Basic Research” (Nelson, 1959)

• The results of basic research are uncertain and big firms can bear such a risk
• Several possible innovations can come from one scientific discovery
  • Includes gene editing, genetically modified plants, disease treatment, synthetic insulin production, and research animals

Knowledge and Uncertainty: “The Simple Economics of Basic Research” (Nelson, 1959)

• Appropriability of basic research is very low
• Firms cannot patent scientific principles or formulas
• They can patent commercial applications, such as oncomouse, diabetic mouse, and Alzheimer mouse
• Innovations take place far in time from now
  • Example: 1862 Maxwell's equations -> X-rays
• A minimum level of R&D investment is needed for relevant innovation
  • Larger budgets are needed

Knowledge and Uncertainty: “The Simple Economics of Basic Research” (Nelson, 1959)

• Assumptions:
  • Uncertainty dominates R&D output
  • Marginal benefits of basic research depend upon the number of innovations
  • Marginal cost of research is constant

Nelson, 1959: Large vs Small Firm

• Given an investment R, large firms benefit more
• Large firms's marginal benefits decrease at a faster rate

Nelson, 1959: Social Planner

• Investing in basic research is incentivized for a Social planner
• This is due to multi-product, time constraints and high marginal benefits

Nelson, 1959: Social Planner

• Shows a graph of a Social Planner

Nelson 1959 - Conclusions

• Incentive to invest in basic R is:
  • Public Planner > Monopolist/Large firm > Competitive/Small firm
• Market failure occurs when basic research is left to the private sector, causing underinvestment

What are the Remedies to Market Failure?

• The state does the basic research
• Includes cooperative basic research and industry collaborations with the public
• Some countries prioritize dynamic efficiency over static efficiency, letting big firms leverage market power for basic research

What are the Remedies to Market Failure?

• Big national institutions specializing in disciplines include Max-Planck-Institut (D), National Science Foundation (NSF, USA), Centre National de la Recherche Scientifique (CNRS, F), and Centro Nazionale delle Ricerche (CNR, I)
• Origin of these can be traced to the 1st half of the XX century
• Others dedicated to tech include: ENEA (ex atomic energy, now environment-energy...), Istituto Nazionale dei Tumori, and Agenzia Spaziale Italiana
• Origin: Post WWII "Big Science" projects
• Universities are another remedy
  • They are very strong in Anglo-Saxon and Scandinavian countries;

What are the Remedies to Market Failure?

• Bayh-Dole Act in 1980 authorized universities to federally patent output
• Research units were created leading to commercial funds
• massive research contracts signed like $70-million deal between Hoechst and Harvard in 1984

What are the Remedies to Market Failure?

• AT&T Monopoly on markets vs Production of Knowledge as a Public Good until AT&T's Bell Labs
• Other private actors IBM Yorktown Labs, Xerox PARC

The Rise of Science -> R&D Investment

• Since the 1950s, trends include:
  • Public funding of R&D in US and Euro, flat or decreasing trend past that
  • Constant growth of Business R&D
  • Emergence of East Asia

Key Info from Official Statistics

• Large cross-country differences in intensity and direction due to:
  • Industrial structure
  • Science policies
  • Military Spending
  • Education

The Chain-Linked Model

• Addresses the interaction between science and technology

The 'Endogenous' View of Science: S-T Interaction and the “Chain-Linked" Model

• Models have highly descriptive value but they lack formal analysis
• Origin: critique in (the 1970s) of US and UK science policies (linear model) and critique of approach to R&D of large firms
• Includes endogeneity of science and complexity of S-T links
• Highlights "hidden" innovation and criticizes sharp distinction between Basic/Applied research

The Chain-Linked Model

• The model flows as: Scientific Research -> Scientific Knowledge -> Potential Market

First Part

• In the chain path is the central-chain innovation, labeled C
• There a series of feedback loops

Potential Market

• The economic side is the technological.
• Concorde -> brilliant technological achievement
• Concorde -> costly commercial failure
• Solar energy -> will be appealing when it will be closer to the cost of other sources

Invention and Analytic Design

• Invention achieves functions not obvious to someone skilled, e.g., gene editing
• Analytic design re-configuration leads to analytic design technology

Second Part

• A link exists from science to innovation not only at the beginning, but alognside, as well.

R-K

• Arrows link knowledge and research to one another
• The use of science occurs in two stages: in knowlege and research
• When a technical problem exists, it starts with known work i.e. stored scientific knowledge (asking an expert)
• If the issue is unknown, then it will fall under scientific research by working with a univesrity

Radical Innovation and Product Innovation to Science

• Arrow D = radical, e.g. lasers
• Arrow I feeds innovation back to science
  • Microscope -> modern medicine
  • Telescope -> astronomy