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October 3, 2006
R&D and economic growth
Last week, the Bureau of Economic Analysis released its preliminary Research and Development Satellite Account - which measures the effect of R&D on economic growth. As I mentioned earlier, the core of this new accounting methodology is to treat R&D as an investment, rather than an expense. As the Wall Street Journal explained:
In the current system of measuring gross domestic product, R&D is treated like a so-called intermediate expense. For example, salaries paid to research scientists are lumped in with wages paid to assembly-line workers. Under the new approach developed by the Commerce Department's Bureau of Economic Analysis and the National Science Foundation, R&D spending is treated like capital investment, such as the cost of a machine tool or an office building.
This is a major step forward in measuring and understanding innovation and the effect of knowledge and intangibles on economic growth. It is rock solid economics and statistics which deals with many of the difficult technical issues.
The results are impressive:
These experimental estimates of the effect of intangible assets on the U.S. GDP suggest that R&D accounted for a substantial share of the resurgence in U.S. growth in recent years.
* Between 1959 and 2002, R&D investment accounted for 4 1/2 percent of growth in real GDP.
* Between 1995 and 2002, its contribution to real growth rose to 6 1/2 percent.
* In comparison, businesses’ investment in commercial and all other types of buildings accounted for just over 2 percent of real GDP growth between 1959 and 2002.
If R&D were included in the GDP as investment instead of as an expense, business investment would be 11 percent, or $178 billion, higher; and the 2002 national savings rate would be 16 percent instead of 14 percent.
I think it also highlights what an abysmally poor job we have done on issues that really matter for American economic prosperity. Congress can find the money to pass the Paris Hilton tax break (aka repeal of the inheritance tax) but can't find the money make the R&D tax credit permanent.
There will be some, I'm sure, who will try to use this to claim that we are really better off than the critics claim. But that is a distortion of the results. Yes, GDP would be higher, properly measured. But that doesn't mean that the rate of growth would be higher. You have to apply the accounting change to all time period. As the full report shows, GDP would have been higher in all the years they looked at: 2.1%-2.2% higher in 1960; 2.8%-2.9% higher in 1970; 2.4%-2.5% higher in 1980; 2.7%-2.8% higher in 1990.
The real findings are that properly measured, intangibles are a bigger factor in economic growth.
This report is only the first step. As BEA noted:
The estimates measure solely the direct impact of R&D investment. They do not include the effect of R&D beyond those in the industries that conducted the R&D. For example, the increase in output and productivity of the computer industry associated with a new R&D-based innovation are included in the estimates, but the increase in output and productivity of the banking industry associated with using the more efficient computer are not. The banking-industry effect is included in the GDP, but it is not attributed to R&D investment in these estimates. These preliminary R&D estimates are the next steps in BEA’s multi-year program to better measure intangibles.
The full report also pointed out that:
Because intangible assets are increasingly important components of the knowledge economy, BEA is interested in expanding the available data that will allow analysts to understand their role in production and economic growth. BEA is currently engaging in research that might allow it to develop prototype accounts for health care, human capital, and education.
According to the WSJ story:
Paul Romer, an economics professor at Stanford Business School, said the better the measurements of R&D become, the more economists and policy makers will realize other factors may be more important. "If you look at why we had rapid productivity growth in big-box retailing, there were lots of intangibles and ideas that ... don't get recorded as R&D."
We need to continue to look more carefully at all intangibles. The proposed new Measuring Innovation in the 21st Century Economy Advisory Committee is a good step in that direction. Let us hope that the Committee and BEA get the support and resources they need to continue this work.
Posted by Ken Jarboe at October 3, 2006 8:17 AM
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