July 2010 Archives

In an earlier posting, I noted that the Economic Development Administration (EDA) was expanding its activities toward technology commercialization through its i6 Challenge. Yesterday, the House Transportation and Infrastructure Committee took another step by passing a new EDA reauthorization bill that included a number of new initiatives (H.R. 5897- Economic Revitalization and Innovation Act of 2010).

Among other things, the bill expands support for business incubators and science and research parks. This also includes a provision that clarifies EDA's ability to provide business incubator operating support. Use of EDA funds for operating support is something I have advocated -- see earlier postings.

On the technology side, the bill creates funding for high-speed rail economic development planning and for alternative energy technologies programs. The bill also creates an Equity Financing Program in the form of a Revolving Loan Fund (RLF) to make equity investments in incubator companies, companies commercializing technology at science and research parks, and technology or manufacturing companies locating or relocating to the United States.

This is an important step forward for EDA - one that will move them into I-Cubed Economy.

Today's advanced estimate of GDP data from BEA is disappointing -- but expected and not as bad as some feared. GDP in the 2nd quarter of 2010 (April - June) grew by only 2.4%. Consumer spending leveled off and imports grew. But the good news is that business investment grew. As the New York Times reports:

Nonresidential fixed investment, which covers items like office buildings and purchases of equipment and software, was a key driver of growth in the second quarter, rocketing up at an annual rate of 17 percent, compared with a 7.8 percent increase in the first. The equipment and software category alone grew at an annual rate of 21.9 percent, the fastest pace in 12 years.

These revisions are the result of new data becoming available. And should serve as a reminder that as good as our statistical system is, we still have a lot of work to do to improve the numbers (see earlier posting). And, that we should remember that the data always contains an element of uncertain and should be treated accordingly.

Here is some new grist for the IPR debate mill --Intellectual Property Rights and Innovation: Evidence from the Human Genome by Heidi L. Williams, NBER Working Paper No. 16213

This paper provides empirical evidence on how intellectual property (IP) on a given technology affects subsequent innovation. To shed light on this question, I analyze the sequencing of the human genome by the public Human Genome Project and the private firm Celera, and estimate the impact of Celera's gene-level IP on subsequent scientific research and product development outcomes. Celera's IP applied to genes sequenced first by Celera, and was removed when the public effort re-sequenced those genes. I test whether genes that ever had Celera's IP differ in subsequent innovation, as of 2009, from genes sequenced by the public effort over the same time period, a comparison group that appears balanced on ex ante gene-level observables. A complementary panel analysis traces the effects of removal of Celera's IP on within-gene flow measures of subsequent innovation. Both analyses suggest Celera's IP led to reductions in subsequent scientific research and product development outcomes on the order of 30 percent. Celera's short-term IP thus appears to have had persistent negative effects on subsequent innovation relative to a counterfactual of Celera genes having always been in the public domain.

In my earlier posting on jobs, I touched upon the growing debate as to whether the US is facing a structural change and must now confront structural unemployment. This brings to mind something that has been bothering me -- going back to a statement last April by the Chair of the Council of Economic Advisors Christina Romer -- Back to a Better Normal:

In short, in my view the overwhelming weight of the evidence is that the current very high -- and very disturbing -- levels of overall and long-term unemployment are not a separate, structural problem, but largely a cyclical one. It reflects the fact that we are still feeling the effects of the collapse of demand caused by the crisis. Indeed, at one point I had tentatively titled my talk "It's Aggregate Demand, Stupid"; but my chief of staff suggested that I find something a tad more dignified.

The reason that I have been emphasizing that the high unemployment we are experiencing is cyclical rather than structural is not to somehow minimize or downplay it. In fact, just the opposite. It is to shake people out of the complacency that says, "That's just the way life is." It may be the way life is right now -- but it doesn't have to be. We have the tools and the knowledge to counteract a shortfall in aggregate demand. We should be continuing to use them aggressively.

As I noted before, the Great Recession is a major cyclical downturn layered on a tectonic structural shift. The structural shift helped bring on the cyclical downturn as we tried to deal with the structural change by artificially inflating demand via a credit card spree. And the cyclical downturn was exacerbated by the structural shift.

As a result, the we have to face a different labor market than a traditional cyclical recession. As
Murat Tasci of the Cleveland Fed pointed out in Are Jobless Recoveries the New Norm?

Longer unemployment spells are a problem not only because they mean newly unemployed workers have a harder time finding jobs, but also because workers who are unemployed for too long can lose industry- and job-specific skills. Losing skills can reduce their odds of finding a job during the recovery as well as lower their productivity when they finally do find one.

The bottom line is that we need a transformational shift in order to create a non-bubble, sustainable economy. Dr. Romer did touch on some of the transformational points in her speech (and in the Economic Report of the President issued earlier this year). The speech cite the need to "rebalance demand":

With appropriate policies, the normal we return to will be a higher-saving, higher-investment economy than that of recent decades. Consumer caution, sounder lending practices, and pro-saving policies are likely to lead to higher personal saving. Responsible fiscal policy will tame the budget deficit, further contributing to national saving. This will help to promote low real interest rates, high investment, and low trade deficits. New investment opportunities in areas such as clean energy, health information technology, and biotechnology, encouraged by appropriate policies to correct market failures or jumpstart key innovations, will further raise investment. A normal that involves robust business investment and exports is better for our economic health than a normal built on borrowing, consumption spending, and unsustainable construction.

Finally, there are a range of policy actions that can affect the key sources of productivity growth. Investing in education prepares our workers for the jobs of the future. An educated workforce can seize new opportunities when they arise, adapt to changing technologies, and discover better ways of producing things. All of this increases standards of living and makes our workers less like to suffer persistent dislocation as the economy evolves.

Investing in basic science -- something that the private sector tends not to do enough of -- is a way for the government to help spur innovation. Funding laboratories, research facilities, and graduate fellowships is a wise public investment that makes it easier for entrepreneurs to develop new production methods and whole new products. These new technologies and products not only improve our lives, they generate the jobs that will employ our children. By doing so, they make the economy stronger and more prosperous than before.

And Chapter 10 of the Economic Report of the President does specifically cover innovation. In that chapter there is an explicit reference to shifts:

The Great Recession has aggravated an already challenging trend: sectoral shifts that are changing the nature of work. While most American workers were once engaged in producing food and manufactured goods, often through physical labor that did not require a great deal of training, the United States is increasingly a knowledge-based society where workers produce services using analytical skills. The changing economy offers tremendous opportunities for American workers in high technology, in the new clean energy economy, in health care, and in other high-skill fields.

That is good as far as it goes. However, it does not go far enough to transform the economy and provide a sustained boost in productivity. Our policies need to build on that awareness of the shift -- and not just look at specific industries. We need a broad economic and competitiveness strategy.

Yesterday Brookings released a new report on exports and metro areas. While the report contains good analysis and recommendations, I fear its scope is too limiting. The report highlights which metro areas are competitive in which industries - as measured by exports. And it does a good job of including services "exports" such as foreign student studying in the metro area. But the report should really about competitiveness and regional clusters.

International exports are only one part of the equation. Every metro area has "exports" regardless of whether those goods and services leave the boundaries of the US. Every car build in Michigan that is sold in Texas is -- for the local economy -- an export. The study specifically focuses only on the international exports. For a complete view, it needs to include the sales of the metro area to other U.S. regional economies.

Under that view, I wonder how much of the conclusions change. For example, the standard analysis shows that exporters pay higher wages. But is that true only for international exporters or domestic exporters as well? In other words, are international exporters really different -- or is the major difference between those who produce for the local economy and those who produce for "export" outside of the metro/regional economy?

I suspect it is the latter. And that conclusion has a very different implication for public policy. It speaks more toward improving the competitiveness of the domestic export firms (including strengthening clusters) and upgrading the for-the-local market firms as well as promoting foreign trade and opening foreign markets.

Promoting international exports is a positive policy But promoting competitiveness is a much broader policy.

Earlier today, the Basel Committee on Banking Supervision of the Bank of International Settlements reached some agreement on a bank reform issue -- specifically on what constitutes "capital" that banks have to hold as part of their reserve requirements (see press release and story in the Wall Street Journal). The agreement allows certain assets such as deferred-taxes, mortgage-servicing rights and minority interests in other financial institutions to be counted as "Tier 1" capital subject to a 15% limit. I have no problem limiting such assets to 15%. However, I would like to see a consistent approach on what intangible assets are explicit included or excluded -- even in that 15%. If they can count mortgage servicing rights as capital, they should be able to count other intangibles as capital as well.

BTW, the agreement also settles a technical issue concerning treating software as an intangible by creating a option to use the IFRS rules.

An interesting story line on the Great Recession has developed over the past few days. It appears that while company profits are up, company investment is not. The Sunday New York Times ran a story on this (Industries Find Surging Profits in Deeper Cuts) and Treasury Secretary Geithner commented upon it on the weekend news shows (Geithner Says U.S. Employers `Very Cautious,' Job Growth Not Fast Enough). An article in the Wall Street Journal (Investors Say No to 'Let's Expand' Companies) showed how the stocks of companies with expansion plans are doing poorly.

"You've got plenty of investors convinced out there that the economy is going to double dip," said David Bianco, chief U.S. equity strategist for Bank of America Merrill Lynch. Given those worries, he adds, it is no surprise many investors are likely to react nervously if companies start ratcheting up production, lest they spend hard-earned cash preparing for a wave of customers that never materializes

What explains this structural shift? First, the rise of immigration, imports, and medical care costs, together with the decline in the real minimum wage and of labor union power, have contributed both to a rise of inequality and an increasing tendency of firms to treat workers as disposable commodities. The ICT revolution has both increased the flexibility of labor markets and provided firms with new tools to boost productivity during economic recoveries as they continue to cut labor costs.

I have long argued the same case as Gordon - but with a different twist. The structure of the economy started to shift in the mid-1980's. The Reagan Recession was the last of the industrial era cyclical downturns where workers could expect to be called back. Since then, cyclical downturns have combined with structural shifts to change the nature of the recession. People aren't called back, production shifts to different sectors and the economy slides into a new configuration.

The irony of this new dynamic is striking. As Gordon notes, there is "an increasing tendency of firms to treat workers as disposable commodities." At the same time, the shift to the I-Cubed Economy means that worker skills and knowledge is increasingly important.

In any event, if companies are afraid to invest in increased production then we may well be headed for a double dip (or at least a slowdown). If this is the case, we need to re-orient economic policy. Attempts to boost consumption may not be the way to go if companies aren't willing to boost production to match. Nor will policies that boost company profitability -- since we currently see profits not going into production. Rather, we may need more direct policies to boost company investment -- like the green manufacturing tax credit (see earlier posting). The key is to expand and scale up such programs. That will be difficult in the current political environment. But in the long run, these type of programs may be the only way to prevent the return of an investment-led economic downturn.

BTW - over a year ago the WSJ Real Time Economics blog posted a note on research by Alliance Bernstein economist Joseph Carson on how Job Losses Outpace GDP Decline. That piece ended with this optimistic note:

"Improved productivity levels reflect an extremely lean corporate sector that should be capable of generating profit growth at much lower levels of GDP growth than in the past," Carson writes. "By improving productivity during a recession, companies may even be able to generate extraordinarily strong and sustained productivity and profit gains when the economy reverts to more normal levels of activity. In time, a recovery in corporate profits will generate the need for additional labor."

Over at the IAM blog there is a posting that everyone interested in patent policy and technology licensing should read - IP value creation at IBM and Microsoft - compare and contrast. Without giving away too much of the punch line, this is a great story about how the different needs drove different strategies toward their IP. Actually, let me broaden my first statement: everyone interested in intellectual assets and intangible capital should read this story. The same lessons drawn about strategic management of patents in this story apply across the broad to all IA/IC. There is no one best way; there is only the strategy best for the circumstance.

Today's FT has an interesting article on how the UK is approaching the question of rebalancing its economy [registration required]. The article implies that most people believe the UK economy veered too much to the financial industry and away from other sectors. It even quotes Prime Minister David Cameron:

"That doesn't mean picking winners, but it does mean supporting growing industries - aerospace, pharmaceuticals, high-value manufacturing, high-tech engineering, low-carbon energy. And all the knowledge-based businesses including the creative industries," he said in his first big economic speech.

All of this talk is welcome. The real trick, of course is how to pull it off. There the debate is joined -- with all the standard issues of how much and what type of government assistance to offer and where growth will come from. The latter question is seeming to drag the debate in the UK back to the old services versus manufacturing canard (as least as outlined in the article).

However, there was one striking remark in the article's sidebar discussion on sectoral job growth - "How the World Makes its Living":

Boundaries between manufacturing and services have blurred: much of industry today sells advice as well as hardware while services such as consultancy feed off manufacturing. But most people's jobs are unlike the blue-collar roles of former generations.

That insight (which long time readers of the blog will know is a constant refrain here) can help cut through the fog. Rebalancing is an important goal. But it does not mean returning to the economic structure of the part. The world has moved on; the I-Cubed Economy is here.

We need a economic structural policy that understands and builds upon this transformation - not one that is stuck in the mindsets of the past. And one of those mindset from the industrial era is this simplistic notion of "advancement" from agriculture to manufacturing to services. Economic dynamics is not like climbing a predetermined ladder. It is about transformation. The simply notice of the fact that the boundaries between manufacturing and services has blurred is a recognition of that transformation.

Now, can we build on that recognition?

In yesterday's posting, I discussed the need to revamp our unemployment insurance system. But much more needs to be done. A decade ago, I wrote a paper for the Progressive Policy Institute outlining how the safety nets could be turning into a trampoline -- Making the Global Economy Work for Every Worker: An Agenda for Expanding the Winners' Circle. That paper outlined three sets of actions:

•  Building a rapid re-employment system. The Workforce Investment Act of 1998 made a promising start toward turning the crazy-quilt of government re- employment and adjustment assistance programs into a comprehensive system. Government policy should take the next steps to: 1) directly tie the unemployment insurance system to the training program in a comprehensive re-employment framework and 2) replace the multitude of specialized adjustment assistance programs with a broad- based adjustment program. Our goal is a seamless system driven by choice, competition, and information. This system would give workers information about training and education opportunities, vendors, and the job market, letting them make informed choices.

•  Creating a lifelong learning system. The New Economy has blurred the distinction between learning and work. Skills are no longer something taught once and for all. To succeed, workers must constantly adapt their abilities and knowledge to new employment circumstances and technologies. To meet this need, we must develop new public-private systems to give workers continual opportunities to learn and upgrade their skills, regardless of their current job status. Government's role should be to facilitate and leverage private resources to ensure both workers and companies get the tools and skills they need to prosper in this new environment.

•  Promoting worker empowerment and ownership. Workers need more control over their jobs, their financial resources, and their futures. We must foster true worker empowerment in the workplace through incentives, educational activities, and new labor laws. We must revise the pension and health care system to give individuals more control over these important parts of their lives. We should strive to give workers a greater financial stake in their companies and the health of the New Economy. And we must help all Americans share in the prosperity by helping to build wealth and assets.

After much maneuvering, the Senate is set to vote on an extension of the unemployment benefits - with the House to rapidly follow. (HR 4213 that also includes a number of tax break extenders -- see stories in the Washington Post, New York Times and Wall Street Journal.) I support this extension -- but see the debate as a wasted opportunity. Much of the debate has been a re-hash of the stale old arguments as to whether unemployment compensation causes people to stay unemployed longer (because they are more likely to turn down a potential less-than-perfect job waiting for something better).

For the record, I think this argument is wrong. It also illustrates the problem with the debate. It assumes that that a downward movement in workers' skills is acceptable -- i.e. you should be willing to take a job at lower pay just to get a job. This is the commodity theory of employment -- all workers are fungible commodities and the labor market adjusts to overall supply and demand.

In truth, many jobs carry a specialized skill set and knowledge base. This is part of the power of the I-Cubed Economy -- the value of the intangible asset embodied in worker skills. The individual tragedy of long term unemployment and downward mobility is that the worker's skill set and knowledge base diminish. The economic tragedy is that these lost skill sets and diminished knowledge bases are a wasted asset.

Our unemployment insurance system doesn't understand that. A job is a job is a job. The system needs an overhaul.

Yes, over the years the system has been jury-rigged to try to fit in with a re-training system. But our re-training system is inadequate and our training system (for incumbent workers) is almost not existent. And the UI system doesn't even begin to touch the problem of the involuntary underemployed (see my postings on the employment data).

There are a number of ideas out there worth looking at -- every thing from using UI funds to help people start a business (entrepreneurship) to job sharing (see earlier posting). Few of these ideas came up during the debate.

As Phil Izzo points out in a posting in the Wall Street Journal blog, we are likely to see a push for another extension later this year. However, I doubt that we will be able to do anything about transforming the program at that time either -- just before an election.

We keep mouthing the words -- "our people are our most important asset." But we don't put our money where our mouth is. We lost the opportunity to do something meaningful during this most recent debate. We will likely waste the opportunity as well the next time around. And nation, our economy and our people will continue to be ill-served.

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FYI Update: There is a program in the Labor Department that allows the use of UI funds to help start a business -- the Self-Employment Assistance program. However, UI is administered by the states and right now this is a voluntary program operating only in Delaware, Maine, Maryland, New Jersey, New York, Oregon and Pennsylvania. In other states, if you are actively seeking clients for a new business, you don't qualify for unemployment benefits (see this story about North Carolina).

Steven Pearlstein's latest column (Can regulation beget innovation?) is based on this insight:

It's been 20 years since Harvard Business School professor Michael Porter provided scholarly support for the notion that, rather than hamper economic growth and competitiveness, well-crafted regulation could actually promote it. Porter's first observation was that some of the world's most prosperous and economically vibrant countries were also those with some of the most stringent business regulations, such as Germany and Japan. His studies of specific industries also turned up numerous examples of new products and more efficient ways of doing business that came about only because companies and industries were forced to comply with rules.

I completely agree with Pearlstein's (and Porter's) basic point. Regulations can serve as a forcing function to create new opportunities. The old joke about car companies was that US executives would come out of a meeting on new regulations and immediately go talk to their lawyers and lobbyists; Japanese executives would immediately go talk to their engineers. I'm not sure that is exactly how Japanese car companies gained a competitive edge on Detroit, but it does illustrate differing views of opportunities.

One of the most important drivers of innovation is customer demand. A demanding customer is an important factor in creating competitive advantage (as Porter also pointed out a number of years ago). This demand driven innovation is the reverse of the standard linear model of innovation that seems to entrenched in our policymaking psyche. That linear model is technology driven. Someone has a new (technological) idea and the whole process is about bring that idea to market. Nothing about whether the market wants that idea or not.

The public policy for such a model is simple: funding for research and technical education in; patents and other forms of commercialization assistance out. The entire America COMPETES Act (see previous posting) is built on this model.

In truth, the successful ideas are those that meet a market need. An entrepreneur pulls together a previously uncoordinated hodgepodge of ideas and technologies into a product or service that customers demand.

The demand driven model can open up new vistas for fostering innovation. It means that government procurement can drive innovation -- just as it did in military and space related technologies. Government as a demanding customer can create the "thin opening wedge" -- new products and services that have a specialized use. Once that specialized use is established, the product or service can be refined and adopted to a broader customer base. The demanding customer in fact becomes a co-creator.

Regulations can serve the same function by creating demanding customers.

We need a public policy that recognizes this fact. There have been proposals to create an Office of Innovation Policy in the White House that would review regulations. The White House has already announced a review of regulations in response to complaints by business leaders (see story in the Wall Street Journal). I worry about such actions -- that they stem from the "regulation always impedes innovation" mind set. (I also worry that such an Office of Innovation Policy would be overly narrow -- focused only on regulation and only on technology.) Instead, any regulatory review process needs to instill a sense that regulations can be used to create demanding customers and thereby foster innovation.

Crafting a process that uses the power of regulations to enhance innovation will be difficult. The natural tendency is to see regulations as barriers -- as they can be. But a balanced approach to regulation is needed. And something that policymakers should constantly strive for.

Friday, Senator Rockefeller (Chair of the Senate Commerce Committee) released a staff draft of the Senate version of the America COMPETES reauthorization. In many ways the draft Senate bill tracks the bill passed by the House (H.R. 5116), including reauthorization of various S&T and STEM programs, making permanent the Commerce Department's Office of Innovation and Entrepreneurship and authorizing new cluster initiatives. In others ways it is different -- for example not including Energy Department programs which fall under the jurisdiction of the Senate Energy Committee.

The Senate bill includes two provisions of the House bill I am especially interested in, as I discussed in an earlier posting. Both the House and Senate bill include a provision to get the MEP Centers into the product development game. Labeled the Innovative Services Initiative, this provision allows the Secretary to set up programs in MEP to assist SME in "accelerating the domestic commercialization of new product technologies." I would have liked the language to say "shall" set up the program rather than "may" -- but it is still a step forward.

In addition, the Senate bill includes a requirement for a study to "evaluate obstacles that are unique to small manufacturers that prevent such manufacturers from effectively competing in the global market." I would argue that one of the problems is the inability of small manufacturers to effectively manage their intangible assets. This issue should be included in this new study.

The second provision I am especially interested in is the creation of a program of loan guarantees for projects that "reequips, expands, or establishes a manufacturing facility in the United States to (1) use an innovative technology or an innovative process in manufacturing; or (2) manufacture an innovative technology product or an integral component of such product." The program also uses MEP Centers as an outreach mechanism for the loan guarantees. I would hope that the definition of an innovative process includes organizational innovations. This would orient the program toward being an important step toward helping to transform US manufacturing (see earlier posting).

On the downside, I would also note that both bills require the White House Office of Science and Technology Policy (OSTP) to develop and report to Congress on an National Competitiveness and Innovation Strategy. While I support the idea of such a strategy, I believe that OSTP is wrong place to house this activity. As long time readers of this blog will know, I have consistently argued that competitiveness and innovation are much broader concepts than S&T and R&D. Placing competitiveness and innovation strategy in OSTP will drastically narrow the view for such a policy.

The original America COMPETES Act created a Cabinet-level President's Council on Innovation and Competitiveness (PCIC) as a mechanism to "develop a comprehensive agenda for strengthening the innovation and competitiveness capabilities of the Federal Government, State governments, academia, and the private sector in the United States." The statutory Chair of the Council is the Secretary of Commerce and is made up of the heads of 16 departments and agencies (a nonexclusive list). The utilization of this Council is something that I have been advocating for some time as a means of creating a broader strategy (see Crafting an Obama Innovation Policy). Both the Bush and Obama Administrations have chosen to ignore this mechanism. Now it appears that the Congress has written off the PCIC as well. That is too bad.

So let me advocate once again for a different route toward creating a broad competitiveness strategy. 25 years ago when facing a competitiveness challenge, President Reagan created the President's Commission on the Industrial Competitiveness (the Young Commission), which proved to be a successful mechanism for confronting the issues of its time. It's time to create a similar a Commission on the Future of the US Economy. The competitiveness agenda has changed but the need to craft a holistic solution remains. A new Commission could give us exactly the broader vision we need.

Yesterday, the SEC issued a "concept release" on the issue of shareholder proxy voting. According to a story in the Washington Post earlier this week, action is part of a broader move to increase transparency and improve investor information. Earlier this year the SEC issued guidance on company disclosure of information on climate change risk. Currently they are looking at even more disclosure of information on company risks.

Increased disclosure of information on risks is a step forward. But let me suggest that there is another broader step the SEC can take to enhance transparency. They should also be looking a broadening disclosure of information on intangibles - in the form of both qualitative descriptions and quantitative non-financial metrics.

In an early posting, I mentioned a new book on One Report: Better Strategy through Integrated Reporting. The "One Report" would be a compilation of financial and non-financial information that could then use Internet technology and Extensible Business Reporting Language (XBRL) to provide more specific information to relevant stakeholders. This may be a bridge-too-far for the SEC right now. But it points us in the right direction.

One step in that direction would be to look at increasing the discussion of company intangible assets in the Management Discussion and Analysis (MD&A) sections of the quarterly and annual reports. As noted in our earlier working paper Reporting Intangibles: A Hard Look at Improving Business Information in the US, the SEC issued expanded guidance on the use of non-financial metrics in the MD&A back in 2003. Since then, the SEC has issued other guidance on qualitative disclosures, such on climate risk as noted above and on valuation techniques. As far as I know, there has been not follow up study of the compliance and effectiveness of the disclosure requirements, especially concerning non-financial metrics. It is time for the SEC to revisit the issue in a systematic way.

Increased disclosure on intangibles would have a two-fold positive impact. It would give investors the information they need to make informed decisions. It would also force business executives to pay more attention to how manage their intangibles. Both markets and management benefit -- as would the economy as whole.

Yesterday, Commerce Secretary Locke announced the membership of his new National Advisory Council on Innovation and Entrepreneurship. This Council is part of the Secretary's Office of Entrepreneurship and Innovation (see earlier posting).

I welcome the announcement -- but am concerned that the focus of the Council and the Office is too narrow. For example, the Council is heavy on academic and high-technology leaders. I will note that the co-founder of ZipCar (a business model innovation rather than a technology innovation) is among the members.

Entrepreneurship (i.e. start-ups) and technology-based innovation are part of an overall economic competitiveness strategy. But they are only parts. We need to look at that broader strategy. It should include a look at how to make existing SMEs (small and medium size enterprises) more competitive, how to ensure that large multinational corporations contribute to economic activity in the US (including encouraging direct foreign investment in the US) and how to foster more non-technological innovation to create new goods and services and increase productivity.

As I've noted before, one of the ways to craft such a broader strategy is to create a Commission on the Future of the US Economy. The competitiveness agenda has changed but the need to craft a holistic solution remains.

The May trade data released this morning was not good. The trade deficit increased to $42.3 billion, up from $40.3 billion in April. Exports grew by $3.5 billion in May while imports shot up by $5.5 billion. Once again, the increased deficit cannot be blamed on oil. As the chart below shows, our deficit in petroleum products shrank while our non-petroleum goods deficit increased. Rather than heading to a new sustainable economic "re-balancing," we appear to be going back to the same old trade flows. As the New York Times put it, the deficit was "led by a jump in imports from China that helped overpower the best month for exports since September 2008."

The jump in the deficit was unexpected. According to the Wall Street Journal, "Economists surveyed by Dow Jones Newswires had expected the deficit to contract to $38.9 billion in May."

Our intangibles trade surplus improved slightly in May after a small decline in April as export rose slightly faster than imports. The surplus grew in both royalties and private services as imports and exports increased in both categories.

Surprisingly our deficit in Advanced Technology Products was about the same in May as in April. Increased deficits in information and communications technologies and opto-electronics were offset by increased surpluses in aerospace and electronics. In all of these categories, both exports and imports increased. The last monthly surplus in Advanced Technology Products was in June 2002 and the last sustained series of monthly surpluses were in the first half of 2001.

Note: we define trade in intangibles as the sum of "royalties and license fees" and "other private services". The BEA/Census Bureau definitions of those categories are as follows:

Royalties and License Fees - Transactions with foreign residents involving intangible assets and proprietary rights, such as the use of patents, techniques, processes, formulas, designs, know-how, trademarks, copyrights, franchises, and manufacturing rights. The term "royalties" generally refers to payments for the utilization of copyrights or trademarks, and the term "license fees" generally refers to payments for the use of patents or industrial processes.

Other Private Services - Transactions with affiliated foreigners, for which no identification by type is available, and of transactions with unaffiliated foreigners. (The term "affiliated" refers to a direct investment relationship, which exists when a U.S. person has ownership or control, directly or indirectly, of 10 percent or more of a foreign business enterprise's voting securities or the equivalent, or when a foreign person has a similar interest in a U.S. enterprise.) Transactions with unaffiliated foreigners consist of education services; financial services (includes commissions and other transactions fees associated with the purchase and sale of securities and noninterest income of banks, and excludes investment income); insurance services; telecommunications services (includes transmission services and value-added services); and business, professional, and technical services. Included in the last group are advertising services; computer and data processing services; database and other information services; research, development, and testing services; management, consulting, and public relations services; legal services; construction, engineering, architectural, and mining services; industrial engineering services; installation, maintenance, and repair of equipment; and other services, including medical services and film and tape rentals.

Today, Ken Jarboe of Athena Alliance and Mary Adams of I-Capital Advisors submitted the following statement to the SBA on IC management and entrepreneurship:

On March 10, 2010 the Small Business Administration (SBA) published a Request for information (RFI) on the Entrepreneurial Mentoring and Education (FR Doc. 2010-13978 - SBA docket number SBA-2010-0009). The RFI specifically calls for ideas "for creating and leveraging existing entrepreneurial mentoring and education programs for early stage, high-growth companies." Most of the questions asked in the RFI are specific to issues of education and mentoring. However, question 21 of the RFI asks, "Beyond entrepreneurial education programs, what else can be done to promote entrepreneurship?" It is to this question that we address the following comments.

As the RFI notes, entrepreneurial mentoring and education is critical to improving the chances of success for high-growth start ups. However, we believe that there is an important gap in the system between education and mentoring. Education and training helps build the skill set of potential entrepreneurs. These programs prepare entrepreneurs to launch companies. Mentoring provides general guidance and advice on problems and opportunities facing some one engaged in entrepreneurial activities. The gap between training and guidance is technical analysis and assistance with specific business issues.

Many such technical assistance resources already exist: legal, accounting, financial etc. In fact, an important part of the mentoring process is connecting the struggling entrepreneur with the appropriate technical resources. However, there is one set of technical assistance resources that are yet to be fully developed and deployed to help entrepreneurs: intellectual or intangible capital (IC) management. (See Mary Adams and Michael Oleksak, Intangible Capital: Putting Knowledge to Work in the 21st Century Organization, Praeger, 2010.) Economy-wide, IC comprises a large part of corporate value. In some high-growth companies this percentage can often approach 100% and successful management of IC is often the key to their success.

IC includes all knowledge resources of a firm. This includes:
•   Human Capital - worker skills, experience and competencies
•   Relational Capital - customer, supplier and industry relationships, brands, reputation
•   Structural Capital - know-how, databases, processes and intellectual property (IP)
•   Strategic Capital - the business recipe by which the organization monetizes its knowledge

It is important to distinguish between IC and IP. IP consists of patents, copyrights, trademarks and trade secrets. While IC includes IP, IC is a much broader set of knowledge assets that, in combination, are the productive capacity of the knowledge-era organization.

While legal and technical advice and services are available for IP (such as patent attorneys and brokers), the broader area of IC management is not been fully developed in the U.S. IC management goes beyond the personal and often ad-hoc process of mentoring. It involves a more systematic approach:
•   Inventory - knowing what intangible assets you have
•   Model - working model/visualization of how pieces fit together
•   Assess - relative strength of everything on the inventory
•   Strategy/execution - put IC to work
•   Measurement - develop and update metrics to monitor/demonstrate performance

While large companies can afford the consulting expertise required to undertake IC management, such assistance is not available in an accessible, cost-effective form to high-growth start-ups. Intangible assets are basically all most start-ups have. It is critical therefore that entrepreneurs are able to visualize and articulate what are the start-up's intangible assets and how they work as a system. This is especially important for investors but also for recruitment and strategy. Start-ups need to thinking carefully about their business models: how to get paid for what they know-including navigating between free and paid aspects of a value proposition. Keeping track of intangible investments is an important way of backing up the story of the company's development. Finally, entrepreneurs need to understand that the ultimate reputation of their organization will be earned as a result of good intangibles management.

To promote development and use of IC management techniques, the Small Business Administration should explicitly include IC management in their assistance programs. IC management should also be explicitly incorporated into entrepreneurship education and mentorship programs. In addition, the SBA or other federal agencies should consider ways of supporting research on and dissemination of best practices in IC management -- especially in conjunction with similar activities in other nations. Further, the Federal government may want to consider the establishment of one or more IC Management Centers to operate in parallel with the existing Manufacturing Extension Partnership programs and the Small Business Development Centers. Such centers have been established in Glasgow, Hong Kong and Beijing and could serve as prototypes for American version.

Over at IP Finance, Neil Wilkof has an interesting posting on Brands and Obesity: How Do Innovation and Regulation Fit In?. The posting is a takeoff from an article last month in the Economist (Good and Hungry) about the push for more nutrition information on fast foods. Wilkof speculates on impart on competing coffee brands:

When, to this existing relative perception in favor of Starbucks, there is added a public policy preference for nutritious menus, the relative advantage of the Starbucks brand is enhanced. This is so, even if on absolute basis, both the Starbucks and Dunkin' Donuts menus reveal innovative steps to satisfy the public demand for more nutritious menus.

In a number of previous postings, I've talked about how the music monetization model has moved from recording sales to live performances - as a direct result of the rise of free online music (legal and illegal). But, as the Wall Street Journal reports, there may be a problem with this new model:

With the continued evaporation of recorded music sales, acts at all levels of the talent pool must lean heavily on their live-performance earnings. That's forcing artists to tour more, and to keep their ticket prices high, despite the weak economy. This has created a glut of seats.
. . .
Live Nation Entertainment, which after a recent merger with Ticketmaster is now the most powerful live-music company in the industry, says bad news from a handful of tours doesn't signal a crisis. "Cancellations are part of the business, and in fact the number this year is in line with past years," says Jason Garner, chief executive of the company's concerts division.
Still, he says failed tours and slower ticket sales should serve as a collective wake-up call: "When 40% of tickets across the industry are going unsold, you have to have an honest talk about ticket prices."

All of this doesn't quite add up to the Journal's tag line for the story - "Why the Eagles, Rihanna and the Jonas Brothers Have Canceled Concert Dates This Summer." In fact, the story goes on to say, "This summer, everyone seems to be on the road."

Still, the point is interesting. As live performances become more the norm, consumers can become more selective and prices drop. That's the way the market works. Seems to me that this is evidence that the shift in the model is being successful - not the other way around.

Yesterday, President Obama gave a progress report on his National Export Initiative and announced the members of his Export Council (which included Ivan Seidenberg, CEO of Verizon who as the new head of the Business Roundtable recently blasted the Administration for being anti-business). The goal of the Initiative is to double exports in five years. As I've noted before, that is a do-able goal but will require a sustained push to increase our exports even beyond the recent high rates found for a few years in the mid part of the last decade.

The Initiative is a major part of the Administration's economic strategy. As the Wall Street Journal commented, "The White House is shifting the focus of its job-creation efforts away from appeals for more federal spending and toward expanding exports and persuading business leaders to invest more." The Washington Post noted "The topic of exports is especially important because the recovery has been driven far more by sales abroad and business and government spending than it has by consumer spending." (FYI -- the pieces in the FT and the New York Times focused mostly on the trade agreements part of the story.)

Not everyone agrees, however. For example, my friend Leo Hindery, Jr. takes the President to task (see
"Doubling U.S. Exports" Not a Sufficient Jobs Policy):

There are three problems with this pledge. First, doubling U.S. exports would create just 10 percent of the 22 million new jobs we need, and yet, combined with multiple new free trade agreements (FTAs), it seems to be the only specific jobs policy coming from the White House. Second, this strategy wrongly overshadows the more critical imperative of 'import substitution'. Third, the first three FTAs being proposed -- with South Korea, Panama and Colombia -- are very poorly negotiated and will cause even more American jobs to be lost overseas.

I don't necessarily agree with all the point Leo makes. For example, I'm not in a position to judge whether the FTAs are poorly crafted or not. But there is an underlying point that I strongly support. The goal is not increased exports; that is a mechanism. The goal is sustained economic prosperity and job creation. That means improving the competitiveness of American companies so they can better compete in all markets -- foreign and domestic. Both capturing more foreign markets and regaining market share at home are important. And while there are specific actions that need to be taken to open up foreign markets, gaining market share both at home and abroad will come from transforming our economy - as noted in my earlier posting.

I think the President gets this. In his remarks, the President outlined his growth agenda:

One thing we know is this growth won't come from an economy where prosperity is based on fleeting bubbles of consumption, of debt; it can't rely on paper gains. We've seen where that led us, and we're not going back. The truth is we've had to face over the past year and a half the truth that if we want to once again approach full employment and fuel real economic growth, then we need to put an end to the policies that got us here, tackle the challenges we've put off for decades, and move this economy forward. We need to lay a new and stronger foundation on which businesses can thrive and create jobs and rising incomes, on which innovators and entrepreneurs can lead the world in generating new technologies and products and services. We have to rely on a new foundation on which America can harness what has made our economy the engine and the envy of the world -- the talent and drive and creativity of our people.

I think, however, he needs a broader set of policy tools -- well beyond the existing export promotion and R&D agenda.

So let me propose a way to create that agenda. 25 years ago when facing a competitiveness challenge, President Reagan created the President's Commission on the Industrial Competitiveness (the Young Commission), which proved to be a successful mechanism for confronting the issues of its time. It's time to create a similar a Commission on the Future of the US Economy. The competitiveness agenda has changed but the need to craft a holistic solution remains. A new Commission could give us exactly the broader vision we need to tackle the challenges that President Obama has eloquently articulated.

A long essay by Andy Groves (former head of Intel) in BusinessWeek (How America Can Create Jobs) is causing something of a stir. Groves message is straight forward enough: economic prosperity depends on more than invention. It also requires commercialization and production - what Groves calls the ability to scale:

Startups are a wonderful thing, but they cannot by themselves increase tech employment. Equally important is what comes after that mythical moment of creation in the garage, as technology goes from prototype to mass production. This is the phase where companies scale up. They work out design details, figure out how to make things affordably, build factories, and hire people by the thousands. Scaling is hard work but necessary to make innovation matter.

The scaling process is no longer happening in the U.S. And as long as that's the case, plowing capital into young companies that build their factories elsewhere will continue to yield a bad return in terms of American jobs.

(See also comment s by Why is the American Jobs Machine Broken? by Tim Duy and Andy Grove on the Need for US Job Creation and Industrial Policy by Yves Smith of the "naked capitalism" blog.)

As readers of this blog will quickly note, this is also an ongoing diatribe of mine. The I-Cubed Economy is not about just producing intangibles and undertaking innovation. It is about doing something with those assets. Intangibles and knowledge are the fuel, innovation the process and the outcome is economic activity. That means production of both goods and services here in the US.

Many have been seduced by the misunderstanding of the intangible economy. They argue that we can simply move to knowledge activities in the believe that only these are higher value added activities. They point to economic history to bolster their claim, specifically the evolution from agriculture to manufacturing to services.

As I've noted many times before, this is a oversimplified version of history. When the economy moved from agriculture to manufacturing (to use the simplistic model) we did not get rid of agricultural production. We mechanized (industrialized) it. The same shift is occurring with respect to knowledge and manufacturing. Manufacturing is becoming a much more knowledge intensive activity. In fact, manufacturing companies are complaining that they cannot get the skilled workers they need.

The question is what to do to correct the situation.

Many complain that the Administration is not focused on the issue. Even Steven Pearlstein of the Washington Post has gotten in on the act in his latest column

Without retreating on other initiatives, the administration could also win back some business support by devoting more resources and high-level attention to winning those competitions for big new plants and research facilities that, increasingly, are winding up someplace else. Americans may be unaccustomed to presidents and Cabinet secretaries acting as glorified economic development directors, but in a globalized economy this is how the game is played and won.

Snaring multibillion-dollar projects with a midnight meeting at the White House or a last-minute pitch from a won't-take-no-for-an-answer secretary of commerce -- a few wins like that would generate more votes and goodwill from the business community than those set-piece presidential factory visits peddling the latest version of "jobs, jobs, jobs."

In a recent in the FT, Richard Florida makes the case that we need to upgrade services jobs. America needs to make its bad jobs better. That is certainly part of the equation. But simply upgrading services doesn't solve the larger problem.

Likewise, getting companies to invest more is another part. As Yves Smith and Rob Parenteau point out in a piece in the New York Times (Are Profits Hurting Capitalism?):

public companies have become obsessed with quarterly earnings. To show short-term profits, they avoid investing in future growth. To develop new products, buy new equipment or expand geographically, an enterprise has to spend money -- on marketing research, product design, prototype development, legal expenses associated with patents, lining up contractors and so on.

Rather than incur such expenses, companies increasingly prefer to pay their executives exorbitant bonuses, or issue special dividends to shareholders, or engage in purely financial speculation. But this means they also short-circuit a major driver of economic growth.

But again, this deals with the invention and commercialization part of process -- not the scaling concern raised by Groves. We need to think more broadly about transforming the production base (see previous posting).

The key is not the output ("agriculture," "manufacturing," "service"). It is the production process that is important. During the industrial revolution, machine power replaced human and animal power. The key input was energy. Today, knowledge has become the key input (factor of production).

Transforming manufacturing will take more than restructuring a couple of companies. It will take restructuring the entire production process. One of transformations is through a "high road" strategy that puts its emphasis on all upgrading of the inputs to the production process: technology, worker skills and cooperative/collaborative organizational structures (see previous posting).

It also means changing the manufacturing mindset. As I have argued many times before, the line between manufacturing and services has blurred. But many companies seem still fixed in the industrial age mentality of turning out a large volume of a commoditized product. The very nature of the supply chain forces 3rd and 4th tier suppliers in to this mode. These companies are not involved in product design and innovation; they simply respond to specs and price. Changing that structure will be painful and disruptive. Trying to revive that structure will be futile.

Thus, one of the major tasks for our new manufacturing policy needs to be focused on the lower tiers. How does the policy help these small companies re-orient themselves to the 21st Century?

Let me suggest two sets of activities. First, we need more research on the transformation. This means a greater understanding of how to create a high road strategy -- including helping companies better manage and utilize their intangible assets. It also means developing a better understanding of the service-manufacturing linkage.

Second, we need to find creative ways to help companies utilize that understanding. We especially need to help the smaller supplier move up the value-chain to take advantage of this shift. Here we have a valuable tool in the Manufacturing Extension Partnerships. The MEPs were on the front lines helping small and medium size companies during the quality revolution. They need to be on the front lines of the intangible asset, innovation and "customer solution" revolution.

Broadening and expanding the MEPs is on small step. I'm sure there are a thousand more we can come up with. But first of all we need to recognize the problem. Andy Grove's essay - and all the others like it -- are leading in the right direction.

In an earlier posting, I talked about how BP and the government were using open source innovation process to look for ideas to cap and clean up the Gulf oil spill. I also mentioned how easy it was to denigrate or make fun of such efforts. Over the weekend, the Washington Post continued that tradition with a front page story on how supposedly BP is not listening to the ideas. The story echoes the complaints of some of 120,000 of people whose ideas were not looked at.

In fairness to the Post reporters, the story does go on to explain the difficulties of sorting through the ideas. As the story notes later on:

But the reality is that nearly all are impossible, impractical, obvious or likely to make things worse.
. . .
The low pass rate is almost certainly the product of a naiveté about what BP is confronting.

As the story points out, some of the good ideas may not surface until the "after-action" evaluation. At that time, the promising ideas can be looked at more carefully and added to the toolkit for future incidents.

I would suggest that the process will also make an important after-action case study on the open sourcing innovation process. The one disturbing point of the Post story was the fact that BP is not looking at the suggestions posted to the open innovation service InnoCentive "because an agreement with InnoCentive would be 'too complex and burdensome.'" So there are a lot of questions to be asked about the proverbial process of separating the wheat from the chaff that go beyond either the wheat or the chaff or the separating process. A broad case study needs to look at not only the evaluation process but also the entire organizational infrastructure for a successful process. I'm sure that such a case study would open up new insights on the innovation process well beyond disaster preparedness.

At first glance, this morning BLS data on employment looks bad -- a loss of 125,000 jobs. However, that was mostly due to a 225,000 decrease in the number of temporary Census employees workers. The all important private-sector employment increased by 83,000 and the unemployment rate declined slightly to 9.5%. That, however, was not quite as good as economist expected - the WSJ poll estimate was about 114,000 private sector jobs created.

As the chart below shows, the number of involuntary underemployed (part-time for economic reasons) declined in June. This is good news as this is a coincident indicator. However, the number of workers involuntarily underemployed because of slack work increased. That is not good news, as it indicates a slight slowdown in production.

Also of interest is the trend in voluntary part time. As the second chart shows, voluntary part time is continuing its decline from what was a stable level. As I noted before, this is a new phenomena that may be due to a crowding out of part time workers by those who want full time work but can't get it. In any event, this should be looked at more closely.

This morning I am going to shameless cherry pick from the most recent Ontario's Regional Economic Development and Innovation Newsletter (published by the Ontario Network on the Regional Innovation System - ONRIS). If you are interest in innovation and don't subscribe to the ONRIS Newsletter, do so immediately.

[And Happy Canada Day to our friends up north.]

The following is a list (with links) of some of the new studies as compiled by ONRIS:

High Technology and Regions in an Era of Open Innovation
Darrene Hackler, ITIF
Open innovation, or the process where R&D occurs outside of the commercializing firm, has become a boon for small businesses and entrepreneurs but the effects on new firms has not been fully studied. In this paper, ITIF Senior Analyst, Darrene Hackler utilizes the largest longitudinal study of new businesses, the Kauffman Firm Survey (KFS) and finds high-technology firms disproportionately rely on open innovation networks.

Culture of Innovation
NESTA
Seemingly a paradox exists in the arts: creativity and novelty lie at the heart of all artistic endeavor, yet funders call on arts and cultural organizations to be more innovative. Understanding this paradox is one of the reasons why NESTA embarked on the research on which this report is based. Working with one of the world's leading cultural economists and two of the UK's premier cultural institutions, the report proposes a framework for innovation that can be used by both arts funders and arts organizations. It describes the rich ways that arts and cultural organizations. innovate in audience reach, push out artistic frontiers and create economic and cultural value.

The Future of Small Business Entrepreneurship: Jobs Generator for the US Economy
The Brookings Institution
This brief examines policy recommendations to strengthen the small business sector and provide a platform for effective programs. These recommendations draw heavily from ideas discussed at a conference held at the Brookings Institution with academic experts, successful private-sector entrepreneurs, and government policymakers.

Innovation, Competition and Incentives for R&D
Martin Wörter, Christian Rammer and Spyros Arvanitis
Exploring the links between the type of innovation and the type of competition is essential to understand the mutual impacts of competition policy and innovation policy. This is of particular importance for countries which rely on innovation as a competitive advantage such as Germany and Switzerland, which are the focus countries of the empirical analysis. The paper investigates three research questions: Is there a relationship between past innovation output and the type of competition? Do product and process innovation exert different impacts on the type of competition in the sales markets? Does the type of competition affect incentives for future investment in innovative activities?

The Role and Structure of Local Strategic Governance in a Multilevel Polity
Tijs Creutzberg, Hickling Arthurs Low Corporation
This paper contributes to the growing body of research concerning the role of local governance in supporting innovation. Drawing on a case study of Guelph, Ontario, it examines the challenges of building a local strategic governance capacity that can engage and mobilize the necessary stakeholders in support of cluster goals as part of broader efforts to diversify the local economy.

Knowledge Dynamics, Regional Development and Public Policy
Henrik Halkier, Margareta Dahlström, Laura James, Jesper Manniche & Lise Smed Olsen
This report is a result of the project Regional Trajectories to the Knowledge Economy: A Dynamic Model (EURODITE). The main objective of the EURODITE project was to investigate knowledge dynamics; that is, how knowledge is generated, developed and transferred within and among firms or organizations., and their regional contexts.

SMEs, Entrepreneurship and Innovation
OECD
Small firms are playing an ever-increasing role in innovation, driven by changes in technologies and markets. Some spin-offs and high growth firms are having remarkable success. However, the broad bulk of small firms are not capitalizing on their advantages. This book explores how government policy can boost innovation by improving the environment for entrepreneurship and small firm development and increasing the innovative capacities of enterprises. Policy findings and recommendations are presented in three key areas: embedding firms in knowledge flows; developing entrepreneurship skills; and social entrepreneurship. In addition, country notes present statistics and policy data on SMEs, entrepreneurship and innovation for 40 economies, including OECD countries, Brazil, China, Estonia, Indonesia, Israel, the Russian Federation, Slovenia and South Africa.

Major findings and messages
• The importance of new and small firms to the innovation process has increased;
• SMEs are playing new roles: they upgrade and aggregate the productivity of the economy by displacing firms with lower productivity, they enable the commercialization of knowledge, are often active in breakthrough innovation, and participate strongly in the flow of knowledge within innovation systems;
• SMEs are significant contributors to the economy: Across the OECD they represent a major share of all firms (99%), all employment (about two thirds), and all value added (over one half);

SMEs and Knowledge Flows
• SMEs do not innovate alone: but rather in collaboration with others, including suppliers and customers, and with universities and research organizations. Collaboration is an important element in the strategies of innovation of SMEs to overcome some of the barriers they face;
• Spatial clustering of SMEs is strong: especially in knowledge-driven sectors i.e. those where R&D intensity, basic university research and highly-skilled workers are most important;
• Connecting to global knowledge flows is equally important;
SMEs and Skills
• Entrepreneurship training: SMEs have been helped in part by higher education initiatives to provide entrepreneurship training, especially to innovative faculty;
• Small firms provide less in-house training: and there is a gap between training opportunities for young, better-educated workers in highly-skilled occupations versus less skilled workers;
• SMEs can boost entrepreneurship skills: through use of Knowledge Intensive Service Activities (KISA) - the use of external consultants and other experts - to help implement change or strategies;
• SMEs exist within local skills ecosystems: These involve regional and industry-specific networks that bring together public and private training providers, employers, industry representatives, unions, labour market and training intermediaries, and community representatives in order to develop skills strategies and deliver training.

Recommendations
The main recommendation of this report is that policies to strengthen entrepreneurship and increase the innovation capabilities of SMEs should be one of the main planks of government innovation strategies. Governments should target SMEs and entrepreneurship as a major potential source of new jobs in the recovery and recession. To realize these benefits, governments should introduce an innovation strategy for SMEs and entrepreneurship. It should stress action in four main areas:
• Promoting conducive entrepreneurship cultures and framework conditions;
• Increasing the participation of new firms and SMEs in knowledge flows;
• Strengthening entrepreneurial human capital;
• Improving the environment for social entrepreneurship and social innovation.

(Over the past few years, we've highlighted some of the pro's and con's of financial innovation. For example, intangible asset monetization is one example of a financial innovation that Athena Alliance has advocated. There have been others. But we have also been concerned about the downside of financial innovation (for example, see posting from February). A major reason for our interest in the subject is our strong believe that innovation needs to be understood and promoted in the broadest sense -- it is not just technology and new gadgets. In that vein, we are posting this guest piece from Cesar Zambrano over at ForexFraud).

RETAIL FOREIGN CURRENCY TRADING IS TEXTBOOK INNOVATION
The past two decades have witnessed an explosion in innovation, spurred on by advances in technology and a willing public's grasp of the ever-present electronic age. The standard variety of minor technical changes to improve product performance will always be part of the mix, but electronic innovation is fast-paced with every technological breakthrough promising the potential of transforming an industry nearly overnight.

The Internet has been the greatest enabler of our time, transforming the way we conduct business, communicate, market new products, and yes, innovate. The Internet was not confined by geographical limits, nor was it tied to physical manufacturing techniques. The components were ideas, protocols, standards, programming languages, and software. Access, coupled with advances in data management and telecommunications, converged to transmute our global world of commerce to a radically higher vibration level.

A textbook case of innovation has been the dramatic growth and popularity of foreign currency trading in the past decade. Prior to the 1990's, retail forex, as it is called, did not exist. Currency trading was the purview of large international banks and financial institutions. Electronic modems connected corporate treasurers with a trading platform, but phone confirmations were generally required to execute trades. Transaction sizes were from 1-5 million units of currency, well beyond the limits of even the wealthiest of investors to consider. Banks internally aggregated cross-border wire transfers and net-settled with their international branches, thereby reducing the necessity for entering the market.

However, the Internet revolutionized banking and global communication. Large forex brokers saw the opportunity for a retail business and began aggregating trades to permit smaller lot sizes for trading. With access to the market assured, it was only a matter of time to develop software trading platforms to analyze streams of data, produce real time charts, and enable the actual automation of trading orders. This period of innovation primarily benefited businesses and those individuals that were on the periphery of the industry.

Retail forex trading exploded onto the scene in 2004. Benefiting from innovations in a complementary industry, namely stock trading, foreign exchange offered all the same online benefits but also flexibility of trading "24X7". Regulations, education tutorials, training seminars, and free demo accounts raced quickly to catch up with the amazing growth curve. Today, ads touting every facet of the business appear not only on the Internet, but also on national television networks. Retail forex trading has arrived.

Innovation now focuses on improving analytic techniques and making the trading experience less risky and more "user friendly" for the general consumer. Open source code has fostered innovation in the customized application segment for the more popular operating platforms, and automated trading systems, usually the domain of large banks and hedge funds, are now available from numerous vendors. An interesting sidebar is the annual "trading robot" challenge. Recently, a Croatian programmer walked away with the $100,000 prize when his robot recorded a 150% return in one month's trading results. If you not like "black boxes", you can also "mirror trade" by observing other trading experts and their performance. With the click of a switch, the trades of your chosen expert can be applied instantly to your portfolio.

The industry has had its problems with fraud, but the criminal element always gravitates to where the money is. The industry has responded to risk issues by policing brokers and educating users on the basics of risk management. All in all, forex trading has been an excellent example of how quickly innovation, coupled with information management and intangible software, can transform a single industry, even during a recession, beyond anyone's initial expectations.