1  Introduction

… it is essential for scientists, however distasteful the task may be, to prove to the farm community the value of their discoveries in terms of pounds, shillings and pence.

Lord Bledisloe
Address to the Wellington Philosophical Society
26 October 1932

Productivity growth is seen as a key element in both improving the relative income in New Zealand compared to other OECD countries and contributing to achieving higher living standards. Agriculture remains an important sector of the economy and productivity growth in agriculture has been an important contributor to improved performance in the overall productivity growth in New Zealand (Black, Guy and McLellan 2003).

Productivity improvements stem from many sources, but increases in the stock of knowledge are widely acknowledged as one strategy for enhancing productivity growth. Formal investment in R&D is one avenue through which to increase this stock of knowledge. In both the private and public sectors, decisions must be made about allocating resources toward investment in the generation of new knowledge.[1] Public investment in R&D represents a major share of total national R&D expenditure in New Zealand.

In order to determine the appropriate policy settings, a necessary condition is to understand the relationship between investment in R&D and the growth of productivity. The primary objective of this paper is to develop a conceptual model, derive a formal model that can be tested with historical data and thereby generate estimates of the impact of R&D on productivity growth in the agricultural sector. From this we can then estimate the rate of return to investment in R&D.

One of the critical issues in analysing the impact of investment in R&D is the need to recognise the long lags involved. Expenditure on a R&D project today might result in the generation of new knowledge and its adoption into production systems a decade or more from now. Hence investments made in R&D today arguably will not contribute to measured productivity growth until some time in the future. For this reason we have developed time series data for the key variables from 1926-27 to 2000-01.

As a consequence however, it is inevitable that there will have been important changes in the institutional environment. For many years agriculture was heavily taxed in New Zealand as a result of industrial protection policies and labour laws. The economic liberalisation of the 1980s had major implications for the agricultural sector. Furthermore, the arrangements for the conduct and funding of research have evolved through a number of forms, each having implications for the level and allocation of research expenditures.

A second critical feature given emphasis in this study concerns the contribution of knowledge generated offshore to productivity growth in New Zealand. Arguably a great deal of the innovation that takes place in a small open economy such as New Zealand comes not from domestic investment in knowledge, but rather from that which can be “borrowed” from offshore. To accurately assess the contribution of domestic investment in R&D to productivity growth, we need to isolate that part which is attributable to the borrowed knowledge, often referred to as the foreign spill-in.

The paper is organised as follows: Section 2 discusses the importance of the agricultural sector to the economy; Section 3 discusses the methodology and findings of the empirical literature; Section 4 reviews the theory behind and evidence on knowledge spillovers; Section 5 links the stock of knowledge to productivity and sets out our empirical specification; and Section 6 discusses our results.