4  Spillovers

Griliches (1979) has identified two types of spillover effects. The first type refers to the effect of research performed in one industry or country improving technology in a second industry or country, and may occur without any economic transaction. The second type of spillover refers to inputs purchased by one industry or country from another industry or country, which embody quality improvements that are not fully appropriated by the selling industry. This is a problem of measuring capital equipment, materials and their prices correctly rather than a case of pure knowledge spillovers. While in principle these two notions are quite distinct, in practice it is very hard to distinguish between them empirically. We do not attempt to adjust our capital and intermediate inputs data for quality in this paper.

Spillovers occur at both the national and international level. National spillovers are composed of two distinct elements: the extent to which firms in the same industry as the firm undertaking the R&D benefit from the R&D (intra-industry spillovers), and from firms in other industries (inter-industry spillovers). Evidence from the empirical literature suggests that spillovers between firms in the same industry are small (Productivity Commission 1995). Direct estimates of their magnitude by Bernstein (1988), Bernstein and Nadiri (1989) and Suzuki (1993) yield estimates in the range of 2 to 15%. Estimates of inter-industry spillovers indicate that they appear to be more significant than intra-industry spillovers, with most estimates lying in the range of zero to 150% (Productivity Commission 1995).

The evidence on international spillovers is more mixed. Mancusi (2004) states that results from different empirical studies seem to suggest that knowledge spillovers are mainly intra-national rather than international in scope.[10] However, the paper finds that international spillovers are always effective in increasing innovation (proxied by patents). Estimates by Coe and Helpman (1995) also suggest that foreign R&D has beneficial effects on domestic productivity, and that these are stronger the more open an economy is to foreign trade. Their estimates indicate that foreign R&D has a larger impact in all of the smaller countries in their sample except Australia, Finland, Spain and New Zealand.[11]

After finding that the correlation between R&D and productivity is weaker in small countries than in the G7 countries, Englander and Gurney (1994) argue that this is consistent with the view that large countries benefit from their own R&D, while small countries benefit largely from R&D done elsewhere.[12]

On the other hand, Engelbrecht (1997) finds that foreign R&D spillovers have a mainly negative impact on TFP in countries with relatively small domestic R&D capital stocks as a proportion of GDP, including New Zealand and Australia.

What are the international channels through which knowledge spills over between countries? Coe and Helpman (1995) argue that the benefits from foreign R&D can be both direct and indirect. The direct benefits consist of learning about new technologies and materials, production processes, or organisational methods. The indirect benefits arise from imports of goods and services that have been developed by trade partners. However, Wieser (2001) states that insufficient data exists to adequately differentiate between disembodied and embodied R&D.

To deal with this, researchers typically assume that all knowledge transferred between countries is embodied R&D or that the usage of knowledge between countries mirrors the usage of commodities between countries (Wieser 2001). For example, Coe and Helpman (1995) define the foreign R&D stock which enters a countries production function as the import-share-weighted average of the domestic R&D stocks of trade partners. This is implicitly assuming that the main channel through which R&D spills over from country to country is through international trade. However, Keller (1998) provides evidence that casts doubt on the effectiveness of trade as a mechanism for knowledge transfer, finding higher coefficients on foreign R&D when using random weights instead of those used by Coe and Helpman. Eaton and Kortum (1999) also show that, except for small countries very near the source of information, trade is not the major conduit for the spread of new technology. By deriving a formal model of technology diffusion, they identify knowledge flows through cross country patenting rather than through the export and import of goods embodying them. Guellec and van Pottelsberghe (2001) argue that by computing technological proximity using patents granted by the United States Patent and Trademark Office and using these weights to form a foreign R&D stock, they are being consistent with the argument by Eaton and Kortum (1999), i.e. they are assuming that technology circulates directly, with no need for exchange of goods as a vector. Patent citations have also become a widely used tool for the purpose of tracing knowledge flows (Mancusi 2004).

Alston (2002) has reviewed the evidence on spillovers within the literature devoted to the agricultural sector. While there are few studies within the agricultural literature which actually take spillovers into account, those that do provide evidence which suggests that interstate and international spillovers from public agricultural R&D account for a significant share of agricultural productivity growth.[13]

Johnson et al (2005) attempt to measure spillovers by including an Australian R&D stock variable in their estimating equations, to proxy the foreign spillover pool. Their results indicate that the Australian R&D stock does not seem to have a direct impact on productivity in New Zealand.[14] However, they concede that this might indicate that the Australian R&D stock is a bad proxy for international R&D, as 35% of the world’s R&D is produced in the US, with Japan the next highest producer (14%) and the rest of the OECD producing 25%.[15] Thus a large portion of international spillovers comes from the US, with a very small proportion produced in Australia (1.4% of the total R&D produced in the OECD). Here we include US patents as a proxy for international R&D spillovers. Using patents ensures that we avoid accounting for outputs of no international consequence. Also, Crawford, Fabling, Grimes and Bonner (2004) find evidence that increased R&D expenditures increases the number of patents. A simple correlation coefficient of 0.91 between US patent numbers and US R&D expenditures from 1953 to 1998 suggests that US patents are a potentially reasonable proxy for R&D and hence the stock of foreign knowledge.

The positive externality generated by international technology flows, will crucially depend on the ability of the destination country to understand and exploit external knowledge. Such ability is a function of past domestic R&D experience, a concept introduced by Cohen and Levinthal (1990) and referred to as “absorptive capacity”. Mancusi (2004) uses self-citations to measure the effect of absorptive capacity, arguing that self citation indicates that a firm who has done some research in the past has then generated a new idea building on the previous research in the same or in a related technology field. She finds that absorptive capacity increases the responsiveness of a country’s innovation to both national and international spillovers. However, its effect differs depending on the position of the country with respect to the world technological frontier: the larger the gap of a country from the technological leaders, the lower is its ability to absorb and exploit external knowledge, but the larger appears its potential to increase this ability.

Griffith et al (2001) also study the relevance of absorptive capacity by analysing the ability of countries to catch up with the more technologically advanced countries. They found that domestic R&D is statistically significant in this catch-up process. Thus R&D stimulates growth directly through innovation and also indirectly through technology transfer. They also identified a role for human capital in stimulating innovation and absorptive capacity. Eaton and Kortum (1999) also show that a country’s level of education plays a significant role in its ability to absorb foreign ideas.

The “absorptive capacity” argument not only means that the country is more able to take advantage of foreign research, it also means that the marginal return to domestic R&D will be higher the more foreign R&D the country has access to. That is, if the stock of available foreign knowledge is increased, increasing domestic research expenditure will be more profitable.[16]