Australia / From the Founder
We always need innovation, but what, where and how?
by Phil Ruthven
Feb 02 2016

Nations need innovation to grow, improve efficiency, and raise their standard of living and happiness. But innovation is a catch-all term with many facets.

We often think of innovation as being research and development (R&D) based, and in goods industries such as manufacturing, mining and agriculture. This is misleading. Most innovation is not necessarily a formally R&D based activity, and is certainly not centred on goods industries nowadays.

The first chart reminds us of the economy we have going into 2016 – one increasingly dominated by service industries (72%). This is the case across the OECD group of developed countries, which account for the vast majority of the world’s GDP in 2016.

The 19 industries on the chart contain 509 classes of industry with an average revenue this financial year of $10.0 billion. Yet the range is diverse in both type and revenue, including: Pesticide Manufacturing ($1.1 billion);

Commercial Laundries, and Holiday Houses, Flats and Hostels (each $1.2 billion); Internet Publishing and Broadcasting ($1.7 billion); Water Supply ($11.2 billion); Insurance Brokerage ($12.2 billion); Beef Cattle Farming ($12.6 billion); Computer System Design Services ($47.1 billion); General Hospitals ($62.1 billion); Supermarkets and Grocery Stores ($88.1 billion); and Superannuation Funds at a whopping $278.0 billion.

Growth rates over the next five years, averaging around 3.0% per annum, range from 27.5% per annum increases (Self-Managed Superannuation Funds) to 28.0% declines (Motor Vehicle Manufacturing) across the 509 industry classes.

These classes run in strongly defined cycles that average 40-45 years in length, once established as an industry. The second chart below shows the normal evolution and demise of an industry lifecycle, with all its phases and two scary periods, being the ‘horror zone’ (mature, over-supply period) and the ‘terror zone’ (last shootout at the O.K. Corral and onset of a completely new cycle of innovation). The third chart shows an actual lifecycle, in this case for Pharmacies representing just one of the 509 classes of industry in the economy.

A tiny minority have longer and shorter cycles: for example, General Insurance has a 50-year cycle, and Wine and Brandy Manufacturing has a 25-year cycle.

Contrary to common belief, industry cycles aren’t getting shorter or longer – they stay roughly the same length over centuries. Only product cycles within an industry class can sometimes be short or shortening. For example, Moore’s law in the IT chip industry.

When a new cycle starts, there are always five areas of profound change: products, technology and/or systems, customer profiles and markets, geographic locations and ownership (new players). So, innovation is a multi-faceted issue. And knowing when a new cycle is due is important. Timing is everything, as they say. Often innovation is too early or too late in a cycle, and even picking the best new systems and technology – out of many competing options – can be a lottery. Economies have graveyards of ideas that didn’t make the cut.

As said, major innovation takes place at the beginning of a new industry, or during a rebirth into another new cycle. So, given that there are 509 classes of industry with average cycle lengths of 40-45 years, there will be around a dozen new major innovations taking place every year.

But, of course, given that such revolutions emerge over a period of five years or more, it could be said that 50-60 of the nation’s classes of industry – a tenth of all of them – are in their innovative phase at any point in time.

An overwhelming proportion of these are service industries, not goods industries with formalised R&D, laboratories and gadgets. The exhibit below lists the newest and/or fastest growing industries in Australia’s new age – mostly service industries.

Our exports of tourism and other services will easily outstrip mining exports by the end of the next decade; so what innovation is taking place in this potential goldmine? Are we outsourcing non-core business functions and household chores fast enough and being innovative in their supply back to the users?

The nation has revenue well over $1 trillion and employment of over three million these days, in the form of new age household and business services, spread over 80 new classes of industry since the mid-1960s and over a hundred more reborn classes of industry. These required innovation of the sort we see in facilities management services, IT outsourcing, and household services as provided by the likes of Jim’s and VIP. Add new health services, add new financial, professional and technical services, and add new hospitality and entertainment services. These and other new services point to where innovation will occur.

That said, we cannot write off the minority goods sector industries when it comes to innovation. We do have over 1,000 advanced manufacturing businesses competing worldwide, even though they account for less than 1% of our GDP. Mining hasn’t finished its volume growth yet, even if prices may have. And the food-security issue in Asia suggests we have a lot of innovation to do in agriculture to tap into this other goldmine too, as this exciting and prospective century unfolds.

All industries – be they goods- or services-based – benefit from pervasive utilities that aid their progress, growth, innovation and productivity. Transport was such a utility in the Agrarian Age, electricity in the Industrial Age, and ICT in our current age of services-based industries. This is expected to last until the middle of this century.

The recent Stage 2 of the ICT utility began in 2007 – in the form of the digital age of fast broadband, advanced software and analytics – and is breathtaking in its innovating assistance to new and long-standing industries alike. It is termed the digital-disruption era. Interestingly, this year, our ICT utility will have revenue just under $140 billion, but represent a mere 2.7% of the nation’s revenue of over $5 trillion. Such is the leverage and innovative power of this modern utility.

All the more reason to have high-speed broadband (100MB/s to 1000MB/s) to every one of our 2.1 million businesses and 9.6 million homes. We are nowhere near this new world standard – we are not even in the top 25 nations, and won’t be this side of the next decade. But it is one of the preconditions to being serious about innovation and productivity.

Our new PM is right: we do have an innovation challenge. Without innovation, companies, industries and economies stagnate. Productivity stalls, new industries fail to take off, growth rates fall, and standards of living level out and decline. This scenario is occurring across much of the developed world, including the EU, Japan and even the USA. And, to an extent, here in Australia, where we can least afford it as a member of the dynamic Asian region.

The current global economic malaise is rightly attributed to the GFC from late-2008 onwards, occasioned by greed, debt, deficits and financial skullduggery. Of course, these evils were present some years before the inevitable financial collapses took place, and have not yet all gone away. Innovation is not independent of fiscal impropriety or a badly managed economy. As the old saying goes: when you are up to your knees in alligators, it is hard to remember your original plan was to drain the swamp.

So innovation and productivity will be impeded in Australia if distractions aren’t dealt with through IR reform (made more urgent by union corruption), taxation reform, balancing government budgets, a faster and higher speed broadband rollout, and reforming parliament to overcome the reform-stymieing actions of our unrepresentative and undemocratic Senate.

Our economic growth is running at almost a percentage point below our long term average of 3.5% per annum, and our productivity growth is half the long-term average of 1.7% per annum. It isn’t much consolation to know that the EU and Japan are in far worse and perilous circumstances. Nevertheless, our electorate has been misled, frightened and confused by bad and/or incompetent governments for too long. There is a need to give people facts and perspective, but also to let people know the consequences of inaction. The endpoint of course is countries like Greece, Spain, Brazil and dozens of others – crippled by debt, massive unemployment and incompetence, if not endemic corruption.

A reform pathway is the one chosen by the current government – energised by a likely overwhelming endorsement at the coming election this year. We certainly need it to get out of our economic doldrums.

The rewards can be staggering if we get it right.

For a printable PDF of this release, click here.