Principles of Innovation Economics in Market Economy

As opposed to labor and natural resources, innovative ideas dominate wealth creation. Starting from the idea of the automobile to the idea of storing data on semiconductors, there are numerous examples of creating economic outputs from ideas. Increasingly, innovation is overcoming the limitation of natural resources and labor in creating wealth. For example, the idea of renewable energy and powering automobiles with electricity is overcoming the limited supply of fossil fuel to power the world. On the other hand, the increasing role of ideas in creating economic output decreases the scope of the economic uplifting of countries, predominantly harnessing labor and natural resources. Furthermore, the progression of the innovation economy is disrupting existing firms and causing job loss. On the other hand, innovation also powers the monopoly and weakens competition. Therefore, we need to focus on understanding the characteristics or principles of innovation economics in the market economy. 

Often innovation is perceived as a sudden spark in creative minds. It’s the magical act of creative genius. On the other hand, innovation has a profound effect on our living standard, economic growth model, the widening gap between firms and countries, future work, and sustainable development. Furthermore, innovation is not a linear process. It’s not predictable either. Hence, we cannot keep relying on the magical outcome. Instead, we should look for reoccurring patterns. Progress in detecting reoccurring patterns within the context of principles of innovation economics will help to interpret the past and present dynamics and comprehend the likely unfolding future. Consequentially, we will maximize wealth creation from innovation and minimize the pain of transformation.  Hence, we should pay attention to the principles of innovation economics in the market economy.           

Innovation Principle 1: Getting jobs done better is the economic incentive—praxis 

Human beings after economic incentives. They would like to get increasingly better products, preferably at less cost, to execute their jobs or serve purposes better at less cost. For meeting this urge, they have always on the lookout to find new ideas and deploy those ideas in product and also process features. Carl Marx observed such human characteristics in ancient philosophical writings. He called it praxis. In the recent past, Prof. Christensen underscored it in his innovation theory as getting jobs done. The purpose of innovation is to create economic incentives by generating ideas and making those ideas available in product and process innovations. On the other hand, producers find a profitable opportunity to deliver them. Therefore, innovation offers economic incentives to both consumers and producers of innovative ideas.

Innovation Principle 2: Ideas and objects in creating economic output

In producing economic outputs, we mix ingredients with ideas. Our major ingredients are natural resources and labor. The economic value depends on the quality and quantity of ingredients and ideas. Paul Romer has called ingredients objects. We deploy ideas in the form of products and also process features. We call them product and process innovations. By increasing the supply of ideas, we extract more economic value from the same amount of ingredients. For example, increasing the supply of ideas helps us store the increasing volume of data and energy in the same amount of natural resources.

On the other hand, ideas are helping us extract a growing amount of energy from the same surface area of the solar cell or blade area of windmills. Moreover, ideas are also helping us to reduce wastage, and lower emissions, subsequently causing less harm to the environment.  Therefore, the study of principles of innovation economics in the market economy deserves attention.   

Principle 3: Freedom of competition to profit from ideas—entrepreneurship 

The core strength of the market economy is entrepreneurship. Freedom to profit from ideas leads to an entrepreneurial journey. Entrepreneurial initiative unfolds in multiple firms. One of the common forms is to improve operational efficiency. The second one is to improve the production process by adding new features or improving existing ones. Pursuing incremental innovation of existing products, either through adding new features or improving existing ones, is the 3rd form. Offering substitution to existing processes and processes around the new technology core is the most powerful option for entrepreneurs. As a result, consumers are getting increasingly better products at less cost. However, in the absence of the flow of knowledge and ideas, entrepreneurship cannot succeed. Moreover, public investment should create this flow for expanding entrepreneurial opportunities. 

4: Waves of creative destruction and disruptive innovation—a messy process of prosperity

Innovations often unfold as waves of creative destruction. It may take decades or even a century for full unfolding. Along the way of offering better alternatives, next-weave innovation keeps destroying the demand for existing products. For example, the rising wave of flash computer storage has been causing destruction to floppy, CD ROM, and hard disk drives and their industries. Similarly, an LED light bulb has been destroying fluorescent and filament light bulbs. Moreover, in some instances, incumbent firms are busy producing products around mature technology core fail switch at the movement. 

Subsequentially, they suffer from destructive effects due to the pursing of the new wave of innovation. For example, many HDD makers suffered destruction from the uprising of flash storage. Similarly, Kodak suffered bankruptcy due to the wave of digital cameras.  Such reality demands us to investigate innovation economics in the market economy.    

5. Innovation expands trade and improves the living standard 

Trade is vital for creating wealth. Unless and until trade takes place, wealth does not create. The expansion of trade is vital for the market economy to grow. Many measures are taken to expand the trade. One of the vital means of expanding the trade is to offer better quality products at a lower cost so that both consumer and producer surpluses increase simultaneously. Competition is exploiting ideas for offering better quality products at a lower cost. As a result, trade is expanding, and both consumers and producers are getting better off. Hence, innovation is vital for creating wealth by expanding trade. Moreover, the living standard of a country also depends on innovation, as it affects production and consumption.    

6. Accumulation of monopolistic market power weakens the market economy

As innovation offers the opportunity to produce more with less, best-performing firms often attain the capability of offering quality products at a lower cost than competitors do. Moreover, through innovation, they also keep increasing the scale advantage. Particularly, software and network effects are expanding this scope of accruing monopolistic market power. For example, the zero cost of copying software offers a very high-scale advantage.

On the other hand, network effects keep increasing the perceived value with the growth of customers. With the increasing role of software and connectivity in both products and services, an expanding number of industries have a growing natural tendency of monopoly. Consequentially, Adam Smith’s invisible hands are getting weaker in govern competition. Furthermore, weakening competition also runs the risk of slowing down innovation-led economic growth. As opposed to regulation, a smarter approach to increase the supply of ideas for fueling the next wave of innovation for causing disruption to incumbent monopolies.        

7. Innovation, Automation, Job loss, and job creation 

Often innovations exploit the opportunity of lowering labor requirements in production. Process ideas for labor-saving are called automation. Automation also shows up in the form of robotics. They also offer the scope of increasing precision and lowering wastage. As a result, quality increases and costs decrease due to the increasing role of automation and robotics in production. Moreover, products are also redesigned to keep lowering the labor requirement. Hence, there is a natural correlation between innovation, labor-saving, and job loss. On the other hand, innovation also increases labor demand and subsequently creates jobs. For example, the addition of features to existing products or innovation of new products invariably increases labor demand. However, process innovation and enhancement of existing features invariably lower labor requirements in production. Such a reality is placing labor-supplying developing countries increasingly in a disadvantageous position.   

8. Address market failure for Creating the market of innovation

Undeviatingly, innovation potentials are hidden. Despite having the potential capacity of innovation and likely demand, market failure takes place. There is a need for external help for generating and demonstrating innovations as a useful means to offer higher quality at a lower cost. Even after the demonstration, often, demand suffers from taking off. Hence, there is a need for public investment, policies, and regulations to increase the supply of innovative ideas and stimulate the demand so that trade starts taking place. Moreover, even great innovations emerge in primitive form. In the beginning, there is a need for policy support in creating demand for primitive products. For example, the US military has been a great help for patronizing R & D and creating demand for early-stage innovation.  Hence, addressing market failure should be part of the principles of innovation economics.  

9. Disruptive innovation, venture capital fund, start-up, and annihilation of wealth 

In the market economy, freedom of competition to profit from ideas often leads to wealth accumulation and monopolization of the market. If public-funded R&D creates enough flow of knowledge and ideas, the entrepreneurial initiative in the form of start-ups emerges. In addition to offering a better substitute, they serve two important purposes. Often, some ideas or start-ups grow as creative forces of destruction and incumbent firms fail to switch at the right movement. As a result, the uprising of start-ups for offering better alternatives to customers leads to disruption to existing firms. As a result, wealth annihilation takes place. Moreover, often wealthy induvial finance venture capital funds to offer risk capital to start-ups. The high mortality rate of start-ups also contributes to wealth annihilation. Although it causes suffering to wealthy people, it has been an indispensable requirement for the market economy.    

Principle 10: Innovation allows money printing without causing inflation

People do not like to pay taxes. On the other hand, the Government needs money. If the Government prints money at a far faster rate than economic growth, inflation takes place. But through the high growth of innovation, Government gets the chance of printing money without causing inflation. Therefore, fostering innovation may lead to creating freedom for the Government to print money and allocate resources where the market fails to operate.  

Economics is a social science that studies the production, distribution, and consumption of economic outputs. It happens to be that innovation affects all these three acts of economic activities. Therefore, we should carefully study the principles of innovation economics in the market economy.