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Innovation, Security & Growth Perspectives from the U.S. Innovation SystemMyths, Realities & Opportunities : 

Innovation, Security & Growth Perspectives from the U.S. Innovation System Myths, Realities & Opportunities  Six Countries Programme Workshop Defense & Security R&D Brussels, Belgium November 19, 2004 Charles W. Wessner, Ph.D. Director, Technology and Innovation National Research Council

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The Role of the National Research Council The NRC Mission is the Advise the Government on Science, Engineering, and Medicine Studies for federal agencies, Congress, and some self-initiated; 270 Reports Issued Each Year Nearly 1,300 staff and 10,000 volunteers annually involved in NRC/IOM studies Budget of some $160 million: 85% from government agencies and 15% private Great Prestige. High Quality Analysis with Direct Impact on U.S. Policymaking

Presentation: 

Presentation Question: Is military R&D a source of Commercial Advantage in the U.S. Innovation System? Myths and Realities about the U.S. Innovation System The Limits of Spinoff The Need for a Broader Technology and Security Policy A Better Model: The Potential for Innovation Awards in Europe

Related Questions for Today(From our Swedish Friends): 

Related Questions for Today (From our Swedish Friends) How can public investments in security research generate maximum impact on innovation and growth? How to find forms (or mechanisms) to strengthen the innovation systems? How to increase the efficiency in public and private procurement of military products? How to increase innovation by encouraging the participation of small companies?

An Overview of the US R&D Portfolio: 

An Overview of the US R&D Portfolio Dramatic Increases in the US Budget for Defense & Homeland Security R&D

R&D in FY 2005 Budget: 

R&D in FY 2005 Budget Federal R&D expected to rise to $132 billion in FY’05, up from $126 in FY’04 Most funding increases over past few years have gone to Defense Weapons development and Homeland Security R&D (including bio-defense) FY’05 R&D budget continues this trend All other R&D agencies have seen flat or declining R&D budgets (with modest increases in some programs offset by cuts in others)

U.S. Defense R&D is High: 

U.S. Defense R&D is High

…But Focus is on DevelopmentIs U.S. R&D Leadership Therefore a Myth?: 

…But Focus is on Development Is U.S. R&D Leadership Therefore a Myth? The focus on weapons development and testing overstates the R&D element of the budget. It is often not basic or even applied research but rather testing and certification.

Security Related R&D in Other Agencies: 

Security Related R&D in Other Agencies NIH (NIAID) is the lead agency for Bio-Defense Bio-defense research at NIH to be $1.8Billion in FY2005 Most of money to go for NIH Research Grants NSF to fund basic research in areas related to Homeland Security USDA involved in food security & animal health Each Agency wants its Share of “Security” Source: AAAS, 2004

Post 9-11 Increase in Bio-defense R&D NIH is the Lead Agency in Bio-defense ResearchDHS Portfolio Heavily Development and Labs OrientedOpportunities for Security Cooperation with Europe: 

Post 9-11 Increase in Bio-defense R&D NIH is the Lead Agency in Bio-defense Research DHS Portfolio Heavily Development and Labs Oriented Opportunities for Security Cooperation with Europe NIH Budget is $1.8 Billion

Current Trends are Troubling:President’s Proposed Cuts in the R&D Budget for FY2005: 

Current Trends are Troubling: President’s Proposed Cuts in the R&D Budget for FY2005 $660M cut from Basic and Applied Research at DoD $68M cut from DoE Office of Science $63M cut from Energy Conservation R&D at DoE $183M cut from Agriculture Research $24M cut from Transportation Research Advanced Technology Program to be Ended Manufacturing Extension Program: Proposed budget down 63% from 2003 level

What are the Implications for Europe?: 

What are the Implications for Europe? Concern in Europe on impact of increased US Defense and Security R&D budgets on European Defense and Commercial Industries European Science Base in Trans-Atlantic Cooperation & Competition European Policy Aspirations To help address these concerns, EURAB commissioned PREST to undertake an analysis of the impacts of US Defense R&D spending Andrew D. James, US Defence R&D Spending: An Analysis of the Impacts, January 2004

PREST Report Findings: 

PREST Report Findings Defense & Homeland Security missions are driving increases in US Defense R&D budgets Impact of New Expenditures: Spin-off products & technologies from Defense R&D is a Reality Defense R&D Spending Impacts University Science Base and Training of Graduate Scientists & Engineers Defense R&D Spending Creates New Markets and is a Source of Early-Stage Seed Funding Leveraging Civilian Technologies (like IT) for Defense & Security Missions Improves International Competitiveness of US Firms Begins & Ends with the Claim that “synergies between defence and civil research are far ahead of the situation in Europe.”

Is Military R&D a Source of Commercial Advantage in the U.S. Innovation System?: 

Is Military R&D a Source of Commercial Advantage in the U.S. Innovation System? Myths about the U.S. Innovation System

Central Myth about the U.S. Innovation System: 

Central Myth about the U.S. Innovation System It is a Well-oiled, Centrally Controlled, Innovation Machine There is a Broad Consensus on How the System Works and what Opportunities and Problems need to be Addressed “Military R&D is the U.S. Secret Weapon in Competitiveness Wars”

The Myth of the Rational Policy Framework: 

The Myth of the Rational Policy Framework Euro Myth: U.S. Innovation Policy is based on a coherent National Innovation Agenda Reality: There is no U.S. Ministry of Science Multiple sources of policy making Congressional Committees, Federal Agencies—NSF, NIH, others State Governments + Positive: Multiple sources of experimentation means that the system can be more adaptive; responsive to new challenges Negative: Lack of coherence can lead to de facto outcomes that can hurt innovation Example: Post Cold War Falloff in U.S. investments in Science & Engineering Education was not a product of rational U.S. policymaking.

The Myth of the Rational Policy Framework : 

The Myth of the Rational Policy Framework Euro Myth: U.S. Innovation Policy is based on a coherent National Innovation Agenda Reality: Architect of U.S. Innovation Policy

The Myth of Perfect Markets: 

The Myth of Perfect Markets Strong U.S. Myth: “If it is a good idea, the market will fund it.” Reality: Potential Investors have less than perfect knowledge, especially about innovative new ideas “Asymmetric Information” leads to suboptimal investments This means that it is hard for small firms to obtain funding for new ideas

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Federally Funded Research Creates New Ideas Product Development & Innovation Capital to Develop Ideas to Innovation No Capital The Reality: The Valley of Death Early-Stage Funding Gap

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The Cash Flow Valley of Death Technology Creation Technology Development Early Commercialization Cash Flow Federal Agencies, Universities, States, Companies Entrepreneur & Seed/Angel Investors IPO Time Cash Flow Valley of Death Successful Moderately Successful Unsuccessful Unsuccessful Typical Primary Investors Venture Capitalists SBIR & ATP Adapted from: L.M. Murphy & P. L. Edwards, Bridging the Valley of Death—Transitioning from Public to Private Sector Financing, Golden CO: National Renewable Energy Laboratory, May 2003

The Myth of U.S.Venture Capital Markets: 

The Myth of U.S.Venture Capital Markets Myth: “U.S. VC Markets are broad & deep, thus there is no role for government awards” Reality: Venture Capitalists have Limited information on new firms Prone to herding tendencies Focus on later stages of technology development Most VC investors seek early exit Large U.S. Venture Capital Market is Not Focused on Early-Stage Firms

The Military R&D Myth: 

The Military R&D Myth

The Myth of Military Spin-Offs: 

The Myth of Military Spin-Offs Euro Myth: “U.S. Defense Research/Procurement Directly Funds Civilian Technologies” Reality: “Very few technologies proceeded effortlessly from defense conception to commercial application.” Secrecy, military specs, and long lead times slow diffusion of new defense technologies Even efforts to use low-cost civilian technologies for defense use, i.e., “spin-ins,” are often blocked by complicated military procurement system Beyond Spin-off, John Alic, Lewis Branscomb, et al.

Main Role for Military R&D is Defense: 

Main Role for Military R&D is Defense U.S. Military Expenditures from 1947 to the end of the Cold War were designed to protect the U.S., its NATO allies, and other countries around the world from Soviet Expansion Vast sums were deployed to this end Hot wars were fought in Korea, Vietnam Proxy wars in Greece, Afghanistan, many parts of Africa Later interventions in Bosnia, Kosovo, Kuwait were undertaken to secure human rights and international stability

Purpose of U.S. Military Expenditure: 

Purpose of U.S. Military Expenditure U.S. Military Expenditures were first and foremost designed to provide the equipment, maintenance and training to provide credible capacity to deliver armed support to U.S. allies Additional vast sums were (and are) spent on the U.S. nuclear deterrent The Goal of U.S. military expenditure is Security for the U.S. and its allies and the ability to influence events U.S. Power Projection is Unique (though constrained)

Difference in Scale of Military Expenditure: 

Difference in Scale of Military Expenditure The United States, for better or for worse, expends over $400B per year (2004) on the military The UK is next at $40B followed by France at $30B and Germany at $25B (approximate figures) R&D represents a small portion of these amounts – usually 3% in the U.S. Commercial benefits are small, given the level of expenditure

Difference in Scale of Military R&D: 

Difference in Scale of Military R&D Within NATO, only the Defense budgets of the UK, France, Germany, and Italy exceed the R&D budgets of the U.S. military All other NATO nations combined invest some $3B in research and technology investment Why? France, Germany, Italy, Greece, Poland, and Spain spend 60% or more of Defense Budgets on Personnel U.S. Defense Budget Expenditures: 35% on Personnel 30% on Equipment (including R&D)

Positive Impacts of Military Expenditure: 

Positive Impacts of Military Expenditure Air power: The U.S. has the only significant capabilities in Strategic Transport Refueling Theatre Surveillance, and Precision Bomber capabilities among NATO nations Navy Carrier Groups and Submarine Fleets These capabilities are needed to meet out of area commitments Advanced attack aircraft on the way: F/A 22, as are advanced unmanned vehicles But these New dedicated weapons systems have limited foreseeable spin-offs

Positive Impacts of Defense Expenditures on Civilian Economy: 

Positive Impacts of Defense Expenditures on Civilian Economy U.S. military expenditures did result in substantial growth in important sectors of the U.S. economy World War II saw the growth of the U.S. automotive, shipping, aircraft, electronics, aluminum and steel industries Cold War expenditures provided support for computers, semiconductors, jet engines, and rockets Famous case of Boeing 707 derived from bids on Air Force Tanker contracts

But these Broader Impacts are Limited: 

But these Broader Impacts are Limited Few Spin-offs: Military R&D often has no civilian application and is inefficient in terms of the economy as a whole Cases do exist, e.g., cost plus contracts for semiconductors, but the 1950-60s model no longer applies Major Spin-offs, e.g., the Internet and GPS have occurred, but they are widely diffused GPS was for missile targeting (not for tracking kids) U.S. Expenditures, e.g., Stealth technologies, are often high cost efforts with no foreseeable civilian spin-off

The Demise of the Defense-Based R&D Model: 

The Demise of the Defense-Based R&D Model The role of the military shifted in the 1970’s and ’80s as a proportion of civilian high-tech markets Private market for semiconductors grew rapidly, dwarfing U.S. military needs DoD specifications, secrecy, & long procurement cycles vitiated potential to fund cutting-edge commercial technologies Commercial IT far outstrips Military Development Some ground-breaking innovation continues to occur (e.g., the Internet) but applications are pervasive and highly beneficial for new entrants, e.g., Taiwan, India

The Productive role of U.S. Military R&D Expenditure is Overstated: 

The Productive role of U.S. Military R&D Expenditure is Overstated Scale: The military sector is now much smaller than during the Cold War and has fewer linkages to the economy Top 4 Defense firms (Boeing, Lockheed, Northrop, & General Dynamics) have a combined market cap of $102 billion Intel alone has a market cap of $140 billion Caveat: Defense sector is Employment Intensive Defense firms: 477,200 employees Intel: 80,500 employees (All data as of 11 August 04)

Military R&D Allocations Sap Funds from more Productive Uses: 

Military R&D Allocations Sap Funds from more Productive Uses Are increases in US Defense R&D spending the most efficient approach to stimulating commercial activity? Is the US investing in the right kinds of R&D to enhance economic competitiveness? Concentration of R&D Funds on Small numbers of Engineers Working on Military applications is Inefficient Reduces R&D Funding for Other Sectors of the Economy

Belief in Military Based R&D Model Undercut by Practice: 

Belief in Military Based R&D Model Undercut by Practice Much discussion of the Military R&D Model in the 1980s & Resulting U.S. Commercial Advantage The fact that there was virtually no increase in Defense Expenditures among NATO allies Undercuts the Conviction of the Argument The ’80s did see an increase in targeted commercial technologies

U.S. Military R&D: An Appropriate Model?: 

U.S. Military R&D: An Appropriate Model? U.S. Military R&D is Inefficient Overcommitted Later-Stage Development Focus on Testing & Certification Occasionally has Major Impact GPS Internet Often Widely Shared with Others

Myths and Limitations of Spin-off: 

Myths and Limitations of Spin-off

Spin-Off as a Non-Targeted Economic Benefit: 

Spin-Off as a Non-Targeted Economic Benefit Why do U.S. policymakers like spin-off as a concept? Because spin-off appears to cost nothing (assuming the defense expenditure is useful) Spin-offs help justify high defense expenditures Spin-off appears to need no government management or targeting, thus eliminating any interference in the marketplace Is this true in practice?

The Limits of Spin-Off: 

The Limits of Spin-Off The substantial separation of the defense and commercial sectors of U.S. industry limits opportunities and raises costs Adaptation of defense innovation to commercial use is not cost free Focus on defense means technologies with high commercial potential are ignored DARPA focus in on Long-term and Military Applications, not Civilian Uses

The Limits of Spin-Off : 

The Limits of Spin-Off Compared to what? The efficiency of investments resulting in spin-offs to meet commercial technology needs must be compared to alternatives Comparable private sector R&D vs.. government defense R&D? No research at all – yes, spin-off compares favorably to not doing R&D at all

The Limits of Spin-Off: 

The Limits of Spin-Off Compared to alternative institutions R&D at other federal agencies Federally-funded civilian technology initiatives, e.g. , the ATP at NIST Basic Research Support at NSF or NIH These comparisons are hard to make and therefore rarely made Claims for spin-off benefits tend to be comparison free – policies focused on military R&D should be grounded in the present, not just focused on isolated success cases from 40 or 50 years ago

Spin-Off: A Success Story: 

Spin-Off: A Success Story Direct product conversion of a product developed at government expense is rare but does occur A good case is Raytheon’s microwave oven – a classic sequential spin-off within a single firm The conditions for success included: A complete redesign of the magnetron microwave power source for ease of manufacture A five-fold reduction in magnetron cost through learning and scale Development of a patented safety seal to prevent the escape of microwave radiation Corporate acquisition of the distribution channel

Spin-Off: 2 Failures & 1 Success: 

Spin-Off: 2 Failures & 1 Success C-5 Military Transport Aircraft Competition led to Lockheed’s victory with: Contracts for the C-5 military transport Concurrent development of the L-1011 commercial transport Lockheed never made a profit on the L-1011 & later withdrew from commercial air transport Boeing lost the competition for the C-5 with the federal support that entailed

Spin-Off: 2 Failures & 1 Success: 

Spin-Off: 2 Failures & 1 Success Having lost the C-5 competition, Boeing then “bet the company” on the 747 C-5 design work aided development of the 747 Timing helped: The OPEC embargo ran up aviation fuel prices, thereby helping the more fuel efficient 747 gain market share The focus on the commercial market helped Boeing Lockheed and McDonnell-Douglas had major military business – both failed in civilian aircraft production Conclusion: Military support works???

Some Civil-Military Cooperation Leads to Positive “Spin-offs”: 

Some Civil-Military Cooperation Leads to Positive “Spin-offs” Concurrent Development of Civil & Military Applications of a Common Technology Nuclear reactors for submarine propulsion and then electric power production set dominant points of the technology in the United States GE and Pratt/Whitney design and build jet engines for related families of civilian and military aircraft KC135 Stratotanker & Boeing 707 had a common origin but very different design features (375 flight hours per year vs. 3000 for the 707 Development of Engineering Techniques & Tools to Meet Government Needs E.g., Software for computer based design and analysis from NASA sponsored research

Various Forms of Civil-Military Cooperation leading to “Spin-offs”: 

Various Forms of Civil-Military Cooperation leading to “Spin-offs” Dual-Use Technology Developed from Defense Agency Research Support Defense support for University research (e.g., Artificial Intelligence) that may be valuable to civilian industry Reverse Spin-off or ‘Spin-on’ to Military is increasingly common E.g., CMOS semiconductor chip technology was perfected in Japan for use in electronic wristwatches

What Could More European Military R&D Accomplish?: 

What Could More European Military R&D Accomplish? More European Military R&D Could Enhance some European Military Capabilities From a few large firms? Encourage Rationalization Is this good for all countries, e.g., Sweden and France? Stimulate Dual-Use, High Technology But is this likely?

Policy Issue: Allowable vs.. Effective: 

Policy Issue: Allowable vs.. Effective Is the push for European Defense R&D like the Push for R&D Tax Credits? Tax Credits are Expensive and Blunt, but they are Allowed by State Aid Rules, so… Military R&D may be Ineffective for New Technology, but it is Exempt from State Aid Rules, so… Is it a case of Efficiency vs.. the Rules Would it be better to change the Rules?

The U.S. Critique: “Spinoff cannot serve as a realistic basis for technology policy”--Alic, Branscomb, et al (1992): 

The U.S. Critique: “Spinoff cannot serve as a realistic basis for technology policy” --Alic, Branscomb, et al (1992) Defense R&D does not cover gaps in nation’s technology policies Defense contributions are growing smaller & more specialized Many industries benefit little from Defense R&D Spin-offs offer only indirect, inadvertent contributions Focus on spin-offs denies more direct role for government in technology policy

Is a French-style Model Right for Europe?: 

Is a French-style Model Right for Europe? Large State selected & supported projects, insulated from rapidly changing market forces by National Procurement -- National Champion Based Nuclear Energy Aerospace Airbus, Ariane and ESA Program Large Scale Transportation--TGV Trains Water and Electricity Champions A Strategy Not well suited for rapidly changing technologies and markets, e.g., semiconductors & computers Is Spinoff Really the Current U.S. Model? Is it Effective? Compared to What?

A Better Model:: 

A Better Model: Public Private Partnerships offer more Potential for Innovation in Europe

Important to Consider Alternatives to Military R&D: Public-Private Partnerships: 

Important to Consider Alternatives to Military R&D: Public-Private Partnerships Need to focus on other policies that could more effectively support nation’s Commercial Sector, such as Public-Private Partnerships Public-Private Partnerships focus on the hurdles between basic research & product development Need to adopt policies to bridge traditional government roles and traditional private sector roles

A Program “Like an SBIR” May Offer Europe Higher Returns than “More R&D”: 

A Program “Like an SBIR” May Offer Europe Higher Returns than “More R&D” No New Funds Required for SBIR Capitalizes on Existing R&D Investments and Procurement Funds Focus on Valley of Death—Key Point of Vulnerability for Firms and Products National Program to Meet National Needs with National Firms Bottom-up Approach to Security Contributes to Innovative Solutions as well as Growth and Job Creation

The Small Business Innovation Research (SBIR) Program: 

The Small Business Innovation Research (SBIR) Program Created in 1982, Renewed in 1992 & 2001 Participation by all federal agencies with an annual extramural R&D budget of greater than $100 million is mandatory Agencies must set aside 2.5% of their R&D budgets for small business awards To be a $2 billion per year program in 2004 Largest U.S. Partnership Program

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The SBIR Model PHASE I Feasibility Research PHASE III Product Development for Gov’t or Commercial Market Private Sector Investment Tax Revenue Federal Investment PHASE II Research towards Prototype Social and Government Needs $750K $100K R&D Investment

SBIR is a Bridge in the Innovation System: 

SBIR is a Bridge in the Innovation System Provides a Bridge between Small Companies and the Agencies, especially for Procurement Provides a Bridge between Universities and the Marketplace Encourages Local and Regional Growth, increasingly through the University connection Creates jobs and justifies R&D investments to the general public

The Key Question: Would SBIR Work in Europe?: 

The Key Question: Would SBIR Work in Europe? Some Believe it Would: “SBIR is one of the few American Technology Programmes that can be ‘Cut and Pasted’ into European Innovation Systems” Participant at Commission Workshop, Brussels, June 2004 EURAB has Recommended an “SBIR type” Program

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Competitive Awards to Support SME Innovation are Needed SBIR is a Powerful Model U.S. National Academy of Sciences research shows model is flexible and effective Recent National Initiatives & Proposal by the Commission to Permit SBIR-Type Proposals Investing in research: an action plan for Europe, [COM(2003) 226 final/2 – See Section 5.3, p. 19] TEKES has adopted a Phase I approach VINNOVA is initiating an SBIR Program France is exploring an SBIR-type program

An Innovation Systems Perspective on Security: 

An Innovation Systems Perspective on Security National Security is founded on a Robust Innovation System Need to Address Linkages among many Facets of the Innovation System Universities, Businesses, Government A Robust Innovation System will help make the Nation Militarily and Economically Secure Robust Defense Spending alone will not make the Nation more Innovative, thus, ultimately Less Secure Lesson of the Cold War

The Transatlantic Cooperation Option: 

The Transatlantic Cooperation Option The U.S. is devoting Substantial Funds to New Technologies to Meet the Terrorist Security Threat U.S. Capacity constraints are real Research cooperation is historically broad and rich Procurement is increasingly open, and the U.S. market is large

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Conclusion

Spinoff is a Popular Concept but an Inefficient Policy at Best: 

Spinoff is a Popular Concept but an Inefficient Policy at Best Spinoff has never been a consistently effective approach to enriching commercial technology At best it is a weak and expensive substitute for more direct support of the commercial technology base Alic, Branscomb, et al.

Benefits of the SBIR & ATP Model for Defense and Security: 

Benefits of the SBIR & ATP Model for Defense and Security Small Business can bring New Ideas and New Products to address Security Needs SBIR provides a Proven Pathway for Small Businesses to Help the Government Meet Defense and Security Needs SBIR represents a Low-Cost, High-Leverage Opportunity for National Policymakers to Meet Multiple Goals at Constant Cost—No New Funds SBIR & ATP address the key Issues of Firm Formation, Entrepreneurship, Employment, and Growth and is therefore of Central Policy Interest

Designing More Realistic Policies for European Innovation: 

Designing More Realistic Policies for European Innovation To Lead in the Knowledge Economy Understand innovation ecosystem How can innovation in commercial and defense sectors draw on & support each other? Provide Incentives rather than Targets selected by Consensus

A Modified European Innovation Strategy: 

A Modified European Innovation Strategy Create New Public Private Partnerships Involve Large & Small Firms Encourage National Experimentation Involve Universities in Innovation Focus on 3 Interrelated Elements: Platform Technologies: Respect Political Commitment Competitive Awards to Large & Small Firm Joint Ventures [The Advanced Technology Program (or ATP) Model] Competitive Awards to SMEs & Start-ups (SBIR Type Program)

Keeping Europe Secure: 

Keeping Europe Secure Keeping Europe Secure requires, Economic growth to safeguard the Social Compact New Technologies to provide Cheaper and Better Social Services, Health Care, Environmental Protection, and National Defense Partnerships are one way to do this SBIR Breaks Through the Oligopoly Supply Base for government agencies Provides new technologies and new solutions

Common Challenges: 

Common Challenges Learning from Each Other is a Key to Better Innovation Policy Learning from failures (and distortions) can be as valuable as learning best practice Sorting Myths from Reality is a First Step Towards More Growth and More Security

Thank You: 

Thank You Charles W. Wessner, Ph.D. Director, Technology and Innovation The National Academies 500 Fifth Street NW Washington, D.C. 20001 cwessner@nas.edu Tel: 202 334 3801 http://www.nationalacademies.org/step