Graph of the week: Innovation Index

This month the collaboration between INSEAD, a well respected business school, and the World Intellectual Property Organisation (WIPO) has released a fifth edition (first co-published, usually it was published solely by the INSEAD) of the GlobalInnovation Index (GII), a measure of innovation and technological progress in an economy. Download the full report here.

"The GII recognizes the key role of innovation as a driver of economic growth and prosperity and acknowledges the need for a broad horizontal vision of innovation that is applicable to both developed and emerging economies, with the inclusion of indicators that go beyond the traditional measures of innovation (such as the level of research and development in a given country). ... [It]relies on two sub-indices, the Innovation Input Sub-Index and the Innovation Output Sub-Index, each built around pillars. Five input pillars capture elements of the national economy that enable innovative activities: (1) Institutions, (2) Human capital and research, (3) Infrastructure, (4) Market sophistication, and (5) Business sophistication. Two output pillars capture actual evidence of innovation outputs: (6) Knowledge and technology outputs and (7) Creative outputs."

What they get from that is a composite index which translates into a graph comparing the GII with the GDP p/c. (click to enlarge) 

The graph can offer a few interesting insights. It’s always a question of methodology and analysis of the data, but let’s assume there are no problems there for now. Looking at the graph we can see why certain countries are falling behind in their competitiveness (observe the positions of Italy, Greece, Spain for example). The fall in competitiveness and the creation and preservation of distorted incentives within a society can all somewhat be explained by the index. An economy which lacks incentive to work due to distorted labour market signals and a distorted business environment, will also lack an incentive to innovate. If the people can be well off without working and without creating value, they will never have the basic incentive to create it. 

The innovation index is also highly correlated with the institutional strength index the same organizations are publishing. Even though such a conclusion requires more analysis of the possible causal relations, it can be inferred (even from the graph alone) that countries with a supportive institutional environment (those with market-augmenting governments, to paraphrase Mancur Olson) tend to be much better in creating and sustaining innovation. The position of China then might be ambiguous to some, but China's innovation is still state-led and all too often based on adoption of technologies. Adoption is far from innovation which makes us think about the methodology used in constructing the index. 

The Economist notes a few design flaws:

"The crux of the issue is two fold. First, the index is misnamed. It is meant to measure the "enabling environment" for innovation, rather than the product itself. To do this, the indicators are adjusted for population or GDP. Scaling makes sense. But it also gives rise to oddities. For instance, it means that Lesotho's spending on public education ranks twice as high as America's even though it is far less per student.

This raises the second crucial issue. The unit of measure, the nation-state, is an artifact of an old way of thinking about places and is long past its expiry date. A regional or even municipal basis seems more appropriate. The nation was a natural way of organizing in the past. And it is used today in part because of the way in which data is collected by national statistical offices, and compiled by intergovernmental organizations. But to understand the world and compare locations, it is meaningless. Why should one treat America's decaying rust-belt and soaring Silicon Valley in the same regard? Doesn't aggregating the two commit gross injustice to understanding?"

A few good points raised there. Innovation is hard to look at from a national border perspective, but I understand the need of doing so. Also, the index does provide a better measure of an institutional environment that enables innovation, rather than innovation itself. So in that perspective it is no different than, say, the Doing Business Report issued by the World Bank. Of course, the people in INSEAD wanted to be 'innovative' and talk of something new, or offer a different view. And they've done it. That makes me conclude that the index itself can offer us good insights on the openness of a certain country to innovation and hence faster development.