Decentralization crucial

Upon taking office, one of President Park Geun-hye’s major policy themes was innovation. Korea is clearly an innovative economy and society, but sustaining forward momentum is difficult and requires rethinking existing models. What are the challenges Korea faces in staying ahead of the game?

One way to benchmark Korea’s strengths and weaknesses is to consider some comparisons with the U.S. model. Whatever pundits say about the American economy, it has witnessed staggering technological innovation over the past three decades. What were the core components of the American system?

The wave of innovation in the American economy since the 1980s rested in part on technology cluster complexes built around start-up firms and venture capital. This system also relied on innovative partnerships between the public and private sectors. Anchor universities provided underlying R&D for start-ups and the training and networking of human capital.

New firms grew rapidly by supplying key inputs to established suppliers; Intel and Microsoft were suppliers to IBM, Cisco to Lucent. But the disruptive nature of the system could be seen in the fact that these start-ups grew to define the leading edge of innovation for the entire market.

Another feature of this wave of innovation was widespread vertical disintegration. Start-ups specialized ruthlessly, allowing them to capture value by defining standards and reaping returns from product design and brand management. Managing complex international production networks-mostly manufacturing in Asia - also became a core competence.

New systems of finance were crucial to the new innovation systems. Venture capital and the creation of markets such as NASDAQ rapidly generated large financial gains. Beginning in late 1984, Goldman Sachs let the system of IPOs scale-up enormously by placing new issues with large institutional investors rather than individual retail customers.

In what ways did Korea’s innovation model differ? First, the chaebol form remains at the core of Korea’s success, but with a much greater share of total economic activity taking place within groups than was the case in the new American firms. Chaebol developed networks of dedicated suppliers, but this has not been matched by strong innovation in the small and medium enterprise (SME) sector. A weaker SME sector has limited the dynamic clustering model visible in Silicon Valley, Route 128 in Boston or in San Diego’s biotech and wireless corridors.

Another reason why the clustering strategy has not fully taken root in Korea is the immobility of labor. Job security concerns, the prestige of chaebol employment, group loyalty and attitudes toward risk and failure limit the flow of personnel from large firms to start-ups. In fact, the chaebol have the ability to hire top talent away from SMEs, limiting their growth.

Linkages between the private sector - both large and small - universities and government research institutes (GRIs) also have not been fully effective. Universities have not adopted reforms and experiments that reward links with the private sector. Similarly, GRIs have not defined a clear role between basic research and a more commercial approach that would deepen linkages to both larger and smaller firms. The Institute for Basic Science in Daejeon and efforts to establish Regional Technology Transfer Centers and Techno Parks will be tests of the ability to get these relationships right.

On the financial front, Korea initiated experiments in government-led venture financing in the wake of the financial crisis. Yet Korea’s venture capital model still lags. Analyses of the start-up ecosystem in Korea still show a reliance on cues from government, for example, in an overweighting on government research institutes when compared to universities, and a strong reliance on cues from the chaebol in the start-up sector.

Finally, Korea remains vulnerable to a bias in favor of manufacturing. Services account for about half of Korean gross domestic product and 60 percent of employment, but make little contribution to overall productivity growth except for some Internet services. Some of the most exceptional advances in the American economy have come in the service sector, particularly in web-based giants such as eBay, Amazon and Netflix. A major challenge for the Korean government and firms is how to incentivize a more dynamic service economy, including through increased foreign investment.

Korea has frequently adopted the best practices from abroad. But each new government brings a new set of ideas, including a restructuring of past innovation efforts and the creation of altogether new bodies. Although policy reforms are important, a wider challenge is decentralizing power in the Korean political economy. A crucial feature of the American innovation system is its surprisingly decentralized nature. Where clusters sprang up, they frequently were the product of local actors and governments. Decentralizing innovation policy - and decentralizing both government and the private sector more generally - may be the most important challenges facing innovation strategy in Korea.

*Prof. Peter Cowhey is dean of the Graduate School at the University of California, San Diego, and Stephan Haggard is the Krause Distinguished Professor at the same university.

by Stephan Haggard,Peter Cowhey