2 The higher value-added economy
What is a higher value-added economy?
20. The need to create a higher value-added economy
is widely taken as a given in public policy debate—but what
exactly does this apparent platitude mean? Just as policy interventions
can only be considered appropriately with an understanding of
the real context, so it is necessary to understand exactly what
the desired outcome, in this case a higher value-added economy,
might be. As NESTA said, "A high value-added economy focuses
on those activities that generate a large margin between the final
price of a good or service and the cost of the inputs used to
produce it, and thus create higher profits for businesses and
higher wages for workers."[16]
21. There are some sectors which are clearly
higher value-added, such as pharmaceutical development and advanced
engineering. However, a higher value-added economy may encompass
a far wider range of activity. The Committee received a large
amount of evidence exploring the concept. Here we reproduce some
of the most eloquent submissions.
22. The CBI gave the following explanation:
The term "value added" refers to the differential
that can be achieved between the cost of a service/product/process
etc. and the price that can be charged for it. In turn, 'higher
value-added' concerns maximising that differential, be it through
reducing input costs (e.g. reducing material, labour or process
costs etc) or increasing the price that can be realised (e.g.
through brand association, improved quality, innovative features,
faster delivery, higher specification etc.), or some combination
of the two … The global accessibility of inexpensive labour
means that UK-based businesses cannot compete in markets for internationally
traded goods and services on the basis of low labour costs alone.
Thus our economy naturally tends to focus on higher value and
higher value-added activity where investment in skills, knowledge,
technology and innovation more broadly are important factors.[17]
23. The Engineers Employers Federation said that:
investing in technology or in research and development
(R&D) tends to be associated with rising levels of value added
but focusing exclusively on this would ignore the range of routes
that companies follow to achieve business success. These include
innovation in products, processes or services that might not be
particularly high-tech but that generate an increase in productivity,
helping to establish a niche market or allowing a company to charge
a premium over its competitors. For manufacturers, operating in
intensively competitive markets, becoming higher value-added essentially
involves any activity which allows them to move away from competing
mainly on price.[18]
24. Advantage West Midlands (the Regional Development
Agency (RDA) for the West Midlands) noted the importance of innovation,
saying: "'value added' is taken to mean the increase in the
value of goods or services that arise as a result of the production
process before they are taken to market. Innovation is therefore
a critical factor in raising product value (and therefore, ultimately,
price), thus accruing greater wealth and prosperity",[19]
whereas the TUC noted that "Skills and design will be two
important concepts in any discussion of high value goods and services.
The market, through the basic rules of supply and demand, plays
a role in setting the price, of course, but value added refers
more closely to the quality of the product."[20]
25. The higher value-added economy depends on
a range of factors, many of which interact. It is not simply about
R&D, or high technology manufactures; it goes far wider and
depends on many different factors. We look at some of them here.
INNOVATION AND HIGHER VALUE-ADDED
26. Innovation is a key source of competitive
advantage in a higher value-added economy. Traditionally, innovation
has been associated with the high technology and manufacturing
sectors, with measurements of innovation ranging from the number
of patents registered to productivity rates. It is, of course,
far wider than this. Innovation Nation states: "Innovation
... can be defined as the successful exploitation of new ideas,
which can mean new to a company, organisation industry or sector.
It applies to products, services, business processes and models,
marketing and enabling technologies".[21]
27. Nor is innovation simply a matter of producing
a new idea and bringing it to market. As we discussed with Professor
Eric von Hippel of MIT, innovation can come from users. Companies
may pick up ideas from their customers, and make them into new
products or services. To give one prominent example, Apple has
encouraged others to develop applications for the iPhone, and
secured market advantage from so doing.
MANUFACTURING
28. A higher value-added economy needs a strong
manufacturing sector. As Sir John Rose, Chief Executive of Rolls-Royce
Group said in the Gabor Lecture at Imperial College, "high
value-added manufacturing drives demand for supporting industries
and services"; it drives demand for skills, and it provides
employment. Industry is also essential for developing the technologies
needed to tackle problems like the need to reduce greenhouse gases,
or aircraft noise. Wider ties may be built with developing markets
by providing the goods needed to develop their infrastructure.
As Sir John said "there are high barriers to entry because
of the financial cost of taking part, the level of technology
required and the customer knowledge that helps prioritise the
application of innovations".[22]
The country already has extremely strong pharmaceuticals and biotechnology,
and aerospace and defence sectors, as can be seen from the discussion
of R&D intensity in paragraphs 48 to 52 below. Our recent
inquiry into the Automotive Assistance Programme highlighted the
United Kingdom's strength in the premium motor industry.[23]
Any strategy
for ensuring that the United Kingdom has a higher value-added
economy must not look simply at new opportunities flowing from
new technologies or new challenges, such as the move to a low-carbon
economy, but must also identify, safeguard and build on existing
manufacturing strengths.
SERVICES
29. Although manufacturing is important, the
higher value-added economy is not just about high-tech manufacturing.
A December 2008 speech by Lord Mandelson gives some idea of the
range of activities such an economy might encompass:
our specialisations must be built on knowledge and
value-added. They will be in business and financial services,
where smart regulation, combined with the depth of commercial
and legal experience in the City, for example, have the potential
to make Britain a clear market leader—even if it's not fashionable
to say it right now. But they will also be in the knowledge and
creative industries and the technological and manufacturing process
revolutions that will define the current century, for example
in the biosciences. The global shift to cleaner and more efficient
energy usage will also throw wide open the market for new forms
of energy generation and a host of other low carbon or post-carbon
goods and services.[24]
30. The knowledge industry is not just about
services, and services themselves are not just about finance,
or retail. As Will Hutton told us, financial services:
are simply part of a more general phenomenon which
is the rise of knowledge services. The truth be told, in terms
of employment generation or improving their share of Britain's
knowledge service exports, the story is not that great. The real
story in the last 10 years has been our great teaching hospitals,
our great drugs companies, our great manufacturers like Rolls-Royce
and what is happening in culture and the creative industries and
what has been happening in ICT and in things like auctioneering.
I suppose the Big Four accountancy firms, although they are not
conventional financial services …. They have been really
just going like a steam train, really benefiting from globalisation.
The much vaunted City has been doing satisfactorily but it has
not been growing as rapidly as some of these.[25]
31. Indeed, in some cases, the distinction between
goods and services is unclear. The Sainsbury Review gives this
example:
Software for an aeroplane produced by an aeroplane
manufacturer is classified as manufacturing, but if it is outsourced
to a computer services company it is classified as a service.
Jet engine manufacturers such as Rolls-Royce no longer sell engines
and spare parts, but propulsion services, because the value of
services on a product through its lifespan can exceed original
sales by as much as five times.[26]
Sir John Rose pointed out that "services"
could entail a great deal of intellectual property:
We are providing engineered solutions, so "services"
is a useful descriptor of that part of our business in the sense
that we are providing services that are ancillary to and post
the original equipment sale. The services are fundamentally enabled
by the fact that we do the research and technology in the first
place, that we develop the product, that we certify it, that we
understand its operation in service, that we have the skills and
capability to monitor it, that we can view the use of our product
across geographies and applications, and that we can therefore
act with the customer in a way that improves their business and
improves the operation of our product in service, which is very
meaningful to them, because for most of our customers our product
has a significant impact on the success or otherwise of their
business. It is not that we are going around and saying we happen
to understand the civil market or the defence market or the energy
market and we can do some service things because of that; it is
fundamentally to do with the fact that we own the intellectual
property and the relationship with the customer.[27]
32. Although we recognise and
emphasise the importance of manufacturing, it is only part of
the economy. In the manufacturing strategy
published
in September 2008, the Government stated that "our future
lies in a mixed and balanced economy with manufacturing and services
reinforcing each other".[28]
We
agree. We should celebrate the fact that the United Kingdom is
the second largest exporter of services in the world.
Creative business:
branding and design
33. Both services and manufacturing can benefit
from harnessing creativity to add value. The Design Council told
us that "the UK design industry is the biggest in Europe
with a total turnover of £11.6 billion and has an international
reputation for quality and value", although it warned that
other countries were developing their capabilities. Its research
"shows that companies that invest in design outperform in
practically every measure of business performance including market
share, growth, productivity, share price and competitiveness"
and that "adding value through design brings market confidence
and competitive advantage and reduces the need to compete on price."[29]
34. Value can also be added by exploiting intellectual
property, not just in obvious ways but through measures like branding.
A successful brand is not a static entity; it can be a source
of value, and provide a framework for innovation. The British
Brands Group (BBG) told us that the creation and management of
brands generates £15.85 billion for the UK economy in the
United Kingdom.[30] The
Committee notes that, apart from a study by Westminster Business
School that identified the potential scale of branding's contribution
to the UK, little research has been done into the effect of branding
on innovation, for example. Branding
is an area where the UK creative industries are strong but which
is talked about far too little in public debate. Government policy
must sustain the creative industries that are responsible for
the successful development of brands in the United Kingdom, and
must protect effectively the intellectual property of the brands
themselves.
COLLABORATION
35. Successful innovation often depends on networks.
In some cases, these are driven by academia, or involve academia
and business. But there is also scope for industry collaboration,
both in working on ideas which may come to market soon, and in
more speculative research. For example, we visited the perhaps
misleadingly named and remarkable Media Lab at MIT. Here a range
of companies collectively sponsor research, gaining access to
creativity which can often transform 'far out' research into useful
products. The range of research extends from the immediately obviously
useful to the truly beautiful. On our visit we talked to the people
behind many intriguing innovations from those using high-technology
sensors and materials to develop far better prosthetic limbs,
to those developing technology to allow bottles to make sounds.
We saw 'bottled music', but it would also be possible to arrange
for jars to announce their contents when opened. Intellectual
property rights need not be a barrier to such collaboration. The
Media Lab has developed a framework which effectively allows participating
companies access to the technology developed there while protecting
any further developments they may make.
The higher value-added ecosystem
36. If the higher value-added economy is so multi-faceted,
what does it need to thrive? Our visit to areas in the US where
higher value-added businesses were strong lead us to the following
answers:
Skills: the successful
centres we saw built on the intellectual capital around them.
This was not just about the successful exploitation of research;
the skills which were cultivated were far wider.
Ideas: the areas we visited
had centres of research excellence. It was accepted that many
people would be focused on research, not on business, and we observed
a delight in ideas for their own sake, as well as for their commercial
potential. But there were also many organisations dedicated to
ensuring ideas could be successfully commercialised. Sometimes
these were at the university level, sometimes, as in the Massachusetts
Institute for Technology Transfer, the state had invested in them.
Networks: ultimately,
the success of the areas we visited appeared to owe a great deal
to the fact that different parts of the system were connected
to one another. Universities and technology transfer organisations
collaborated; venture capitalists had links to universities and
to the local government. Networking events were commonplace.
Finance: there was ready
access to risk capital, and also encouragement and help for would
be entrepreneurs.
Leadership: this could
come from business, from academia, from state level government
or from the federal government. Often, a variety of organisations
worked together, or complemented one another.
Culture: it was taken
as read that good ideas should be commercialised (although not
necessarily by their originator), and that enterprise was to be
encouraged. It was also accepted that not every initiative or
business would succeed, and that failure was not necessarily blameworthy.
The United Kingdom already has the resources for
ideas, skills and leadership in place. Increasing attention is
being paid to developing networks. However, as we explore in this
Report, more could be done to foster higher value-added activities.
In particular, as we shall see, the United Kingdom's risk-averse
culture needs to change,
37. The United Kingdom cannot
build a higher value-added economy on a single sector, or type
of intervention. Many different factors come into play. For example,
a wide range of skills is needed if we are both to sustain manufacturing
and maintain our strength in services and the creative industries.
Government undoubtedly has a role to play in creating the right
environment for innovation, and responsibility for this spreads
beyond the remit of the Department for Business, Innovation and
Skills. However, central government cannot foster innovation alone.
Local policy makers, academia and, above all, industry itself—of
all sizes—need to be involved.
Government policies
38. The Government is engaged with innovation
policy. Over the last year it has published at least five strategy
and policy papers on the matter:
- Creative Britain: New Talents
for the New Economy,
Department for Culture Media and Sport, Department for Business,
Enterprise and Regulatory Reform and Department for Innovation,
Universities & Skills, 22 February 2008.
- Innovation Nation,
Department for Innovation, Universities & Skills, Her Majesty's
Treasury and Department for Business, Enterprise and Regulatory
Reform, March 2008.
- Enterprise: Unlocking the UK's Talent,
Department for Business, Enterprise and Regulatory Reform and
Her Majesty's Treasury, March 2008.
- Manufacturing: New Challenges, New Opportunities,
Department for Business, Enterprise and Regulatory Reform and
Department for Innovation, Universities & Skills, September
2008.
- Building Britain's Future: New Industry, New
Jobs, HM Government, April 2009.
These papers are summarised in Annex A of this
report. On one hand, we welcome the Government's commitment to
identifying British strengths, and shaping policy to promote enterprise
and innovation. However, there is inevitable overlap between the
papers and it will take time for policy aspirations to become
translated into action. Over
the last year, the Government has produced a succession of strategy
and policy papers related to innovation and industry. Their proposals
cannot be implemented by the Government alone. All those involved
now need to ensure that the emphasis is on the actual delivery
of policies designed to support innovation, rather than producing
further policy documents.
LOCAL AND REGIONAL LEADERSHIP
39. Policy delivery is not just a matter for
the central government. Many local and regional bodies have an
important role to play. Mr Halkett, the Chief Executive of NESTA,
told us:
We produced a series of reports at the end of last
year, one on innovation in the city, one on regional innovation
coalitions and one on what we called rural innovation. They all
demonstrated that, whilst you should have a national standard
of policy, it needed to be able to be tailored for local and regional
industrial and demographic structures and priorities.[31]
Local leadership is essential to ensure that innovation
policy meets regional needs, and leadership roles can be taken
by many sorts of organisations. Our evidence paid tribute to the
way in which in some areas, local government leadership had helped
build city economies.[32]
We were also very impressed by the work done by Scottish Enterprise,
and our recent report on Regional Development Agencies noted the
positive assessment of their effectiveness.[33]
Often work is done in collaboration with the private sector, such
as in Longbridge Innovation Centre, where Advantage West Midlands
is working with a property developer to transform the site.
40. Although we emphasise the importance of local
or regional bodies in shaping innovation policy in their area,
there has to be care that regions do not duplicate one another's
work, or try to compete in sectors where other parts of the country
have a competitive advantage. Mr Halkett warned against regional
'boosterism' and noted that although regional clusters of expertise
and industry could stimulate growth, creating them would be extremely
difficult.[34] Successful
local leadership, such as that we saw in the West Midlands or
in Scotland, identifies local strengths and builds on them. It
can help transform local economies. There is a very delicate role
for central government in this; it needs to maintain awareness
of what regions are doing to foster innovation and a higher value-added
economy, and to exert its influence when it appears that there
is excessive duplication of effort. It also needs to identify
and build on best practice. However, it must do so while leaving
regional bodies free to innovate; it must act as a broker and
guide, not as a director.
CENTRAL GOVERNMENT
41. One of the issues in our original call for
evidence was the effectiveness of government arrangements in encouraging
innovation and creativity. The Committee has recently taken evidence
on the likely effectiveness of the recent and unexpected machinery
of government changes that led to the abolition of the Department
of Innovation, Universities and Skills (DIUS) less than two years
after its creation.[35]
The range of policy documents listed above, and the number of
those which were produced by two or more departments suggest that
previous arrangements were unwieldy. The CBI originally welcomed
the creation of DIUS, in part because it had explicit responsibility
for innovation. However, it was concerned that this arrangement
separated innovation from business, and considered that robust
links between DIUS and the Department for Business, Enterprise
and Regulatory Reform (BERR) were of critical importance. Now,
in evidence to the Committee, the CBI has welcomed the merger
of BERR and DIUS.[36]
Had the merger not taken place, it is very likely that this Report
would have called for the return of innovation policy and intellectual
property issues to BERR. However, there will always be boundary
problems. The British Brands Group, for example, was critical
of the fact that government responsibility for brands does not
fall within one department but is now divided between DBIS and
the Department for Culture, Media and Sport (DCMS).[37]
42. If times are becoming tougher, then it becomes
even more important that public policy does all it can to support
British business. Measures to provide short-term support have
already been developed, and we have examined some of them in recent
reports. In the longer term, government needs to ensure that it
has a range of policies in place to encourage innovation. Some
of these policies, such as Research & Development (R&D)
tax credits, will need to be simple, consistent and widely available.
Some will require the Government to support a range of innovative
approaches, to accept that one size will not always fit all, and
that some of the policy interventions sometimes will not succeed.
It will be a challenge to sustain this blend of stability and
flexibility, but as we shall see, government policy is, largely,
heading in the right direction. At
this stage, although we make no comment on the inclusion of higher
and further education within the new Department for Business,
Innovation and Skills, we acknowledge the vital importance of
improved skills to all British industrial sectors. We believe
that the new department is a welcome opportunity to coordinate
policy on innovation, and to ensure that policy is consistent.
16 Q 213 Back
17
Ev 147 and Ev 148 [CBI] Back
18
Ev 174 [EEF] Back
19
Ev 117 [Advantage West Midlands] Back
20
Ev 275 [TUC] Back
21
Innovation Nation, DIUS, March 2008 Back
22
Why Manufacturing Matters, Gabor Lecture, Imperial College,
15 November 2007 Back
23
Business and Enterprise Committee, Ninth Report of Session 2008-09,
The Automotive Industry in the UK, HC 550 Back
24
Speech to the Royal Society for the encouragement of the Arts,
Manufacturers and Commerce by Lord Mandelson in London on 18 December
2008 Back
25
Q 187 Back
26
HM Treasury (2007), The Race to the Top, A Review of Government's
Science and Innovation Policies conducted by Lord Sainsbury
of Turville; HM Treasury (2006), p38 Back
27
Q 84 Back
28
Manufacturing: new challenges, new opportunities, BERR
and DUIS, September 2008 Back
29
Ev 164 and Ev 165 [Design Council] Back
30
Ev 128 [British Brands Group] Back
31
Q 156 Back
32
Q 189 Back
33
Business and Enterprise Committee, Fourth Report of Session 2008-09,
Regional development agencies and the Local Democracy, Economic
Development and Construction Bill, HC 89-I, para 40 Back
34
Q 157 Back
35
Uncorrected transcript of oral evidence taken before the Business
and Enterprise Committee on 30 June 2009, HC (2008-09) 754-i,
Q 54 [Mr Lambert] Back
36
Ev 158 [CBI], HC 754-i, Q 54 [Mr Lambert] Back
37
Though it was previously between BERR, DUIS and DCMS as laid out
in the memorandum. Ev 128 [British Brands Group] Back
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