Innovation Growth Requires Stronger Demand and Higher Profits

Demand increases on sales markets and an improved earnings situation are necessary to expand innovation activities in the German economy. Only if these requirements are met innovation projects can be financed.

These are the findings of the German Innovation Survey 2004 conducted by the Centre for European Economic Research (ZEW), Mannheim, on behalf of the Federal Ministry of Education and Research. For the largest innovation monitor in Germany the ZEW has surveyed 8.000 firms from the manufacturing and the service sector.

Following a two-year decline of German participation in innovation, 2004 will likely see an increase in firms that successfully introduce innovations. Many companies however are still unsure about 2005: In mid-2004, about 30 per cent of manufacturing companies and more than 40 per cent of business-related service providers were yet unable to answer whether they will carry out innovation projects in 2005. These shares were even substantially higher among distributive service providers (trade, transport, leasing) at 50 per cent, as well as among companies in the mining, energy and construction sector at 55 per cent.

When asked about the requirements for business-related innovation activities and an increasing provision of innovation funds, companies largely agree that it is necessary to strengthen demand and improve the earnings situation. This is not surprising in view of the fact that domestic demand has been dwindling since 2001 just like the profits did until 2003 due to the recession. More than 80 per cent of the companies consider a strong increase in demand a necessary prerequisite for more innovations. The importance of this development applies to all sectors and especially to small enterprises. Since small companies tend to operate at a national level, they are particularly affected by the economic downturn in Germany.

It is also self-evident that 73 per cent of the firms consider a better earnings situation to be a requirement for more innovation activities. Innovation projects are risky by nature. Such risky projects can just partly be financed through outside capital, which is why they largely rely on equity. At the same time, about half of the companies agree that the provision of outside capital needs to be improved. As a result of Basel II and the banks' modified lending policies, small companies, in particular, struggle increasingly to obtain loans, especially when it comes to financing innovations.

According to a large share of companies (42 per cent), eliminating particular legal barriers may also favour the expansion of innovation activities. Especially companies in the chemical and pharmaceutical industry, the banking and insurance sector as well as technical service providers believe that regulations restrict their innovation efforts.

Expanding governmental innovation funding is regarded as a necessary improvement to the framework conditions of innovation by 43 per cent of the firms. Companies in research-intensive sectors such as mechanical engineering, vehicle construction, the electrical industry, optical/medical and measurement technology, and the chemical/pharmaceutical industry attach great importance to that factor. One reason might be past years' reduction of funds provided for parts of direct project funding, certain BMWA projects (Federal Ministry of Economics and Labour), and different federal programmes.

Some of the plans for a stronger German economy recently announced by the federal government directly address two of the listed points: Cutting corporate taxes directly helps to improve business profits and the reduction of red tape - as long as it more than just an empty catchphrase - can decrease legal innovation barriers. Whether these measures will produce a long-term domestic recovery remains yet unclear. If the economy does not revive, all other measures put in place to convince German companies of engaging in innovation activities will hardly be of any use.

Contact

Dr. Christian Rammer, Phone: +49(0)621/1235-184, E-mail: rammer@zew.de