Proceedings of 5th Asia-Pacific Business Research Conference
17 - 18 February, 2014, Hotel Istana, Kuala Lumpur, Malaysia, ISBN: 978-1-922069-44-3
Challenges for Emerging Economies with Reference to Research
and Development Expenditure
Keya Sengupta*
The paper deals with the crucial role of R & D for the growth of the emerging nations.
Both with the help of parametric and non-parametric tests the findings reveal that
investment in R & D of the emerging nations is still miserably low, their tremendous
potentiality for growth notwithstanding in comparison to their developed counterparts.
With lagged model the study reveals that low percentage on investment in R & D results
in low index of global competiveness which in turn results in low index of global
innovation. This reduces their competitiveness in the global market which is a direct
deterrent to the internationalisation strategy of the emerging markets.
1. Introduction
Investment in Research and Development (R & D) constitutes the core strategy and strength of a
modern nation in the 21st Century. A nation lagging behind in R & D will find it extremely difficult
to compete with the fast growing competition in the global economy. R & D is the creation of new
knowledge which is subject to increasing returns to scale and long term growth according to the
endogenous growth theory of economics. In fact, R & D results in building up various pillars of
global competition which in turn results in creating wider market, sales, profitability and growth.For
the newly developed emerging nations,impact of investment in R & D on growth and development
takes a much longer time span. Therefore long term growth depends on R & D rather than short
term growth. The received theories and ideas on R & D‟s effect on technological change is the
most crucial factor determining change in an economy over the years. This has been further
strengthened with investment in R & D and innovation related to management and business
processes, marketing, promotion and organizational changes. Creation of such new knowledge
has greater externalities since they are subject to greater diffusion as they cannot be patented
very often. The result is that the impact of such knowledge on economic growth is much faster
than only R & D for technological innovation. In fact, 21st Century is the century for knowledge
and innovation. Countries which forge ahead in these areas will forge ahead in economic growth
as well.
It is in this context that the role of R & D assumes importance in the emerging nations, since they
are the countries who will play the dominant role in the 21st century and will be the leaders in
giving shape to the world economy. The sunrise companies in these countries, through their
knowledge creation can not only make their entry in the global market, but can also expedite the
process of economic growth of their respective nations. China and India, the two most dominant
markets are investing heavily in introducing newer products by developing “frugal products” ,i.e.
cost effective products for lower and middle segment markets. This is done with the intention of
not only for the domestic markets, but more importantly for capturing the global market. In fact,
______________________________________________________________________
*Keya Sengupta is Professor at Indian Institute of Management Mayurbhnaj Campus, Nongthamai,
Shillong-793014,INDIA, E Mail: ks@iimshillong.in
Proceedings of 5th Asia-Pacific Business Research Conference
17 - 18 February, 2014, Hotel Istana, Kuala Lumpur, Malaysia, ISBN: 978-1-922069-44-3
these two nations alone account for 20 p.c. of the global R & D, out of which China alone accounts
for 14 p.c. of the Investment. However, the same is not true for most other emerging nations. It is
therefore being increasingly realized that emerging nations should not be the destinations only for
the companies in the western nations. Companies of the emerging nations will also have to play a
dominant role in the trend of internalization in the 21st century. There is therefore no dearth of
research work and literature relating to R & D for doing business by the Western companies in the
emerging market, though there is hardly any work worth mentioning to examine the role of R & D
for internalization process of the emerging markets.
The most commonly used indicator of expenditure on R & D is the percentage of GDP spent on R
&D. Investment in R & D differs from country to country and from one company to another. Herein
lies the success of R & D and the extent to which R & D can transform to innovation and the
extent to which innovation can result in sharpening the competitiveness of the country‟s global
business. Higher the competitiveness, higher also is the growth of the nation. Therefore there is
an integral relationship between all the indices of Global Innovation Index (GII), Global
Competitive Index(GCI) and the GDP of a nation. It needs to be mentioned here that R & D may
be concentrated in the development of new knowledge, be it scientific, industrial technology or
business or be it the development of a new product and new business processes and strategies
all of which determines the innovation Index of a nation. The higher the innovativeness of a nation
higher is also the competitiveness of the nation.
The scope for establishing this link is much greater in the emerging economies as they are more
advantageously placed in comparison to developed countries since developed countries have
already made huge investments in R & D during the earlier phase of their development and find it
more difficult to uproot the outdated technology or business process and invest in new R &D.
2. Review of Literature:
Though many economists have worked on the link between innovation and economic growth
and developed various models for the same the relationship was however formalized by the work
of Robert Solow in 1917. Solow (1917) maintained that growth is increase in GDP per hour of
labour per unit of time. Since capital accumulation was considered to be the crucial determinant of
growth, Solow maintained that a less than a quarter of the growth was accounted for by capital
accumulation and the remaining was due to “technical change”. It was therefore clear that
innovation occupied the centre stage of economic growth for which investment in R & D is an
important determinant. The idea of human capital and knowledge spillover, due to innovation and
investment in R & D in the eighties, gained dominance with the publication of the work of Lucas
and Romer. Lucas‟ model highlighted the role of education, human capital, .i.e. highly skilled work
force for long term growth. Romer than incorporated and endogenised innovation of knowledge
spillovers in growth models. According to Romer, firms devote a proportion of their profit for R & D
when they realize that returns to investments at the margin will exceed the investment of R & D at
the margin. The investments in R & D which results in innovation can result in two types of
knowledge. One such type of knowledge is appropriable, implying that the firm can utilize the
knowledge itself for generating more revenue, excluding the other firms from using the knowledge.
The creation of the other type of knowledge is not appropriable, meaning that it is difficult to
prevent the other firms from using the knowledge. Knowledge spillover is therefore increasing the
stock of knowledge by the application of human capital through R & D.
Proceedings of 5th Asia-Pacific Business Research Conference
17 - 18 February, 2014, Hotel Istana, Kuala Lumpur, Malaysia, ISBN: 978-1-922069-44-3
Investment in R & D and human capital proceeds in a virtuous circle so that in the ultimate
analysis, it is the growth of public knowledge and growth of the economy that is triggered off
(Hassan, 2007).It is therefore that investment in R & D plays a pivotal role for all economies
striving to create a space for itself in this competitive world. This is truer during the period of
economic uncertainty and recession where creation, dissemination and knowledge application has
become the survival strategy. It is increasingly realised that the corporate sectors are relying on
“Schumpeterian Renaissance”, since innovation is the crucial tool for global business competition,
and economic growth of a nation.
Growth of the companies in particular and the country in general is fostered through a number of
methods. These are learning by doing, human capital and public infrastructure. It is estimated that
innovation could account for as much as the two thirds of productivity of industry in a country.
European Union have targeted 3 p.c. of GDP, both private and public together to be invested in
R & D by 2020.There is no such common policy for the Emerging Economies, though at an
individual level they too should emphasize more on R & D and innovation as a strategy for
economic growth for which they have tremendous opportunities.The survival of the growth
strategy of emerging nations depends on how different they can be from the developed nations as
well as from each other. It is the difference in technology through R & D that explains not only the
standard of life but also the extent of competitive edge of one nation over the other. Greater
competitive ability raises product innovation, marketability and productivity, all of which are
essential pillars of success of a nation, since these factors in turn determine income and ultimately
the growth level of companies and of nations. Competiveness is therefore related to investment in
R & D. This is an extremely challenging task, it requires substantial investment in R &D. This
necessitates revamping of the entire organizational structure, product development and
manufacturing methods ( Govindarajan,2012).
.
3. Hypothesis and Methodology of the Study
The hypotheses of the study therefore are as follows:
1 .Higher the proportion of GDP devoted for the purpose of R & D higher also is the growth rate of
the country concerned.
2. Since innovation is the direct result of R & D ,the higher the proportion of GDP devoted for R &
D, better is also the Global Innovation Score of the country concerned.
For the purpose of this study we have divided the countries of the world into two groups. In the
first group we have included the highly developed nations such as the USA, Japan, Germany,
South Korea, France , UK, Canada, Sweden, Israel, Austria, Switzerland, Finland, Singapore and
Denmark. Among the Emerging nations, we have included the countries like China ,India, Russia,
Brazil, Mexico, Malaysia, Thailand, Indonesia, Vietnam, Philippines, South Africa and Chile.
Secondary data for the study has been taken from the Global Competitiveness Report
2013,Global Innovation index 2013,World Development Indicators 2012 and various other World
Economic Reports published by the World Bank.
A first hand analysis has been made from the raw data to examine and to derive a comparative
analysis of the position of the emerging and the developed nations as far as the overall R & D
scenario is concerned. The study has also made an attempt to examine the various pillars of
global competitive index which are the direct result of investment in R & D. Such an analysis
Proceedings of 5th Asia-Pacific Business Research Conference
17 - 18 February, 2014, Hotel Istana, Kuala Lumpur, Malaysia, ISBN: 978-1-922069-44-3
though is not dependent on any parametric test can nevertheless convey the general trend of the
important indicators.
We have then developed regression model as per the hypothesis developed and tested the same.
After the usual conversion of the raw data for the purpose of bringing about homogeneity, we have
adopted certain regression models to test the hypothesis developed above. The models have
been tested separately for the emerging nations as well for the developed nations and also for the
world economy as a whole.
It needs to be mentioned here that out of the 12 pillars of global competiveness as per the Report,
we have selected only those pillars which are the direct result of investment in R &D. Some of
these are efficiency enhancers, innovation and sophistication factors, goods market efficiency,
labor market efficiency, financial market development and technological readiness. These factors
have been selected because they are considered as the direct determinants of business
competency and economic growth and are the result of innovation. Innovation in turn is the major
driver of competitiveness and thereby the pivotal source for the survival of the industries and
companies of a nation. It also need to be mentioned here that investment in R & D and innovation
can have a positive correlation only after the countries have overcome most of the other hurdles
to achieve competition such as regulations, investor friendly taxation policies ,adequate
infrastructure, and intense corruption evident more in the emerging nations. Investment in R & D
does not impact the competitiveness of the nation immediately and thereby the growth rate of the
nation directly. They influence the various pillars of global competitiveness, which in turn
enhances the pillars of global competition, product efficiency, marketability, sales and revenue. As
a result the impact of investment in R & D is evident over a period of time rather than immediately
in the short run. However, it is an accepted fact that R & D investment has a positive impact on
business performance though it may not be related directly to the firm‟s performance immediately
.Companies can certainly gain the first mover advantage which in turn can result in better
marketability and higher profitability.
4. Main Findings and Analysis of the Study
In the analysis we have first tried to examine the overall status of the Emerging Economies and
the Developed Economies.This has been done with respect to the percentage of GDP devoted for
R &D, Global Competitive Index (GII),Global Innovation Index(GII) as well as some pillars of GII
such as Efficiency Enhancers, Innovation and Sophistication and Technological readiness, which
are all the determinants of the status of global business of the respective nations.This has been
done through tabular analysis presented in Table No.1. We have next developed and tested some
models to examine the extent to which the economic growth of nations, whether emerging or
developed is dependent on the variables and indices mentioned above.
Proceedings of 5th Asia-Pacific Business Research Conference
17 - 18 February, 2014, Hotel Istana, Kuala Lumpur, Malaysia, ISBN: 978-1-922069-44-3
Table No 1: Percentage of Expenditure on R & D, 2012
Emergin
g
Econom
ies
China
India
Russia
p.c. of
GDP on
R&D
GII *
(Score)
GCI **
(Score)
Develop
ed
Nations
p.c. GDP GII
on R & D
GCI
1.97
0.9
1.0
44.66
36.17
37.20
4.83
4.32
4.20
2.7
3.67
2.3
60.31
52.23
55.83
4.57
5.40
5.48
Brazil
0.9
36.33
4.40
3.74
53.31
5.12
Mexico
Malaysia
Thailand
Indonesi
a
Vietnam
Philippin
es
South
Africa
Chile
0.4
0.63
0.25
0.07
36.82
46.92
37.63
31.95
4.36
5.06
4.52
4.40
USA
Japan
German
y
South
Korea
France
UK
Canada
Sweden
1.9
1.7
1.8
3.3
52.83
61.25
57.60
61.36
5.11
5.45
5.27
5.53
0.52
0.29
34.82
31.18
4.11
4.23
Israel
Austria
4.3
2.5
55.98
51.87
5.02
5.22
0.7
37.60
4.37
2.3
66.59
5.72
0.53
40.58
4.65
Switzerla
nd
Finland
Singapor
e
Denmark
3.1
2.2
59.51
59.41
5.75
5.39
2.4
58.34
5.08
Source: Compiled from Various Reports
GII* = Global Innovation Index : GCI** = Global Competitiveness Index
Perusal of the above table reveals that, with the exception of China and Russia the ratio of R & D
investment to GDP is less than 1 p.c. in case of all the Emerging Economies. This is in contrast to
the developed nations for whom the ratio is above 1.0 for all the countries. For the former group
the range of this ratio varies from as low as 0.07 for Indonesia to as high as 1.97 for China,
whereas for the second group the range is as low as 1.7 for UK to as high as 4.3 for Israel. With
the exception of China among the Emerging Nations which has strategized its internalization
policy in a very big way, the highest ratio for R & D is of Russia which is only 1.0 .The figure is
much lower than lowest of 1.7 for UK among the developed nations.
This lower ratio for the Emerging nations is reflected in the lower level of Global Innovation Index
(GII) and the Global Competitive Index(GCI), the two basic indices for a nation to internationalize
business. GII for the emerging nations ranges between the score of as low as 4.11 for Vietnam to
as high as 5.06 for Malaysia ,the only emerging nation with a score of above 5.0.This is in contrast
to the GII for the developed nation for whom all the countries have scores above 5.0.It ranges
from as lowest of 5.11 for France to as high as 5.72 for Switzerland. Similar is the case for the
Global Innovation Index (GII).The score ranges between 31.18 to 46.92 for the emerging nations
Proceedings of 5th Asia-Pacific Business Research Conference
17 - 18 February, 2014, Hotel Istana, Kuala Lumpur, Malaysia, ISBN: 978-1-922069-44-3
in contrast to the range of 51.87 to 66.59 for the developed nations. This once again reveals the
wide gap in scores between the emerging and the developed nations.
Ranking the two groups of nations in terms of their GII and GCI scores, reveals that the ranking of
the two score are identical in 8 out a total of 12 economies for the emerging nations, whereas in
case of the developed nations only 6 nations out of a total of 14 have identical rankings. This
reveals that emerging nations who have just launched on their developmental and internalization
strategy are in a better situation to convert their level of innovation into global competitiveness.
The reason could be that they invest in R & D for innovation in a planned way with the sole
purpose of capturing the global market. In this respect, the developed nations are not able to
convert their innovation for the purpose of internationalization strategy, perhaps because they are
saddled with ideas of innovation not for internationalization but for the simple reason that they had
been carrying it on for many years. It is imperative for emerging economies to priotorise R & D
expenditure as their overseas market and business is expected to expand further in the coming
decades. One of the reasons for the lower ratio of R & D to GDP inspite of their higher growth
rates could be their low concentration on the production of high technology goods and services.
The overall spending on R &D therefore tends to be low as a result of which the ratio too is on the
lower side .It is also a fact that some countries spend much more in basic research the result of
which may not be directly evident on growth rates. Canada followed by USA spends the highest
proportion of R & D on basic research. The impact of such research on growth rates takes a much
longer time and the impact is evident after many years in comparison to business research, the
impact of which on economic growth is much faster. Business research however constitutes the
highest weightage of R & D in almost all countries. particularly since the last two decades. This
only goes to indicate that the ultimate purpose of investment in R & D is to expedite the growth
rate. In China and India business research has occupied a significant component of R & D
expenditure .Developed countries with R & D intensive industries such as pharmaceuticals and
automotive sector necessitates higher investment in R & D.
Analysis of Econometric Models:
In view of R & D expenditure being an important determinant of growth both through overseas
expansion of business as well as the domestic growth, we have next developed models to test
the hypothesis outlined above .We have then tested them separately both for the emerging as well
as the developed nations. The first model developed to test the hypothesis that the percentage of
GDP devoted for R & D expenditure is an important determinant of the growth rate of GDP is a s
follows:
GDP = a + b RDpc + U --------------------------------( 1 )
Where: Rd pc (t-1) = the percentage of GDP of the nation devoted for R & D in the previous year
U = error term.
The model has been tested separately for the emerging nations and the developed nations the
results of which is stated below Since the process of R & D works over a period of time to have its
impact felt on GDP, we have taken lagged data of one year for R & D.
Emerging economies
GDP = -125.17 + .895 RD pc (t-1) + U
R2 = .801; F = 40.277
t = ( -2.360) (6.346)
The above results reveal that the model is accepted for the emerging nations as almost 90
percent of the change in GDP is explained by one percent increase in investment in R & D. The
Proceedings of 5th Asia-Pacific Business Research Conference
17 - 18 February, 2014, Hotel Istana, Kuala Lumpur, Malaysia, ISBN: 978-1-922069-44-3
minus sign before the constant indicates that even without R & D investment there will be some
amount of growth rate, which is only natural. The coefficients are also statistically significant and
the model is theoretically acceptable as indicated by the signs. The R2 is as high as .801 and is
also statistically significant as revealed by the value F. On the whole therefore it can be
concluded that the proportion of GDP devoted for R & D investment plays a significant role for
generating growth for the emerging nations. It therefore implies that emerging nations need to
concentrate more on R & D investment and create a niche for themselves in the global market as
well as in the own domestic market since the huge domestic market provides them a ready
platform for economic growth. It also indicates that these nations are relatively newly developing
nations with greater scope for development in comparison to the developed nations. This could be
the reason behind the greater effectiveness of R & D investment for their economic growth..
The model however is not acceptable for the developed nations, either theoretically or statistically.
The reason could be that there is very little scope for further development of the already
developed nations. Due to the saturation level of their development, higher level of R & D
expenditure in comparison to the emerging nations fails to have much impact on their growth rates
and they might have to find alternative avenues to expedite their strategy for economic growth.
However for the newly emerging nations pushing up R & D expenditure further can also expedite
the growth rate even further as these nations are still insufficiently developed in those areas.
Therefore the first hypothesis is accepted for the emerging nations but is proved incorrect
for the developed nations.
The proportion of expenditure on R & D is an important component of the nation‟s status and
position with respect to its global innovation score. Though basic research and funded research of
universities may not directly affect Global innovation score ,but the component of business
research certainly does. As a result the next model that we developed is as follows:
GIS = a + bRD pc(t-1) +U ………………………(2)
Where GIS = Global Innovation Score
RD pc (t-1) = proportion of GDP devoted for R & D in the previous year.
U = error term
The models have been tested separately firstly for i ) emerging nations ii) developed nations iii)
the world economy as a whole.
Emerging economies:
GIS = 34.113 + .564 RD pc( t-1) + U
R2 = .418 F = 14.65
t= (17.037) (2.157)
The model is acceptable for the emerging nations as over 40 p.c of the relationship is explained
by the model since the value of R2 is .418 and F is also 14.65.The coefficient of the explanatory
variable is .564 indicating that 56 percent of the change in Global Innovation Score is explained by
one percent increase in R & D investment. The coefficient also is statistically significant as
revealed by the„t‟ value. The positive sign indicates that higher the R & D investment, higher is
also the GIS. The reasons could be as discussed above. The model is therefore accepted for the
emerging nations.
The model is not acceptable for the developed economies as neither the value of R 2 or the
statistical significance of the independent variable supports our hypothesis. The reason could be
as discussed above, that R & D in developed nations may have much more longer term impact
Proceedings of 5th Asia-Pacific Business Research Conference
17 - 18 February, 2014, Hotel Istana, Kuala Lumpur, Malaysia, ISBN: 978-1-922069-44-3
than that of the emerging nations and they also invest much more in basic research in comparison
to the emerging nations. Their relatively higher value of GIS is not due to Investment in R & D ,but
may be they already enjoy higher scores in these areas since many years.
The results of the estimation for the world economy are however accepted and are therefore
stated below:
GIS = 35.953 + .781 RD pc(t-1) + U
R2 = .620
F = 38.529
t = (14.652) (6.126)
The model is highly relevant for the global economy since 60 percent of the relationship is
explained by the model as indicated by the value of R 2 which is .620 and it is also statistically
significant as revealed by the value of F which is 38.529.Almost 80 percent of the change in R &
D investment of the previous year explains one percent change in Global innovation score. The
coefficient of R & D is also significant as indicated by the„t‟ value and the model is also
theoretically accepted as revealed by the signs of the coefficients. The results of both the
estimation reveal that there is wide scope for the emerging economies to raise their investments in
R & D so that that they can go up the ladder in global innovation index. In fact, the rise of these
nations in this score has been increasing much faster than that of the developed nations in recent
times.
The second hypothesis is therefore also acceptable both for the emerging economies as
well as for the global economy ,though the same is not acceptable for the developed
economies.
Since the economic growth from internationalization ultimately depends on the competitiveness of
the country in the global economy, the study has also attempted to examine the extent to which
the competiveness index as revealed by the score is determined by its global innovation strength.
The model developed for the purpose is as follows:
GCS = a + b GIS + U ---------------------------------------- (3)
Where GCS is the global competitive score.
Emerging economies
The estimated result of the model for the emerging economies is stated below:
GCS = .2.453 + .812 GIS + U
R2 = .760: F = 31.64
t = (7.103) (5.625)
The results reveal that the global competitive score of emerging nations is determined by their
global innovation index. This is natural because most of the pillars of global competitive index as
mentioned above are the result of investment in R & D .Hence it is only natural that 76 percent of
the relationship is explained by the model as revealed by the value of R2 which is .760 and is also
statistically significant as indicated by the value of F which is 31.64. Over 80 p.c of the change in
GCS is explained by one percent change in GIS since the value of the coefficient of the
dependent variable is .812 and „ t‟ value is 5.625 implying the statistical significance of the
coefficient which is thereby accepted. :
The result of the estimated values for the model for the developed world is as follows:
GCS = 3.260 + .729 GIS +U
R2 =.531;
F = 13.58
t= (5.656) (3.686)
The model is also acceptable for the developed nations since the value of R 2 is .531 and the
value of F is 13.58.The coefficient for the independent variable is .729 and the „ t‟ value is
3.686.Therefore both on statistical as well as theoretical grounds the model is acceptable even for
the developed nations which is only natural since innovativeness determines competiveness . The
Proceedings of 5th Asia-Pacific Business Research Conference
17 - 18 February, 2014, Hotel Istana, Kuala Lumpur, Malaysia, ISBN: 978-1-922069-44-3
explanatory power is slightly lower than that of the emerging nations for the reason that apart from
the twelve pillars of global competitive index, developed nations also invest in basic research as
mentioned earlier which is not captured by the GCS. However the fact that is established both for
emerging and developed nations is that a nation‟s competitive strength is determined to a large
extent by the extent of innovation in R & D.
5. Conclusions:
Therefore investment in R & D is important for all nations .However, the developed nations have
reached a saturation point of economic growth and have very limited unexplored business
opportunities, so that even if they invest higher proportion in R & D their growth rates can rise
only marginally. However, since emerging nations are on the path of higher growth rates with
tremendous unexplored business opportunities, apart from direct investment in other areas of their
economy, higher investment in R & D which is often overlooked as an important determinant of
growth by these new economies is imperative for their hold on the global economy. It is therefore
evident that though emerging economies spend a smaller percentage of their GDP on R & D ,yet
the impact of that on their GDP and Global Innovation and Global Competitiveness is much higher
than the developed countries who though spend much higher proportion of GDP on R & D ,yet the
impact on the variables mentioned above is much lower. The study has also revealed that there is
an integral relationship between an economy‟s growth rate, investment in
R & D, global
innovation index and global competitive index which all work in a circular manner.
Keywords: investment in R & D, innovation, competitiveness, economic growth, emerging
economies.
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Proceedings of 5th Asia-Pacific Business Research Conference
17 - 18 February, 2014, Hotel Istana, Kuala Lumpur, Malaysia, ISBN: 978-1-922069-44-3
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