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The Nature of Innovation in Services Presented to OECD Workshop

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The Nature of Innovation in Services Presented to OECD Workshop

    The Nature of Innovation in Services

    Jeremy Howells

    Report

    2000

Report presented to the OECD „Innovation and Productivity in Services Workshop‟ 31

    October 3 November 2000, Sydney, Australia

Contents

    Executive Summary .............................................................................................................. 3 Acronyms and Abbreviations ................................................................................................. 4

    1. Introduction .................................................................................................................... 5

2. Innovation: What Role Services? .................................................................................... 6

    2.1 Definitions and Perspectives.................................................................................... 6

    2.2 Services in Context ................................................................................................. 7

3. Services and Innovation: Growth in Technological and Non-Technological Innovation... 10

    3.1 Introduction ........................................................................................................... 10 3.2 Services and Technological Innovation .................................................................. 10

    3.3 Services and Non-Technological Innovation .......................................................... 12

4. Services and Innovation: Changing Dynamics .............................................................. 12

    4.1 Introduction ........................................................................................................... 12 4.2 Service „Encapsulation‟: A Non-Technological „Service‟ Innovation? ...................... 13 4.3 Encapsulation and Service Innovation ................................................................... 17

5. Services and Innovation: New Perspectives ............................................................... 24

6. Innovation and Services: Conceptual Failings? ............................................................. 26

    6.1 Conceptual Gaps................................................................................................... 26

    6.2 Services and Non-Technological Innovation: Trends and Issues ............................ 28

    6.3 Services: Barriers to Innovation ............................................................................. 29

    7. Conclusions ................................................................................................................. 31

    References.......................................................................................................................... 35

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    The Nature of Innovation in Services

Executive Summary

    This report questions many of the assumptions behind services and the innovation process and seeks to redress the balance in terms of how services are viewed in relation to the innovation process. Services are becoming more important both in technological and non-technological innovation terms and this report reviews key changes that are taking place within service innovation, although this still suffer from, and are bound by, many historical and institutional legacies which still shape and constrain their development.

    Service industries are not only becoming more research intensive, but also taking a more central role in many innovation activities. The report focuses on how services, associated with non-technological innovation, are used to encapsulate products to better serve the demands of the consumer and to add value to the firms providing such products. This encapsulation model is explored in various forms and is presented as a useful framework for viewing current developments in service innovations.

    The report explores key trends in non-technological innovation services, in particular identifying three issues:

    ? the issue of disintermediation and intermediation (associated with e-commerce and the

    internet)

    ? services and „virtualisation‟

    ? services and the embodied

    Key barriers to innovation in services are then examined, concerned with: ? Intellectual property rights and the problem of imitation

    ? regulatory lag

    ? the problem with information

    ? employment growth and skill levels

    ? the short cultural and institutional history of innovation in services

    The review will challenge some of our preconceptions about service innovations and concludes that service-centred perspectives relating to consumption and technological innovation will become more central to the competitive advantage of firms and nations.

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Acronyms and Abbreviations

AA American Airlines

    ASP Application Service Provider

    B2B Business to Business

    BERD Business Expenditure on Research and Development CIS Community Innovation Survey

    DIPs Distributed Innovation Processes FDI Foreign Direct Investment

    GE General Electric

    HEI Higher Education Institution

    IBM International Business Machines

    ICL International Computers Limited

    ICT Information and Communication Technologies IP Innovation Paradigm

    IPR Intellectual Property Right

    ISIC International Standard Industrial Classification IT Information Technology

    KIBS Knowledge Intensive Business Services MIP Manufacturing Innovation Paradigm MSTI Main Science and Technology Indicators OECD Organisation for Economic Co-operation and Development

    PPI Pacific Power International

    R&D Research and Development

    SHC Salick Health Care

    SIP Services Innovation Paradigm

    t-KIBS Technical-based KIBS

    UK United Kingdom

    US United States

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1. Introduction

    Services are now „coming of age‟ in terms of the economic and technological landscape (Alic 1994). No longer can services be simply regarded as „passive‟ consumers of technology from other sectors (see Hipp 1999, 163) who merely „serve‟ the important sectors of the

    economy, notably manufacturing, and individuals and households. A number of key services, notably Knowledge Intensive Business Services (KIBS), hold an increasingly dynamic and pivotal role notably in „new‟ or reinterpreted knowledge-based economies (Miles 1993; OECD

    1996; Lamberton 1997; Alic 1997; Rooney and Mandeville 1998). Academics, industrialists and policymakers have been slow to realise and accept the way services have changed over

    1the last few decades. Perceptions have been bound by old ways of thinking. Even those

    academics and policymakers who have realised that services do have a larger part to play in the economy still tend to view them as providing a supporting, infrastructural role, „serving‟ the rest of the economy (as facilitators, mediators and repositories in the knowledge-based economy; see below). However, the role of Internet and web based services and the growth in high technology environmental services indicate that certain types of KIBS industries are now taking a more proactive, lead role in the economy. Those business service firms that have received the highest profile have been associated more strongly with information and communication technologies (ICTs) and being bound by new forms of transaction based on e-commerce and the internet. These new ICT-mediated KIBS firms are now increasingly becoming the new drivers in industry. The service sector has therefore changed through the emergence of new types of entrants into the sector. These firms are doing original, innovative and sometimes unique activities, things which in many case would not have been possible twenty or even ten years ago.

    This report seeks to question many of the assumptions behind the issue of services and the innovation process and in some measure seek to redress the balance in terms of how services are viewed in relation to Innovation (both technological innovation and non-technological innovation). The analysis aims to highlight the fact that services are becoming more important within the innovation process and also reviews some of the fundamental changes that are taking place within service innovation activity. This is not to deny that services still suffer from, and are bound by, many historical and institutional legacies which still shape and, more particularly, constrain their development (Petit 1986). One such is the intellectual property system which remains much less well defined in relation to protecting service-based innovations (Andersen and Howells 2000). However, the analysis attempts to challenge some of our conceptual preconceptions about the innovation process, and service activity within that process, suggesting that service-centred perspectives relating to consumption and technological innovation will become more central to the competitive advantage of firms and nations.

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2. Innovation: What Role Services?

2.1 Definitions and Perspectives

Our conceptualisation of innovation and the innovative process is still dominated by

    manufacturing-based paradigms (Gallouj and Weinstein 1997). This can be seen, for

    example, in the frequently used metrics used to measure innovation. These are centred on

    indicators associated with technological innovation based on embodied technologies and physical artefacts and centred on such measures as formal research and development (R&D)

    or patent activity. By contrast, measures to capture aspects and processes related to non-

    technological innovation involving less tangible, dis-embodied changes associated with new

    ways of doing things or in novel organisation forms which are more typical of services, remain

    poorly developed.

At best, therefore, service companies, and the service sector as a whole, are seen as

    facilitators to the „proper‟ innovators – manufacturing firms or occasionally as good imitators

    through taking ideas from manufacturing sector and applying them within the service sector.

    At worst, service activities are seen as passive, reactors to innovation occurring in the

    manufacturing sector, or indeed as „no hopers‟ in innovation terms; the inactive or non-receptive innovation components in the economy. Services are, therefore, too frequently

    seen as being innovation „laggards‟ (Miles 1993, 661). They have primarily been perceived

    as representing consumers, albeit often significant consumers, of innovations produced by

    manufacturing firms.

Even those services companies, particularly technical KIBS (t-KIBS) firms, which have a more

    research and technically intensive profile, are still viewed as having a supporting role in the

    innovation system. As such, they are seen as representing infrastructure elements of the

    innovation (Smith 1997) or technological (Tassey 1991; Carlsson and Stankiewicz 1991;

    1995; Teubal et al. 1996) infrastructure. This is not meant to suggest that previous

    researchers have underplayed their role. Lundvall (1992, 14-15) for example highlights the

    central role of national education and training systems in the national innovation system seen

    through the lens of the learning economy. Similarly, Shohert and Prevezer (1996, 295) have

    highlighted the crucial and pivotal role of service-based intermediaries in the growth and

    development of the UK biotechnology sector. However, the criticism here is that service

    firms have been viewed primarily as reactive agents, or at best supporters, which have

    facilitated the central, proactive players within the system, manufacturing firms.

In distinguishing between different types of innovation process it is also important to

    recognise the distinction between service industries and service activities. Service industries

    are those sectors classified using ISIC and national classification as services. Service

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    activities and functions, however, can be undertaken by both service and manufacturing firms and include such activities as marketing, R&D, accounting and transport (see Crum and Gudgin 1977). The word „services‟ can cover both these aspects, but the distinction remains important here.

2.2 Services in Context

    As a result in both academic and policy terms services have barely registered in terms of their due recognition within the innovation process. Although this is gradually changing, current models of innovation are still predominantly centred on manufacturing industry and the implicit, if not explicit, conceptual frameworks surrounding such analysis has been very much within what might be termed the dominant manufacturing innovation paradigm (MIP; see below). If we are not careful, analysis of the innovation process will remain shaped by a latent assumption of manufacturing „traits‟ concerning innovation, which ignore many differences

    that exist between these traits and those of services.

    Table 1 provides a bi-polar delineation of these traits. In some instances they may reflect broad generalisations rather than clear traits, more particularly they may exhibit the historical backgrounds of these two „grand‟ sectors in the modern economy: the „secondary‟ and „tertiary‟ sectors (if we leave aside the „primary‟ sector and the „quaternary‟ sector; a subsector of the „tertiary‟ sector). Many of these service „traits‟ in innovation have been

    viewed as „peculiarities‟ (Miles 1993; Miles and Rush 1997; Sirilli and Evangelista 1998) because of the dominance of the manufacturing innovation paradigm and despite the fact that the service sector is by far the largest sector of the economy. Thus, for example, the intellectual property rights (IPR) regime of services is very different from manufacturing. Intellectual property in services is protected (if it is protected at all) by copyrights and trademarks, compared to primarily patents in manufacturing, as well as via other protection mechanisms which include short cycle times and secrecy (Andersen and Howells 2000).

    Other aspects of the broad manufacturing and services systems divide can be seen in terms of technology characteristics and industry characteristics (which have an important bearing on technology). These include technology orientation, research generation and acquisition, the impact of technology on labour productivity and innovation cycle times (Tables 1).

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    Table 1

    Innovation: Manufacturing versus Services ‘System Traits’

    System Trait Manufacturing Services Status/Significanc

    e

    1IPR Strong; patents Weak; copyright Current, strong .

    2Technology Technology „push‟; Technology „pull‟; Historical, declining . orientation science and Consumer/client

    technology led led (co-terminality)

    3Research/innovation „In-house‟ Mainly sourced Declining . generation and externally significance;

    supply manufacturing and

    services converging 4Labour productivity High impact Low impact (until Current, potentially . 1980s?) declining

    significance

    5Innovation cycle Short Long (except for Declining, weak . times computer services)

    6Product Tangible, easy to Intangible, difficult Declining . characteristics store to store significance;

     medium 7International Exports, then FDI* FDI*, then exports Current, medium . „servicing‟

8Spatial scale of Declining National ? Global Regional ?

    . system or „reach' significance; National ? Global services catching up

    on

    internationalisation

* Foreign Direct Investment

Source: revised and adapted from Howells (2000b)

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In relation to wider industry or system traits that have a bearing on the innovation profile of

    each sector, there are product characteristics, related to the „tangibility‟ and its „storability‟ between manufacturing and service products; the phasing of international market servicing;

    and the actual geographical scale and reach of manufacturing and service systems. Some

    of these traits may be debatable and some, though of continuing importance are now

    potentially of declining significance, such as labour productivity (see, for example, Baumol

    1967; Bernard and Jones 1996; Rubalcaba-Bermejo 1998). Nonetheless, many of the

    differences outlined in Table 1 remain significant when trying to conceptualise services.

However, the distinctions between these two „grand‟ sectors is not the suggested course for

    analysing services within a systems of innovation framework. Rather it is employed here to

    highlight the trap of trying to assume or apply „manufacturing‟ traits to service sectors in

    innovation analysis (Howells 2000b). Moreover, one of the most important points here is the

    range and diversity of different sectors within services (Miles 1994, 247).

Service sectors have very diverse system traits. Some t-KIBS sectors are very similar to

    high technology manufacturing sectors in relation R&D effort and technological intensity (Hipp

    et al. 2000). Other service sectors exhibit the „supplier-dominated‟ (Pavitt 1984) traits

    associated with the reliance of adoption and implementation of technology developed

    elsewhere in the economy (Brouwer and Kleinecht 1995, 145). Pavitt (1984, 356) applied

    this „supplier-dominated‟ classification (characterised by firms within the sector undertaking

    little or no R&D and receiving their innovations from outside the sector) mainly to the service

    sector although including some traditional sectors of manufacturing. This view which fitted

    the pattern of main knowledge inputs used by innovating firms up until the end of the 1970s

    and centred on manufacturing industry (Pavitt 1984, 347) has continued to colour our view of

    the traditional „laggard‟ service sectors.

Soete and Miozzo (1989) have adapted Pavitt‟s taxonomy more specifically to services.

    They still retain the supplier-dominated category to cover large sections of the public,

    personal and distributive services, but include other new categories. The first centres on a

    production or scale-intensive services group which include service activities which depend on

    large scale processing (back-office) administrative tasks (such as banking and insurance)

    and/or physical and information networks, such as transport and telecommunications service

    sectors. The second main category is specialised technology suppliers and science-based

    activities which generate and develop their own innovations and new technologies.

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3. Services and Innovation: Growth in Technological and Non-Technological

     Innovation

3.1 Introduction

    A significant proportion of service sectors and firms still do display very low levels of innovative activity, measured via a variety of different indicators, such as R&D intensity and a wide range of tangible and non-tangible investment expenditure related to innovation (see, for example, Young 1996; OECD 1999; Pilat 2000). More detailed analysis has been hampered though by poor data collection and availability on innovative activity within service sectors (see Hamdani 2000). The real problem is that much innovative expenditure and activity is centred in non-R&D areas (Evangelista and Sirilli 1995; Sirilli and Evangelista 1998) where data availability is extremely poor.

3.2 Services and Technological Innovation

    Innovation expenditure within a number of service sectors has grown sharply over recent

    2years (Young 1996) although it is still heavily under-recorded (OECD 1999, 26). However,

    even using traditional, manufacturing-centred indicators associated with measuring technological innovation, services are indeed becoming more innovative. This is reflected in a number of key data.

    Thus, there has been rapid growth in R&D activity by services, with the services share of total Business Expenditure on R&D (BERD) between 1980 and 1997 risen sharply for most countries (except Germany and Japan), from less than 5% of BERD in 1980 to 15% in 1997 for whole of OECD area. In some countries, including Canada, Norway, Denmark and Australia, services account for approximately a third of all BERD (Table 2).

    Service industries are also large users of R&D intensive goods, in particular information technology (IT) goods. As such services are also crucially associated with technological innovation via the uptake of new technology incorporated in new equipment and capital goods through this route. Thus some service sectors, most notably communication services, incorporate as much, if not more, R&D intensity via new equipment and intermediate goods as many manufacturing industries (Amable and Palombarini 1998, 658-9).

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