Innovation Systems: Education & Workforce Development

The single biggest determining factor of the success and future prosperity of a place is how well its population is educated (Barro, 2001; Clarke et al, 2013). That is because the more educated and skilled a workforce is, the more able it is to generate new ideas and technologies, bring them to the market and adapt and absorb new technologies. Thus the more educated a place is, the more capabilities it has to innovate, create new and higher paid jobs and grow economic prosperity (Barro, 2001; Clarke et al, 2013).

As the global economy has shifted to knowledge-based industries, the jobs that pay the best go to those with the highest levels of education and skill.  Analysis of the geography of innovation has also shown us that innovation tends to be clustered in locations that offer diverse employment opportunities and are home to higher-skilled employees (Henry-Nickie & Sun, 2019).

Links to growth

The more educated and skilled a workforce is, the more able it is to generate new ideas and technologies, adapt to and absorb innovations throughout the economy and society (Cortright, 2017; OECD, 2015). The UK’s City Observatory found that almost two-thirds of the variation in per capita income was directly related to the educational attainment of the population (Cortright, 2017). In particular, the OECD (2015) note that there are several ways that education and workforce development drive innovation and growth, including:

  • Skilled people generate knowledge to generate, commercialise and apply innovations;
  • Having more skills raises capacity to and absorb innovations; 
  • Skills attract other inputs into the innovation process including capital and partnerships;
  • Skills are critical to entrepreneurship including, establishing and growing a firm; and  
  • The more skilled a user/consumer is of a product, the more able they are to provide valuable feedback and innovation on top of the initial innovation.

Education and training

Education and training are becoming ever more critical. Education equips young people with the knowledge, skills and dispositions they need to seek purposeful and meaningful employment. Education and skills training is essential to ensure that people can fully participate in an increasingly dynamic and complex world and contribute to innovations that improve society. In addition, the more educated a society is, the more able it is to be entrepreneurial and have the skills to establish high-growth, high performing firms (Bosma et al. 2011).

Higher education also unlocks opportunities for individuals that support workers to access more diverse employment across many occupations as opposed to being locked into a single sector and role.  At the same time, today’s employers want workers with multi-dimensional skill portfolios, including those with  management,  STEM (science, technology, engineering and mathematics) and tech-specific skills (Henry-Nickie & Sun, 2019). 

Creating opportunity employment pipelines requires changes to not only schooling systems but also a ‘learning’ environment to ensure the attainment of education outcomes (Henry-Nickie & Sun, 2019).  In particular, Ra et al. (2019) suggest that  a learning society should prioritise three critical areas of education:

  1. widen the scope of learning opportunities beyond schools and throughout all stages of life, 
  2. prioritise learning in existing and new systems, and 
  3. integrate learning opportunities across stakeholders and sectors.

Skills for success

Firms want the most talented and brightest workers because they know their skill and expertise underpins the business’ competitive advantage and ability to generate profits. Building a competitive advantage is highly dependent on innovation, and innovative solutions are increasingly complex and based on scientific discovery and extensive R&D.  Accordingly, higher-skilled people are better able to generate new knowledge and support the growth and good management of the firm. 

Research shows high skilled workforces have a much greater impact on innovation but also job creation (What Works Centre for Local Economic Growth, 2019; Cortright, 2017; Delgado & Mills, 2018; Mc Andrew, 1995; Moretti, 2012). For example, the What Works Centre for Local Economic Growth, (2019) notes that in the UK “skilled jobs or jobs in high-tech industries generate larger multipliers” with an additional 1.9 – 2.5  jobs created in the non-tradable sector. In comparison, Moretti estimates that a technology job in the US can generate 4.9 other jobs.

Softer skills are also vital for innovation performance. These skills that relate to business acumen, entrepreneurialism and new ways of working, and are just as essential as formal education and training (Commonwealth of Australia, 2015; Lin et al., 2013). Differences in managerial quality explain as much as one-third of cross-country differences in productivity and firm profitability and survival rates are also associated with good management practices (Grover, 2019).

Structural change

The rise of technology is now having a real impact on the business models, supply chains and changing customer demands and behaviour, and are putting significant pressure on workforces and firms (PwC, 2015).  Megatrends such as automation, artificial intelligence, robotics, new business structures and globalisation are changing the nature of jobs and the skills employers require. As the impact of technology on the production of goods and services grows, it is estimated that around 44 per cent of Australian jobs will be affected (Hajkowicz et al., 2016). 

In fact, 75 per cent of the fastest-growing occupations are dependent on STEM skills (Commonwealth of Australia, 2015 and PwC, 2015). The Department of Jobs and Small Business (2019) research also shows that between “November 2013 and November 2018, employment in STEM occupations grew by 16.5 per cent, which is 1.6 times higher than the growth rate in non-STEM jobs”. As a result, there will be fewer and fewer jobs that do not require higher technical qualifications (Hajkowicz et al., 2016). 

Not only is this trend picking up speed, but Australia’s education and skill outcomes also are not keeping pace with many Asian economies that are investing heavily in their higher- workforce skills (Department of Jobs and Small Business, 2019; Hajkowicz et al., 2016; PwC, 2015).  A 2014 Australian Industry Group survey of workforce development needs, reported that almost 44 per cent of employers continue to experience difficulties recruiting STEM qualified technicians and trade workers. With the main barriers cited as a lack of relevant qualifications (36 per cent) and a lack of employable skills and work experience (34 per cent) (Commonwealth of Australia, 2015).

To remain competitive, to ensure access to high-quality education and lifelong training to ensure economic reliance and competitiveness into the future (Hajkowicz et al., 2016).  Innovation policy must not only address education gaps and skill shortages; but also promote STEM capabilities and softer skills such as entrepreneurial and management skills. 

Finally, rising demand for high skills combined with “a shrinking shelf life” of specific skills means that today’s workforce need to be encouraged and able to access continuous learning. Moreover, new modes of learning delivery and trends in the workplace demand self-directed learning for which learnability will be crucial (Ye, 2020). 

Innovation Systems – Science and R&D

The relationship between science and innovation is widely recognised as an essential component of effective innovation systems and a driver of economic prosperity (OECD, 2015). Good ideas and concepts do not magically become fully blown commercial and investable products. Instead in today’s increasingly complex and global world, new technologies, products and services are built upon research, data and analysis, prototyping, laboratory and field testing often in universities and public research institutes. Most innovations will also apply existing technologies and use various ICT platforms and infrastructures, sometimes taking several generations to succeed.

Governments invest in research and development (R&D) through a number of mechanisms with the expectation that scientific discovery and new technologies will create new knowledge, new production processes and products benefit future generations (Commonwealth of Australia, 2015). Furthermore, science and research remains the catalyst to tackling global challenges such as climate change and poverty.

Definitions

Knowledge comes from two fundamental sources. The first being education, that is, understanding what already exists. The second source is research, activities taken to acquire new knowledge (Gruber & Johnson 2019). Thus science and research are about extending the knowledge base and developing knowledge to answer specific questions. 

Innovation and technology are often used interchangeably, however they are not the same thing. Innovation is about applying that knowledge within the context of environmental, business and social systems to solve problems (Howard Partners, 2018). Technology is often a commercial outcome of innovation, science and R&D (that is knowledge), and changes the way things are done (The Economist, 2013).  Innovation can be intangible and does not require technology, while technology is the application of innovation as a tangible product. 

Growing importance

Today innovation and technology development is becoming more complex and is increasingly based on science and R&D undertaken in both public and private institutions in fields such as environmental, physics, biomedical, life sciences, technology, engineering, and mathematics (STEM) and the application of design and design thinking (Commonwealth of Australia, 2015). In fact, Sainsbury (2020) notes that there have been no major technology advances in the last past fifty years that were not based upon scientific discoveries. 

In particular, public research plays a key role in innovation systems by providing new knowledge and pushing the knowledge frontier. Universities and public research institutions often undertake longer-term, higher-risk research and complement the research activities of the private sector. At the business level, investment by firms in to R&D have been shown to have a 20-30 percent return on investment in the long run (Frontier, 2014). Gruber & Johnson (2019) note that the spillovers from R&D generate enormous social returns, more than 50 percent per dollar, each year.

Market failure

At the current rate of global innovation, more and more funding needs to be dedicated to R&D just to maintain productivity (Gruber & Johnson, 2019). However, the full extent of the contribution of science and technology is not easily visible to those outside the process. Accordingly, it can be under-invested in by both governments and the private sector and the diffusion of research and innovation can remain trapped in institutions (Commonwealth of Australia, 2015). In fact, without government policy and investment, there are five main market failures when it comes to investment in science and R&D, these include:

  1. firms are unable to or underinvest in next-generation technology due to the substantial capital investment and R&D time required;
  2. SMEs are less likely to identify and work form partnerships (such as suppliers, customers competitors, universities, research institutions and government entities) to tackle complex and commercialise innovation;
  3. underinvestment by both public and private organisations in public/quasi goods such as science, technology platforms and infrastructure that have benefits for society and support the private sector can innovate on top of due to the cost and lack of clarity around roles;
  4. it can be hard to identify pathways to commercialise publicly-funded research within universities and research institutions;
  5. there is no market incentive for firm level R&D findings and learnings, including negative outcomes, to be shared to stimulate spillovers and to learn for approaches that have not worked (Gruber & Johnson 2019; Open Science, 2020, and Sainsbury, 2020). 

Phases of the R&D Cycle

In order to address market failures and capitalise on the economic prosperity generated by science and R&D, it is essential to understand the phases to the R&D cycle, which make it so valuable. These include:

  1. Scientific research – considered a pure public good as it usually involves the discovery of new laws of nature and cannot be patented. Scientific research is mostly undertaken by public organisations and universities through funded activity such as “R&D applied research and technology work, grants to encourage research for advancement of knowledge or grants to obtain the knowledge needed for government missions such as health or defence” (Sainsbury, 2020). 
  2. Generic technologies  are technologies that can affect an entire society such as the steam engine, the internet, GPS and electricity. These technologies come about when scientific research is turned into generic technology that can be applied pre-competitively to a number of industries or inform subsequent R&D by the private sector (Garnsey & Maine, 2006). Investment in general technologies is considered a quasi-public good as it helps to de-risk “major investment barriers to the emergence of radical new technologies” (Sainsbury, 2020).  
  3. Proprietary research is a private good and undertaken by the private sector. Priority research leverages existing knowledge and is de-risked sufficiently to allow the private sector to earn a return on investment in a sufficient time frame.
  4. Industrial and infra-technologies are digital technologies with physical infrastructure to deliver efficient, connected, resilient and agile services. Infra-technologies include ICT, waste, energy generation and distribution and new digital health services (Fawkes, 2019). These technologies provide a platform for further innovation. However, they require  standardisation, regulation, may have several  technical and functional interfaces to enable wide economic utility. As a result they can be under-investment by the private sector and need to be heavily invested in  government by government (Sainsbury, 2020).

Global Value Chains: The Rise of Global Factories

Introduction

As technology, communications and transport have developed, international trade has significantly expanded leading to the rise of globalisation  (Rodrigue et al, 2017). The escalation of globalisation has not only intensified the need for firms to develop and grow their competitive advantages but accelerated the development of international trade.  

Today, the biggest firms are not national but multinational corporations who lead  Global Value Chains (GVCs), involving subsidiaries, suppliers and customers across many countries. Intermediate goods now make up a larger proportion of cross border trade than final goods, as corporations look to offshore and outsource production to enhance profits, access new capabilities and expand markets and control (Gereffi, 2014). There has also been a consolidation of value chains in certain industries, through the rise of lead firms who control global production of goods and services, and generate substantial wealth and power.

The purpose of the literature review is to define the GVC concept, understand how GVCs are structured to capture value and look at GVC issues and opportunities for economic and social upgrading. The literature review will achieve this through examining various perspectives and activities of the lead firm, host nations, suppliers and employees. 

The Rise of GVCs

International trade is primarily based on the theory of comparative advantage, where nations specialise and export goods that they have an advantage in such as costs, technology or access to natural resources (Milberg & Winker, 2013). Firms are continuously evaluating their market position and looking to develop new areas of competitive advantage.

In 1985, Michael Porter first coined the term, value chain in his book ‘Competitive Advantage: Creating and Sustaining Superior Performance’, where he outlined the value chain approach used by firms to determine value could be added to raw materials at different points along the supply chain to realising customer value (Gereffi, 2014).

Though increasing international trade, the value chain concept has been applied at a global scale, whereby firms locate various stages of production in different countries to capture value. Globalisation has enabled firms to restructure their operations internationally to access new markets and lower-cost production through outsourcing and offshoring of activities (Gereffi, 2014, OECD, 2020).

Global Value Chain “the full range of activities that firms and workers perform to bring a product from its conception to end-use and beyond”, that are carried out on a global scale and that can be undertaken by one or more firms (Gereffi & Fernandez-Stark, 2011).

Outsourcing: “delegating (part of) activities to an outside contractor” (OECD, 2004).

Offshoring: “is used to describe a business’s (or a government’s) decision to replace domestically supplied service functions with imported services produced offshore… A company can source offshore services from either an unaffiliated foreign company (offshore outsourcing) or by investing in a foreign affiliate (offshore in-house sourcing)”. (OECD, 2004).

GVCs involve a complex system of authority, relationships and activities located across multiple nations and involving many intermediate products and services (Hernandez & Pedersen, 2017). GVCs include not only finished goods but also components and subassemblies, and operate in industries such as “manufacturing, energy, food production and all kinds of services, including call centres, accounting, medical procedures and research and development (R&D) activities” (Gereffi, 2014).

By 2009, the use of GVC’s was a well established corporate strategy and trade pattern, with the production with intermediate goods exceeding final exports at 51 per cent (OECD, 2011; WTO and IDE-JETRO, 2011). While it is estimated that the use of the GVC structure enables firms to increase profitability by 40 to 60 per cent (Milberg & Winker, 2013). In particular, benefits to firms outsourcing and offshoring include:

  • mass customization;
  • allows lead firms to focus on their core competence
  • retention of rents from branding, marketing and financialisation;
  • offloading risk and occasionally bypassing labour and environmental  risks;
  •  increased competition among suppliers and access to cheaper labour;
  • Increased production flexibility to change inventory lines and suppliers as the market shifts (Milberg & Winker, 2013).

Power, Governance and Structure

GVCs wield significant economic and political power as they transcend multiple national boundaries creating trade and workforce interdependencies. GVCs also have a major impact on national capabilities as they enable economic and social upgrading including technology and skills transfer, industry value-add, infrastructure development, product and service development, and employment (Gereffi, 2014). Therefore, GVC configuration and the relationships between parties is important not just to the lead firm but also suppliers and the nations that host them. 

Most GVCs have a lead firm who orchestrates and controls downstream decisions to make or buy based on opportunities to minimise their cost and extend their reach. Though there are some cases where suppliers can control the power at the firm level. Where lead firms do control the value chain, they hold massive power and “can actively shape the distribution of profits and risks in an industry (Gereffi, 2019).” 

Lead firms determine where international production takes place, will use foreign direct investment (FDI) to shore up markets and supply chains, undertake joint ventures and subcontracting, and support knowledge transfer and training in some cases (Hernandez & Pedersen, 2017). Lead firms have been found to exploit segmented labour markets to further increase their production flexibility and reduce costs. However, they may also work extensively with the supplier to improve the quality design and reliability of supply and logistics (Milberg & Winker, 2013). Either way, what matters most to a lead firm is that they are able to profit from focusing on their core competence and protect their brand identity. 

Lead firm:  the firm which shapes, controls, coordinates and distributes the value along the chain; and is responsible for the final sale (Azmeh and Nadvi, 2014)

Core competence: the key activities of a firm that its competitive advantage is derived from.

There are two major GVC structures depending on the power of different firms within the chain, these include:

  • Buyer-driven GVCs: are where the lead firm is the final buyer and will outsource (often at arm’s length) inputs for raw materials and manufacturing, instead focusing on their core competencies in higher value-add areas. Buyer driven chains tend to have low barriers to entry and buyers will often make decisions on producers based on cost reduction and production flexibility. Buyer driven chains typically occur in retail chains and branded non-durable final consumer products, including agriculture, clothing, and footwear. 
  • Producer-driven GVCs: are where the value chain is mostly coordinated by intermediary suppliers and distributors. Producer-driven chains are typical in industries where suppliers have their own core competencies such as those that require high technology and significant capital investment, and therefore have high entry barriers. Examples include the automobile and aeronautical industries (Rodrigue et al, 2017).

While the ultimate configuration of producer or buyer-driven GVCs will depend on various aspects, there are also a variety of GVC characteristics defined and depicted in image 1 by Gereffi et al. (2005), that need to be considered due to the impact on local communities. These include:

  • Hierarchical chains are established when the lead firm owns and operates the majority of the chain through subsidiaries or strategic business units to maximise control and profit capture;
  • Captive chains (Quasi-hierarchical) are used when intermediate suppliers require support and direction due to low capabilities, the supply chain is well established and often operated by oligopoly lead firms. Suppliers are less able to bargain but more able to receive support from lead firms;
  • Relational and modular chains are established when suppliers hold their own competitive advantages ( including technology and knowledge competencies, infrastructure, access to raw resources) and can operate independently of the lead firm. However suppliers make products according to the lead firms specifications; and
  • Market chains are an example of arms-length relationships that are often established when lead firms require a flexible relationship in order to respond to cost shifts or market changes (Hernandez & Pedersen, 2017).

Image 1:

(Gereffi et al., 2005)

Issues

With the rise of GVC, there has also been significant consolidation of power into a small number of large firms through mergers and acquisitions, increasing market control. As a result, lead firms often operate in oligopolistic markets with asymmetry in market information and capabilities (Gereffi, 2014). Large corporates no longer make their profits through product pricing but instead, through the use of GVC to enable mass customisation and cost-cutting.

Lead firms welcome the configuration of value chains that enable multiple suppliers to increase competition, drive down costs and enable greater production flexibility (Milberg & Winker, 2013). GVCs have also been linked with increasing income inequality between lead firms and their suppliers.  Where lead firms are able to earn substantial rents via their intangible assets including brand, copyrights and design; and barriers to entry stemming from existing capability and economies of scale (Gereffi, 2014).

Milberg and Winker (2013) advise that there are four main strategies used by lead firms to exert their control. These include:

  1. Inducing competition among suppliers – by working with multiple suppliers and holding short term contracts;
  2. Unloading risk onto suppliers – through arms-length relationships, risk can be deferred to suppliers who purchase raw material and manufacture goods. Some lead firms may purposefully look for suppliers in nations where there may be fewer social and environmental regulations;
  3. Establishing entry barriers – through branding and downstream purchasing power; and
  4. Minimising technology sharing – Brand power is often derived from considerable technology and design abilities. Lead firms will protect their source of competitive advantage to maintain customer loyalty and brand leadership. While outsourcing other areas of production that can be done at arms-length.

However, there are also issues for lead firms, not just the nations that host them. Lead firms need to contend with and adapt to the unique market situations in each place while also developing economies of scale and supporting knowledge transfers to local labour markets (Gupta & Govindarajan, 2001). Specific issues include managing local laws, regulations, customs, languages, and capabilities; and each location will require a different management style, a flexible approach and cultural awareness.  (Hernandez & Pedersen, 2017).

 While studies have also found a reduction in employment and labour share due to offshoring manufacturing and service sectors in the United States. Many Lead firms have also been found to now under-invest in future R&D becoming focused on raising through share prices, known as financialisation. Thereby reducing the domestic demand for long term investment and capabilities for technological change. Therefore, nations need to be aware of the issues and opportunities to design interventions and controls to maximise benefits and growth opportunities (Milberg & Winker, 2013).

Upgrading

In developing and economies in transitions, many small and medium enterprises (SMEs) often lack managerial and industrial capacities, including knowledge and technology capabilities, to develop their own competitive advantages or operate in global production networks (UNIDO, 2020).  GVCs can offer substantial benefits that support wider economic development for suppliers and host nations through a process known as upgrading. That is, where “economic actors – nations,   firms and workers” transition from low-value activities to higher value-add activities through participation in GVCs (Gereffi et al. 2005). Upgrading can lead to both economic and social outcomes and is considered a development strategy in its own right.

 For example, suppliers can ‘learn’ from lead firms the well-established processes, products and technologies used by global buyers. Benefits may include direct adoption as part of the contractual agreement and include training. More broadly economic upgrading includes “changes in business strategy, production structure and technology, policy and the organization of markets” and can demonstrate “supernormal returns on innovation” (Bernhardt & Milberg, 2011; Gereffi et al., 2005).  

Humphrey and Schmitz (2002) identify four types of upgrading, including:

  1. Product upgrading, or moving into more sophisticated/high-value product lines;
  2. Process upgrading, transforming production processes by reorganizing the production system and/or using advanced technology;
  3. Functional upgrading, which entails acquiring new areas of activity (or abandoning existing activities) to increase the overall skill; and
  4. Intersectoral or chain upgrading, in which firms move into new but often related industries.
Economic Upgrading move to a more profitable and/or technologically sophisticated capital- and skill-intensive economic niche (Gereffi, 1999)”

Social upgrading “the process of improvement in the rights and entitlements of workers as social actors by enhancing the quality of their employment” (Barrientos, Gereffi and Rossi, 2010).

Economic upgrading can also translate into social outcomes, known as social upgrading. By which the gains from economic upgrading (improvements in employment, wages and labour standards) are distributed more broadly though income multipliers and improvements to institutional frameworks to grow social welfare and living standards. Firms from developing countries may also achieve social upgrading whereby local firms and host nations adopt more progressive institutions as a condition or a by-product of working with the lead firm (Hernández & Pedersen,  2017).

However, both processes require a purposeful approach. Where host governments and other actors have not been conscious to capture the potential outcomes, benefits have not trickled down (Bernhardt & Milberg, 2011). Additionally, evidence shows, that global buyers do not necessarily facilitate functional upgrading and it requires host nations and suppliers to recognise the “connection between economic and social upgrading” to advance in the design of institutional, industrial and commerce policies, regulations and taxation to capture the benefits on offer (Bellhouse  & Salido, 2016).

What can policymakers do

The GVC framework changes the way that firms create value and operate in a global economy. While there are issues that stem from asymmetry in information, capabilities and power. If links in the chain are designed purposefully, it can support win-win outcomes for lead firms, host nations, suppliers and employees.

 The following offers a list of questions that policymakers can ask when undertaking GVC analysis:

1.       What is the structure of the GVC? Where are buyers and suppliers located geographically? Who are the key global players in terms of countries and firms? How concentrated is the market?

2.       Where does power and value come from in the chain? Does it stem from the design and aesthetics of the product (i.e., apparel) or does it depend on functionality, technological innovation and/or the flawless interplay of complex systems to operate (i.e., airplane)?

3.       What are the objectives of the host nation? To increase exports? Provide more (or better) employment opportunities? Transfer knowledge to domestic firms? Understanding GVCs is critical for knowing when to attract foreign investment or support the growth of domestic firms.

4.       Where does the host nation currently fit within this global and regional landscape? What are your options to improve positioning or create new opportunities in related industries (i.e., upgrading) (Frederick, 2017)?

5.       What opportunities and learnings can be gained from the lead firm. E.g. FDI, training, employment contracts, local procurement, joint ventures, R&D partnerships, tax reform, labour regulations etc.

6.       What local production and trade networks operate that can help to link large and small suppliers into local value chains. What can be done to create new or alternate links in the chain to promote diversified outcomes and improve access?

7.       What performance requirements and standards has the lead firm set as a condition entry and mobility within local contracts? What interventions and pressure points that allow for change in these contracts and within the local economy? What can be done to improve knowledge, technology and resources flows to make all firms in the chain more productive (Gereffi, 2014)?

Book references

Rodrigue, J-P et al. (2017) The Geography of Transport Systems, Hofstra University, Department of Global Studies & Geography

William Milberg; Deborah Winkler (2013) Outsourcing Economics: Global Value Chains in Capitalist Development. Cambridge University Press

CREATING VIBRANT TOWN CENTERS AND MAIN STREETS: Part 2

Photo credit: News Corp Australia

Part 2 – Action

Over the last few years, Western Australia’s (WA) main streets and town centres have suffered from economic downturns, capital works, investments in out-of-town precincts and outer suburbs developments. However, main streets and town centres play a big role in the social and economic development of places and in the lives of people who live there. WA needs to reconsider the role and function of its main streets and town centres in the way they shape and support the quality of life for the community. 

Main streets and town centres should reflect the character and persona of its residents, businesses and organisations; and be inviting to visitors and the wider community through a diverse and unique offering. They need to be re-envisioned as activity-based communities where people can gather and service their needs to support their communities wellbeing into the future.

This report is delivered in two parts using a combination of literature and observations to examine the perceived issues (Part 1) and possible actions (Part 2). The report is not intended to be comprehensive, and there will likely be much more that can be said on the topic. It also does not discuss the interventions that governments and communities have already supported, such as extended retail hours, alcohol licensing, community events and the town team movement that has already built substantial community vibrancy.

The following offers a list of potential action areas to support the development of vibrant town centres and main streets.

ACTION

1. Defining a sense of place and good growth

Town centres and main streets need to be curated and their regeneration planned in accordance with the broad principles and values that reflect the community’s sense of place, future aspirations and needs in an inclusive and sustainable way. This is good growth and it must include future-proofing and provide the necessary public facilities and services (for example technology, health and education facilities and public space) to support the functionality, connectivity and sustainability of a community into the future.

In addition, good growth must be shaped by a community’s local narrative. Narratives can be constructed from an examination of a community’s attachment (perception, attitudes, and values) to a place. This includes the community’s identity and belonging, social factors, relationship to the environment, sense of opportunity, function within the local catchment and how they want to be perceived by the rest of the world. 

2. Planning for the future

Technology is penetrating daily life more and more, reshaping the way people live. Planners must also recognise the impact that technology is having on town centres in areas such as retail, work, leisure, hospitality, health, social care, services and residential links (Rozek & Giles-Corti, 2017). Planners will only succeed if they understand, incorporate and plan for technology innovations in their work. This includes: 

  • the retail sector, the way customers purchase and business promote their products;
  • locational flexibility, office activities are now able to take place in a range of location such as at home and cafes;
  • a variety of travel substitutions, including video conferencing, rideshare, electronic bikes and electric cars;
  • restructure of organisations, away from corporate hierarchies to collaborations, co-working, and multi-use space and products; 
  • efficiency improvements, including smart city infrastructure such as GPS, real-time traffic updates, smart bins and watering system; 
  • community engagement, new platforms such as mobile technology to exploring solutions to urban issues and seek community involvement; and 
  • data-driven planning system, making proposals more transparent and outcomes more certain for all parties involved (Krakenbuerger, 2020; Rodrigue, Comtois & Slack, 2017).

3. Policy and rates

In order to deal with the many challenges faced by town centre and main streets, such as the expansion of online shopping and out of town developments, policies should be used to help achieve social, environmental and economic objectives. For example, town centre focused initiatives may include:

  • Incentivising investment in property: encourage businesses to invest in their property to support regeneration;
  • Buy local strategy: local procurement regulations, guides and campaigns;
  • Town centre first policy: to encourage development in the town centre over out-of-town developments;
  • Use class and permitted development rights: greater flexibility and support to change use classes to support business development, use and  innovation;
  • Parking: review parking restrictions to understand where traffic and consumption may flow to, what alternative travel is in place; and
  • local markets: support for new market traders starting up businesses and better promotion of local markets (Housing, Communities and Local Government Committee, 2019).

4. Engagement

Planning and large-scale structural change requires local engagement to create visionary strategies and empower change. Wide community consultation and collaboration is essential to high street and town centre regeneration and will require broad investment and effort.

Lots of different stakeholders all have a vested interest and therefore engagement should include a cross-segment of government, private sector, community organisations, service providers and residents. Local authorities should support frequent open dialogue to identify emerging issues before they become crises, resolve local businesses before businesses close or relocate, and to identify creative and strategic opportunities. Local community development networks and support organisations should be involved in identifying community stakeholders, their particular interests and needs and how best to engage with them (Community Places, 2014).  

5. Appropriate powers

To enable the community’s vision and support revitalisation, some places will need to activate large-scale structural change led by the local authority. Local authorities will need to understand their functional areas but also have the power to drive the vision. This may include: 

  • planning and compulsory purchase to support new housing, workspaces and public realm; 
  • investment in physical and digital infrastructure; 
  • improvements to transport access and  traffic flow; 
  • support business change of use and 
  • housing densification (Housing, Communities and Local Government Committee, 2019).

Local authorities must also consider their other levers such as policy, regulation and rates to promote regeneration and economic growth.

6. Density creates intensity

Over the last 15 years, most metropolitan governments have been on an infill agenda, however,  it is high-density that really makes main streets buzz. High density enables more affordable living, social equality, reduced commutes and improved health and environmental outcomes (HODYL, 2019). Density is achieved through a combination of well-designed mid-rise apartments (roughly six storeys) that are close to shops, services, public transport and places of employment. High density also requires the community to reconsider the role of the car and governments to understand what a functional and sustainable urban lifestyle requires (Croeser & Gunn, 2020).

7. Activity centres

While governments can plan for density, it also has to be likeable. Town centres and main streets play an important role in servicing the neighbourhoods that surround them, making them liveable and lively. Activity centres offer a mix of experience and offerings within short reach such as jobs, services, retail, food, recreational opportunities and nature. They range in size, from local neighbourhood shopping strips to centres that include universities and shopping centres (DELWP,2020).  

Activity centres support the “decentralisation of jobs, encourage better integration of transport and land use and ultimately aid the evaluation of a more compact, consolidation and connected” places (Moniruzzaman, Olaru, Biermann, 2017).  Thus, they require strong public transport connections that seek to develop the centre as a transport node. Governments should also look to identify or develop a community anchor or hub within main streets and town centres to centralise activity. To do this local governments may need to assess who is in their community, what their community requires and when, what the experience is like and how easy it is to access. 

8. Healthy and Green 

Communities work best when they support walking over driving and offer green spaces that are well designed, creatively delivered, accessible to all.  They become healthier communities through increased exercise, less pollution, climate cooling, and increased mental health outcomes. Bigger places may want to consider the concept of the 20-minute centre which suggests that all journeys (public, private, shared or active) in a catchment are completed in less than 20 minutes (Hansen & Stanley, 2020).

9. Supporting local business

Many local authorities are active in supporting their businesses as part of promoting local economic growth (LED). LED programs are designed to enhance and support retail and further a place’s long-term vision for the town centre and develop partnerships with local businesses. local authorities can do this by convening business groups or working with existing groups to consult in their strategic planning, seek input on initiatives and support and partnership to implement. Specific initiatives may include grants and business rates discounts for new or expanding businesses; business networking and forums; pop-ups to activate vacant space within the town centre; joint promotion and events; business mentoring; start-up capital, co-working, and advice; and support to promote digital entrepreneurship and develop e-business services (PWC, 2016). 

10. Landlords

Landlords are an important part of a town centre key stakeholders. Local authorities need to provide frequent information and host transparent conversations with landlords to help them to support landlords to understand local development goals, market trends and support them to take an active role in engaging with their tenants. Local authorities can also support landlords through regeneration incentives such as relief on capital developments and business/land rates; or supported to offer flexible tenancies, redevelopment and reconfiguring of property, and mixed-use applications. 

11. Capital & revitalisation works

At some point, all places will require capital works and revitalisation. Both of which can have a massive impact on both the financial and mental health of local businesses. To ensure limited negative effects on businesses, a strategic, consultative and empathetic process is required. For example:

  • Planning – different levels of government need to contribute to the planning and development of capital upgrades to identify if multiple works can occur at the same time. In addition, works should be scheduled for the ‘off-season’ and ensure access for customers when work is underway.
  • Communication – is central both before and during periods of works. Governments should develop multi-stakeholder communication plans that inform businesses, landlords, customers and residents. Key messages and consultation points should include the program of works and impact, the anticipated positive impact, promotion opportunities, information to the local community that shops are still trading, and key messages for landlords. Communication should occur, through project newsletters, emails, website information, apps and face-to-face.
  • Incentivising and mitigations – Develop local incentives to support businesses to make the most of the situation or to support ongoing business. Activities may include supporting businesses to shift and promote business on online platforms, collaborate to develop promotion opportunities, apply for pop-ups in non affected parts of town or at markets, and negotiate line of credit and payment schedule with suppliers and landlords. While governments can help to provide signage, grants to businesses to support remodel/refurbish during the construction period, and encourage people to continue to visit the area such as temporary markets, information booths murals or artwork display, specials for construction workers and customers and kids activities.

CREATING VIBRANT TOWN CENTERS AND MAIN STREETS – Part 1

Photo credit: News Corp Australia

Part 1 – Issues

Main streets and town centres play a big role in the social and economic development of places and in the lives of people who live there. They are places where people work, shop, eat, drink and live. Therefore they contribute significantly to the health, well being and living standards of a community.

In Western Australia (WA), natural amenity has always been WA’s strongest comparative advantage, with pristine beaches, ancient forests’ and mineral-rich, ruby landscapes. However, our town centers and main streets lack that same draw and today, they are struggling to be vibrant places that support community connectedness and quality of life. 

Poor planning, capital works, globalisation and technology change have eaten away at the centrality of WA’s town centres and main streets. Shopping centers have become de facto town centers based on mass consumption, global brands, and car access.  As a result, WA’s town centres have seen sustained shop closures, indistinguishable offerings, reduction in community uses and localised jobs. However, planners, governments and community are all interested in making these places more desirable, vibrant and livable. Town centres and main streets need urgently to adapt, transform and find a new approach in order to survive.

This report is delivered in two parts using a combination of literature and observations to examine the perceived issues (Part 1) and possible actions (Part 2). The report is not intended to be comprehensive, and there will likely be much more that can be said on the topic. It also does not discuss the interventions that governments and communities have already supported, such as extended retail hours, alcohol licensing, community events and the town team movement that has already built substantial community vibrancy.

ISSUES

1. Shopping centres and attraction precincts

Shopping centres and the emergence of multi-attraction precincts have become de-facto town centres, offering a mix of retail, dining, activities, and parking all in one convenient location. Often located outside of the town centre where land is cheaper, they have shifted activity from our main streets and town centres. However, these precincts, but are generally based on consumption and add very little to community connectedness and social outcomes.

 2. Online retail

Ecommerce is booming, changing the way people shop. It is anticipated that by 2021, Australians will spend $35.2 billion online each year, fast becoming a big threat to brick-and-mortar retailers (Australia Post, 2019).  Customers may undertake ‘showrooming’ to view an item and then buy the item online at a discount. The flipside of this is  webrooming, where customers search online before purchasing in person. While neither are new trends, eCommerce is rapidly growing and many small businesses have not adapted their business model. In reality, most retailers today require a multichannel strategy to reach different demographics and to allow customers to purchase on their own terms (Williams, 2019). 

3. Big brands 

The emergence of global and national retail and food chains have been used as an attraction ‘anchor’ for town centres and main streets by creating a signal regarding brand quality and certainty. However when town centres become dependent on global/national retail and food chains, they can crowd-out smaller businesses such as local boutiques and cafes for several reasons. For example, big brands may:

  1. their purchasing power to drive down the cost of their products to lower consumption costs which smaller businesses find hard to compete with; 
  2. typically afford larger rents and are thereby favoured by landlords and local authorities; and
  3. have a limited impact on local wages as profits are not held locally, and typically do not reinvest profits into the local economy.

Thus there to be more recognition of the dynamic relationship between small businesses that offer the vibrancy and uniqueness that attracts customers which then harness big brands.

4. Suburban landscapes

WA’s dependence on the low rise suburban lifestyle does not create the density required to enable the spark and liveliness seen in places such as European centres and global cities. Instead it creates significant urban sprawl that has a negative impact on both people and businesses. It also leads to longer commute times, higher carbon footprint,  traffic congestion, negative health impacts, and for businesses, overt peak and non-peak periods. 

Main streets and town centres require activation not just during standard business hours but also after work.  Stores, restaurants, gyms, and other businesses can only open if residents work in the centre and shop, access activities and restaurants after work. This also reduces commutes and makes more time available for exercise, community activities, and family time after work.

5. Landlords and fragmented ownership

Property owners and landlords are one of the most important as they control business entry and exits,  rents and the diversity of offering. However, their expectations can be out of kilter with the demand in the property market.  For example, landlords may favour bigger businesses or franchises that can pay higher rates, expect small businesses to match the higher of big businesses, and fail to adjust expectations after a dip in demand. If rents are out of kilter with the market, businesses may exit for cheaper rates elsewhere or indefinitely after experiencing financial hardship.

Disparate property ownership may also mean that main streets, town centres and shopping centres can be owned by a mix of individual landlords, property management firms, hedge funds and private equity. As a result, ‘fragmented ownership’ often creates a barrier to a coordinated response when challenges arise or when regeneration and revitalisation is required (Housing, Communities and Local Government Committee, 2019). 

6. Capital works

The upgrading of local infrastructure will always be required to support growing and evolving community needs. However, governments sometimes deliver lengthy capital works programs that can be destabilising for small business. Instead of upgrades facilitating vibrant community centres, capital works can have a large financial impact on local businesses as foot traffic falls along with profits and even leading to business closures.

7. Shop closures and vacancies

Main streets and town centres are made up of businesses that sell primarily to the local economy, “which includes independent shops, chain stores, restaurants, hairdressers, and services like solicitors”(Centre for Cities, 2019). Thus the health of our main streets and town centres, need to be considered as an ecosystem. That is the health of a wide range of integrated local businesses. Shop closures and vacancies are not only a symptom of a struggling main street or town centre but they are also a cause. Empty shops can signal to the market that consumption or visitation is declining. As a result, a negative feedback loop is formed through reduced investment, availability of offering, and foot traffic and consumption that can reinforce a sense (and signal) of decline and neglect.

8. Business rates

Business rates are an important source of income for local authorities. In WA, rates  generate more than $2 billion each year (My Council,2020) . While there is now greater transparency on rate payments and the financial health of WA local governments, there is considerable flexibility in how local authorities set their rates. 

As the rate system encourages local authorities to grow their local economies and to be rewarded for doing so with extra revenue, it can skew local policy. This is because additional business rates can only be generated by constructing new buildings or increasing net floor space, and can have a  negative implication for town centres as efforts are directed into out-of-centre developments, shopping centres, and bigger businesses. In addition, business rates do not take into consideration technology changes with physical retailers paying more (Housing, Communities and Local Government Committee, 2019).

The Intangible Economy: Part 1

In the past, firm investment was mainly direct to tangible assets (physical assets) such as machinery vehicles, and buildings and in the case of government, infrastructure; and production and the value of the firm increased with the accumulation of these assets. However, production capital is not just tangible assets. Firms also invest in soft capital such as knowledge, skills, research and development (R&D) and patents. These assets are known as intangible assets and today they power the new economy or knowledge economy which is driven by know-how, knowledge, human creativity and innovation (Nanayakkara, N.D).

In fact, intangible assets are becoming a major source of Gross Domestic Product (GDP) and firm competitiveness. They are the fundamental driver of economic development as they enable the production of new and better services, products and processes and drive customer, shareholder and stakeholder value (Brooking Institute, 2019; Nanayakkara, N.D).  As developed economies move away from industrial driven processes towards technology and-innovation processes, intangible investments are becoming vital to economic growth and sustainability. Furthermore, just as physical assets were used to create “more physical assets in the industrial age”, intangible assets should be used to create “more intangible assets in the information age” (Jarboe & Furrow, 2008).

Intangible assets “typically involve the development of specific products or processes, or are investments in organisational capabilities, creating or strengthening product platforms that position a firm to complete in certain markets”. Intangible assets include knowledge-related products like software, R&D, design, artistic originals market research, training, new business processes and collaboration and partnerships (Haskel & Westlake, 2017).

Tangible assets are physical and measurable assets that are used in a company’s operations. Tangible assets include plants and machinery, buildings, vehicles, furniture and fixtures, land, computers (Investopedia, 2019).

The shift from tangible to intangible

In the 1980s, the information and technology revolution began to “emerge in full force” with the development of personal computers, mobile phones, and other IT and software programs. The firms that developed these new products were different, in that the majority of their capital expenditure was focused on the development of new technology (Haskel & Westlake, 2017; Hulten, 2010).

In 2006, Charles Hulten examined Microsoft accounts and wondered why the company was worth so much. Valued at around $70 billion, the company only had $3 billion in plant and equipment assets – a mere 4 percent of the company’s value. Hulten realised that the company was worth so much because of the things we cannot touch and see. That is, its Microsoft’s intangible assets such as R&D, product design, the value of its brands, its supply chains and the human capital built up by training; and none of this included Microsoft’s office buildings or servers (Haskel & Westlake, 2017; Hulten, 2010).

Just as Hulten found, intangible assets have certain characteristics that make it hard to see, value and sell. Thus, intangibles are still not recognised fully on balance sheets or on income statements (Jarboe & Furrow, 2008).

Intangible characteristics

By nature, intangible assets are things you cannot touch and they are driven by human capabilities. For example:

  • knowledge is an unusual type of good because putting an idea into practice does not use it up and you can also not lock your asset to protect your property rights (Haskel & Westlake, 2017); and
  • fifty percent of R&D expenditure goes towards the salaries of highly educated workers such as scientists, designers, and engineers (Brooking Institute, 2019).

In addition, return on an intangibles investment is determined by the value of a final product, rather than the asset itself. Whereas, physical assets hold value and are therefore are relatively liquid (can be sold at any time) (Hall & Lener, 2009). Thus, there is something fundamentally different about intangible assets and trying to generate it and measure its value is hard.

Haskel and Westlake (2017) suggest that there are four characteristics of intangible assets that make them different and important in comparison to tangible assets – these are referred to as the four ‘S’ and include:

  1. Scalable: Intangible assets are scalable as many people can use it at once and scalability is not hindered by traditional structures such as machines to increase production;
  2. Sunk costs: Intangible assets have sunk costs, that is, there is no means to retrieve that invested funds. Intangible assets will also depreciate more rapidly than physical capital, but they deliver benefits over time, not just in the period the expenditure was made (Barnes & McClure, 2009);
  3. Spillovers: Intangible assets generate spillovers that benefit multiple businesses. As intangible are ideas or knowledge is very hard to keep secret to prevent others from copying the idea. For example, firms can poach staff, imitate or examine new technologies or drugs and read research papers; and
  4. Synergies: Intangible assets tend to be more valuable when combined with other technologies and products thereby generating synergistic benefits. For example, the microwave was the result of a combination of defence investment and household good production (Haskel & Westlake, 2017).
Tangible Assets Intangible Asset
1. They have a physical existence. 1. They do not have a physical existence.
2. Tangible assets are depreciated. 2. Intangible assets have a future-orientated payback period.
3. Are generally much easier to liquidate. 3. Are not that easy to liquidate and sell in the market.
4. The cost can be easily determined or evaluated. 4. The cost is much harder to determine for Intangible assets.
5. When they become obsolete they can be sold as scrap. 5. Don’t have any scape value.
6. Creditors and banks do accept tangible assets as collateral. 6. Typically cannot be used as credit.

 Calculating intangible value

Over time, the emergence of technology and innovation as a primary economic driver has led to a restructuring of the economy with the majority of a firm’s value now driven by investments in intangible assets (Brooking Institute, 2019). In 2006, the Australian Productivity Commission found that intangible investment was almost half the size of tangible investment of the Australian economy. While more recently, the Brooking Institute (2019) notes that the “collective knowledge of the U.S. population is worth approximately $240 trillion, far exceeding the value of other inputs to economic growth”.

However, it is widely agreed that the value of intangible investment is underestimated or not captured. Governments must reassess the way they calculate GDP and national accounting, which treats spending on intangibles mostly as a current expense (i.e. intermediate input) and not an investment.  As a result, firms cannot capitalise on the growth or depreciation of the asset; and governments are not developing enough incentives to promote investment (Hall & Lener, 2009; Australian Productivity Commission, 2010). 

See Part Two of this blog for more information on issues and what governments can do to incentivise and support more investment into intangible assets.

Investment: Assets, Capital and Financial Markets

Investment is central to the functioning of any economy. It is the process of committing time, resources and money to produce useful things in the future. Investment underpins production by business, government and individuals (Haskel & Westlake, 2018).

Investment is very important because it builds up the “capital stock”: the assets – tools, and equipment that workers use to produce the goods and services that make up economic output. An asset is an economic resource or property that is expected to provide a benefit over a period. For example, if a bank acquires a new office, it expects to get a benefit that lasts for some time. Capital is the use of assets to generate income and or an increase in the value of the assets over time.

Investment is what happens when a producer either acquires a fixed asset or spends resources (money, effort, raw materials) to improve it (Haskel & Westlake, 2018).

Capital is the use of assets to generate wealth (Haskel & Westlake, 2018).

Assets are things that have a value and can be sold in financial markets for monetary value (Haskel & Westlake, 2018).

The rate of return on capital plays an important role in economic growth as it incentivises the development and use of new assets in production (Baker, DeLong & Krugman, 2015). Capital investment generates profits for owners of capital through consumer spending, international trade and business investment which drives economic growth.

Investors are willing to develop, buy or hold assets if the rate of return compares well with interest rates on similar capital investment elsewhere in the economy. Return on capital is determined by the time to make a satisfactory return on the investment, the marginal utility of wealth as it declines over time, and tolerance of risk-reward (Baker, DeLong & Krugman, 2015).

Competitive financial markets play a central role in ensuring that capital is allocated to firms with the greatest potential to commercialise new processes and technologies thereby incentivising and fast-tracking technological innovation (Kerr &Nanda, 2014). Businesses and investors go to financial markets to raise money to grow their business and to make more money, respectively (CFI,2019). However, it is worth noting that financial markets only distribute income generated by activity and do not add to that income.

Marginal utility the added satisfaction that a consumer gains from consuming additional units of goods or services (Investopedia, 2019).

Financial markets are a type of marketplace that provides enables the sale and purchase of assets such as bonds, stocks, foreign exchange, and derivatives (Investopedia, 2019).

There are many financial markets and they vary in size. For example, formal markets include:

  • Cash: banks and other financial intermediaries that offer debt loans.
  • Bond or money market: offers opportunities for companies and the government to secure money to finance a project or investment
  • Stock market:  trades shares of ownership of public companies.
  • Commodities market: where traders and investors buy and sell natural resources or commodities such as corn, oil, meat, and gold.
  • Derivatives market: involves derivatives or contracts whose value is based on the market value of the asset being traded such as futures contracts or options.
  • Forex Market: where currencies are traded and considered the most liquid market in the world as it trades cash assets.

Issues

However, there are flaws in these formal markets. For example, it is much harder to fund research and development and start-ups because of the high-risk nature, early stage of development and lack of cash flow. Thus innovation and early-stage business investment might happen through friends and family, angel investment, venture capital, equity crowdfunding and credit card debt.

In addition, firms controlled by private equity and venture capital firms, may not aim to produce new things but to maximise the value of their own shareholders through share buy-backs and short term trading, rather than long-term investments (Mazzucato, 2018).

Financial deregulation and a growing financial sector and products, some markets are able to generate their own revenue and profit without contributing to gross domestic product. New and complicated financial instruments, such as securities and derivatives, allow owners and traders of these products to get rich by capturing value from other sectors, rather than by creating value (Mazzucato, 2018). For example, the futures market allows investors to trade on the potential future value of a bond rather than holding and using that asset to produce additional value.

Finally, capital owners can extract more profits is to identify markets where there is limited competition such as in monopoly markets. Or by holding assets that do not require them to be productive or contribute to production outputs which are called rent-seeking. Both harm economic growth by reducing competition, innovation, and investment in new and better assets. They also waste valuable resources and talents and redistributes capital to the wealthy and powerful (Wong, 2016).

Monopolistic market: only one company may offer products and services to the public and as a result can restrict output, raise prices, and enjoy super-normal profits in the long run (Investopedia, 2019).

Rent seeking occurs when an entity seeks to increase one’s share of existing wealth without creating new wealth or value Wong, 2016).

Understanding Job Creation: Part 3 Firms

How firms form, grow, decline and exit are all critical factors in job creation and economic growth. Economists have been studying which firms are the highest job creators in order to target policies to support the most effective businesses to create jobs.

Mature Firms

The term mature firm refers to the growth phase of a business that is “well-established in its industry, with a well-known product and loyal customer following” (Kenton, 2019). Mature firms generally have slow and steady rates of growth and face constant competition.

Mature medium and large firms that account for most employment (about 45 percent) and most job creation and destruction (Haltiwanger et al, 2010). Most people believe that firms with the “most jobs create the most jobs;” however, these large businesses typically grow at around about 1-2 percent per annum (Arslan, 2011). Goswami, Mevedev & Olafsen (2018) explain that large ‘incumbent’ firms can lack the ability to adapt and innovate from a too greater focus on existing products and services; and therefore they are not job creators once established.

Conversely, small businesses make up (over nine in ten) of Australian businesses. They generate “33 percent of Australia’s GDP, employs over 40 percent of Australia’s workforce, and pay around 12 percent of total company tax revenue” (Commonwealth of Australia, 2016).  However, they typically pay the least of all sectors small businesses are often associated with negative net job creation and are the least likely source of job growth. This is because small businesses may have low productivity, operate in declining markets or they may not be inclined to grow (Haltiwanger et al, 2010).

This is not to say that mature firms of all sizes are not important, as they certainly play a role in the traded economy, underpin existing competitive advantages and clusters, support innovation and stable employment. It’s just that from a job creation perspective, they have limited capacity.

Start-ups

A start-up is often misunderstood for simply a small new business; however, there is a difference between the two. A start-up is a saleable new firm that is working to solve a problem and capitalize on developing a product or service which they believe there is demand for (Grant & Kenton, 2019).  While a new small business may be operating on a traditional businesses model, has limited scalability and are producing goods and services that are already available in the market.

Start-ups typically exist in high-tech or financial sectors but not exclusively, and therefore often in the tradable sector. Start-ups are also more innovative than any other business due to reasons such as:

  1. Fewer barriers to entry (i.e. they aim to commercialise new ideas);
  2. Start-ups choose higher risk strategies and can ‘pivot’ more easily to adapt to markets demands or gaps; and
  3. large rewards for successfully starting a business and commercialising an innovation (Acs & Audretsch, 1988; Koutroumpis, Leiponen & Thomas, 2017; Lerner, 2012).

By nature, all start-up firms operate in a volatile environment as they test their products and services on the market, build an appropriate business model to scale. Start-ups face what is known as the valley of death, an ‘up or out’ dynamic, which forces a young business to manage a negative cash flow before their new product or service generates revenue from real customers (Forbes, 2013). As a result, start-ups are more likely to exit and therefore they also disproportionally contribute to job destruction. In fact, it is estimated that 90 percent of start-ups fail and that after five years, many of these young start-ups destroy nearly half of the jobs they created (Patel, 2015; Haltiwanger et al, 2010). Nevertheless, the surviving firms continue to ramp up, growing faster than more mature firms, and continue to create a disproportionate share of jobs relative to their size.

High Growth Firms

Recently, words such as gazelles and unicorns have been used to describe young and small firms that have continued to grow strongly beyond the start-up phase. Referred to by academics as high growth firms (HGF), they have drawn a lot of attention because of their ability to stimulate growth and job creation. In addition to this, they also generate significant spillovers such as knowledge, innovation and inspire entrepreneurship that benefit other businesses and support start-ups (Goswami, Mevedev & Olafsen, 2018).

High Growth Firms: There is no single definition of a HGF and what constitutes an extraordinary growth rate. However, most agree that a firm that is able to increases its revenues by at least 20 per cent annually for three years or more is considered high growth (Financial Times, N.D.; Kenton, 2018b; OECD, 2012).

HGF makeup on average between 5 percent and 10 percent of all firms and create around 50 percent of all new jobs (Financial Times, ND). Economists found that HGF generated revenue nearly twice as fast as GDP (Evans, 2017). These figures are relatively consistent across developed nations (e.g. UK, US, Australia); however, in developing nations HGF can make up to 20 percent of firms and “generate as much as 80 percent of all new sales and jobs” (Goswami, Mevedev & Olafsen, 2018).

Goswami, Mevedev & Olafsen (2018) advise that while HGFs are typically young, they do not have to be and they are not necessarily small. Research from the UK found that the majority of these HGFs have less than 50 employees but were relatively established in the market and just over five years old. The high growth episode typically starts post start-up stage and most HGF are not able to sustain this growth past five years. Therefore, HGF do not remain strong job creators in the long term. HGF were also found to operate in all industry sectors (e.g. food, health), not just the technology sector and pop up in all sorts of diverse geographical areas, responding to local challenges and opportunities (Fetsch, 2016; Goswami, Mevedev & Olafsen, 2018, OECD, 2012). Thus, policy must take into consideration the creative destruction dynamic and as a result, policies targeting HGF policies targeting can be misguided (Duranton, 2012; Goswami, Mevedev & Olafsen, 2018).

Support

Governments around the world now widely recognise the powerful link between HGF firms and innovation, job creation and international competitiveness. Most are now actively reviewing policies, laws and taxes to support new firms to start and achieve this growth episode (European Commission, 2012; Goswami, Mevedev & Olafsen, 2018). However, both government and professional investors such as venture capitalists, are “notoriously bad” at picking these businesses and a HGF can typically only be identified once it is in a growth run (Goswami, Mevedev & Olafsen, 2018).  Nevertheless, it is important for governments to understand how these firms are established, what drives them and ways to encourage more business growth in order to design effective interventions.

Academics and institutions (Goswami, Mevedev & Olafsen, 2018; Lerner 2012; Marrugo-Salas, 2018) agree that instead of working with individual firms, efforts should be directed towards building the entrepreneurial environment. There is broad agreement that there are a number of determining factors that support HGF and job creation more broadly. These include:

  • the proximity to suppliers and customers;
  • contact and exchange with research and development (R&D) institutions;
  • access to financial resources;
  • economics of scale (industrial agglomeration);
  • managerial capabilities and worker skills;
  • global linkages; and
  • entrepreneurial and creative culture.

Finally, to help policymakers’ structure policies that support firm’s innovation and economic development, Goswami, Mevedev & Olafsen (2018) call for policymakers to focus on stimulating factors such as “innovation, agglomeration and network economies, managerial capabilities and worker skills, global linkages, and financial development, which contribute significantly to increasing the probability of a high-growth episode”. To do this, they propose an “ABC framework”:

  1. improving Allocative efficiency e.g. productivity improvements, labour flexibility, start-up regulations, logistic networks, land use allocations;
  2. encouraging Business-to-business spillovers e.g. industry clusters, smart specialisation, technology parks and export markets development; and
  3. Strengthening firm Capabilities training, R&D, financial incentives, advisory services, incentives, promotion and awards, incubators and accelerators.

Understanding Job Creation: Part 2 Industry

This literature review examines how jobs are created to identify consistent themes, dynamics and determinants that government can apply to develop meaningful policy and initiatives. You can read Part 1  here which examines how places create and destroy jobs. It finds that agglomeration is a driving force behind structural change, economies of scale and how places grow and create jobs.

Traded Jobs

Economic growth and job creation has been strongly linked to the traded sector – that is, firms that derive income from exporting (Mc Andrew, 1995). This is because investment and job creation in the traded sector is new money which flows through to increase demand for local services and goods, generating additional jobs. Bacchetta and Stolzenburg (2019) found that in most advanced nations, more than 50 per cent of jobs are underpinned by traded industries.

Traded sector refers to “businesses are those that sell their output in competition with businesses in other states or nations”.

Local sector refers to businesses that “sell their goods and services primarily or exclusively in a local market. By definition, local businesses tend to be sheltered from competition from other places” (e.g. local shops and restaurants) (Cortright, 2017).

Cortright (2017) finds that education and skills can be specifically attributed to “two-thirds of the variation in per capita income” of a city. While there are many well educated and skilled people employed in the local sector such as doctors and lawyers, those jobs are found in most locations and are proportional to the size of the population (Cortright, 2017; Delgado & Mills 2018). Therefore, the difference in income levels is derived specifically from the additional benefits gained from concentration of highly skilled – high paid jobs in the traded sector. This is because, traded industries typically agglomerate or cluster in one location due to the specific benefits that certain places offer. These include specific workforce specialisation, economies of scale and market access (Delgado & Mills, 2018; Florida, 2008; Hausmann et al, 2007; What Works Centre for Local Economic Growth, 2019). In addition it has recently been found that firms that cluster and network along the traded supply chain are more innovative and support significant job creation (Delgado & Mills, 2018).

Employment Multiplier

A healthy traded sector directly benefits the whole economy by creating well-paid jobs and indirectly creating additional jobs in the local sector (Cortright, 2017; Delgado and Mills 2018).This dynamic is known as the employment multiplier and there are three types, including:

  1. “in tradable sectors (that sell mostly outside the local economy);
  2. in tradable skilled and high-tech sectors, specifically; and
  3. in the public sector” (What Works Centre for Local Economic Growth, 2019).

The size of the multiplier is determined by the extent to which the new jobs add new value and supports a desirable economic restructuring. Research What Works Centre for Local Economic Growth, 2019; Cortright, 2017; Delgado and Mills, 2018; Mc Andrew, 1995; Moretti, 2012) has consistently found that the higher skilled a job is in the traded sector, the greater impact on job creation. Moretti (2011) found that high skilled, traded jobs in the US, such as a job in the technology giant, Apple, created five additional jobs in the local sector. Two of the jobs created by the multiplier effect would be professional jobs such as a doctor or lawyer—and the other three would be in non-professional occupations such as restaurant workers or retail. More explicitly, the What Works Centre for Local Economic Growth (2019) found on average that:

  • a traditional traded sector job create a job multiplier of 1.9 jobs in the local sector;
  • a higher skilled traded sector job created 2.5 jobs created in the local sector; and
  • a new government job created only 0.25 jobs on average in the private sector[1].

Supply Chain Industries

A recent study by Delgado & Mills (2018) found that supply chain industries (i.e. business-to-business or business-to-government) are a very important segment of the economy and critical to both job creation and innovation. Delgado & Mills found that supply chain industries created over 53 million jobs or 43 per cent of the US employment in 2015 and had the highest percentage of science, technology, engineering and mathematics (STEM) jobs at 81 per cent. The highest value creators in the supply chain were not the businesses producing parts but providing “supply chain traded services, such as in engineering, computer programming, and design” (Blanding, 2019).

Supply chain refers to an interrelated group of “individual suppliers that feed companies with the goods and services necessary to create products for consumers and businesses” (Blanding, 2019).

Delgado and Mills (2018) attribute the benefits derived from supply chains to three main reasons. That is, supply chains:

  1. produce specialised inputs which generate new knowledge and leads to innovation;
  2. by nature have a large number of linkages to many different downstream industries responding to market directions and diffusing innovations more efficiently; and
  3. lead to co-location or clustering which supports innovation and growth of the industry as they share ideas, concentrate talent; attract capital and generate economies of scale.

Thus, the examination of traded industries and supply chains provide a new and important frame for industry development, innovation and job creation.

 

 [1] Gonzalez-Pampillon (2019) also noted that government jobs were found to have a crowing out effect in some cases and cautioned that the relocation of government jobs did not have a net job gain.

 

Understanding Job Creation: Part 1 Place

Introduction

This four-part literature review examines how jobs are created to identify consistent themes, dynamics and determinants that government can apply to develop meaningful policy and initiatives. Part 1 which examines how places create and destroy jobs. It finds that agglomeration is a driving force behind structural change, economies of scale and how places grow and create jobs. Part 2 examines new research into the specific role of industry in job creation, noting that the traded industries bring wealth into an economy that flows through to increase local demand and create new jobs. This effect is known as the job multiplier and the more skilled a traded industry is, the higher the multiplier will be. Part 3 examines the age and size of different business segments to determine which firms have the greatest impact on job creation. It finds that small and young businesses, disproportionality create new jobs. Finally, Part 4 identifies the consistent themes emerging from literature and presents a framework to support government policy and initiatives.

Dynamics and determinants:

Dynamics and determinants (2)

 

PART 1: Place

Geography Matters

Geography matters for the future of job creation, as jobs are becoming increasingly concentrated in certain places (OECD, 2018). In particular, small and rural towns are distinctly shrinking as residents relocate to more prosperous areas such as cities.

As nations become more developed, the economy shifts from agricultural to industrial to service-oriented and to technology automation. With new ways of production focused on the generation of ideas (rather than goods) and economies of scale, fewer workers are required in rural areas where traditional production remained concentrated (World Bank, 2009; OECD 2018). This dynamic is known as structural change and it leads to structural unemployment – the worst type of unemployment. Over time, displaced workers typically shift to labour markets where there are more job opportunities, higher wages and access to retraining (Bivens, 2018). Places that are not able to adapt to changing technology and create new jobs, will begin to decline as they often lack the skill profile to transition their economy (OECD, 2018).

Structural unemployment is a “longer lasting form of unemployment that is caused by fundamental shifts” in an economy caused by factors such as technology, competition and government policy (Kenton, 2018). Due to this shift, workers lack the right skills demanded by their current employer or the local labour market and live too far from other regions where jobs are available (Bivens, 2018; Kenton, 2018).

However, structural change can also be desirable as it can enable an economy to transition from low skill to high-skilled, high-value production. Structural change can facilitate a wave of “creative destruction” which supports productivity improvements at the firm level and drives long-term economic growth and job creation at a macro level. However, early recognition of the opportunities and risks is required to develop a range of innovative initiatives that build economic capacity to respond and restructure (Henry & Medhurst, 2011). Foray (2015) suggests that it is important to look at the aggregation of production in a region to identify where industry and government can work together to shape new opportunities or support the restructuring of industry through new ‘entrepreneurial discoveries’.

Creative destruction “refers to the incessant product and process innovation mechanism by which new production units replace out-dated ones. This restructuring process permeates major aspects of macroeconomic performance, not only long-run growth but also economic fluctuations, structural adjustment and the functioning of factor markets (Caballero, N.D)”.

Why Do People Move?

Larger and denser settlements such as cities offer more diverse and higher paid jobs; and talented people are more able to move to take up opportunities (Florida, 2008). The more educated you are the more able you are to move for work, with 1 in 4 university graduates doing so. While there are personal drawdowns from relocation such as family relationships, most people will earn higher wages, access new networks and other opportunities (Florida, 2008).

In addition, people who move, such as immigrants tend to be more entrepreneurial and are natural risk takers, born out of either choice or need. They are more open to new opportunities, resilient and importantly, they bring their unique perspectives and experience – a winning combination for innovation and venture creation. Wines (2018) notes that “over 40 per cent of firms in the United States (US). Fortune 500 list were founded by immigrants or children of immigrants.” While a United Kingdom (UK) study found that “immigrants are twice as likely to be entrepreneurs” and that “one in five UK tech start-ups is founded by immigrants (Wines, 2018).”

Thus cities become a mixing pot of entrepreneurs, designers and creative people, engineers, financiers, industry professionals and academics – all highly skilled and motivated to share ideas (Florida, 2008). And it is these entrepreneurial people, who create jobs twice as fast as established firms (Wines, 2018).  In combination with the productive advantage that cities offer through production and distribution economies of scale, they are primed to become a “hub for innovation” and an “engine of prosperity” (Duranton, 2012; Moretti, 2012).

The Agglomeration of Jobs

Places that are able to build an economic advantage based on high-value industries become a hotbed for job creation because of the benefits gained from workforce capacity and industry co-location and proximity to markets. These benefits include concentrated and varied infrastructure, strong networks to support market access, increased venture creation, higher wages and an attractive lifestyle and culture through diversity of service offerings (Moretti, 2012). These dynamics form what is known as agglomeration and agglomeration is strongly linked to job growth, high productivity and innovation (Clarke & Xu, 2013; Goswami, Mevedev & Olafsen, 2018; Moretti, 2012).

Agglomeration is derived from the benefits that are gained from co-location and proximity and include:

  • localization – being near other producers of the same commodity or service;
  • urbanization –  being close to producers of a wide range of commodities and services; and
  • capacity – the size of the local market, the national market, access to international markets  (Clarke & Xu, 2013; Glaeser, 2010; World Bank, 2009).

The World Bank’s Comprehensive Worldwide Business Survey found that agglomeration forces were more important to job growth than the overall business environment (Clarke and Xu, 2013). This is not to dismiss the business environment, as elements such as labour regulation, access to finance and local skill levels were also found to be important to business expansion and employment.

Agglomeration is a reinforcing dynamic that generates ‘increasing returns’ through increased concentration of activity, skills and infrastructure. As workers and entrepreneurs are attracted to places because of job opportunities, higher wages, networks and market access, it builds the economic capacity of a place though diversity of skills, increased resources and services, knowledge spillovers and economies of scale (Duranton, 2012). These positive externalities lead to the economy as a whole becoming more productive, innovative and driving up wages. Thereby, continuing to attract more people and increase firm and job creation.

However, agglomeration does not happen automatically and jobs need to be continuously created to address creative destruction, import competition and compensate for the natural the turnover of firm entries and exits (Foray, 2015). Thus, the dynamics of firm and job creation is also shaped by places functionality (Duranton, 2012). According to Polèse (2009) there are seven determinants of agglomeration, these include:

  1. Economies of scale in production and production processes – concentration of production facilities and firms close to their workers and suppliers;
  2. Economies in scale for trade, transportation and distribution facilities – infrastructure that supports more accessible networks and lower unit costs;
  3. Proximity to markets and opportunities to access new market – to enable firm expansion and market growth;
  4. Industrial clusters – benefits that firms receive by being located close to other firms in similar or interconnected industries such as labour pools, specialisations, branding, spillovers;
  5. Diversity – to enable reliance, spillovers and spinoffs;
  6. Centrality – creating a centre and density for trade, collaboration and networking; and
  7. Creativity and culture – innovation and sense of place that draws people to each other.

Skills, Spillovers and Scrabble Theory

While agglomeration draws workers and entrepreneurs together to support productivity, innovation, and firm creation, workers need to have the essential skills and capabilities in the first place to respond to opportunities. Although this relationship has been well understood for a long time, there are many dynamics involved.

The more educated a city is, the more able it is to adapt to structural changes and identify new opportunities (Cortright, 2017). This is because the more educated workers are, the more productive, knowledgeable and adaptive they are. In addition, skilled workers are able to command a high wage premium as they are critical to a firm’s competitiveness. Thus at a place level, the more skilled jobs a place has, the larger the employment multipliers are (derived from high wages) and innovation spillovers (derived from knowledge and learning) that flow on to other industry sectors to support job creation (Gonzalez-Pampillon, 2019; Muro, 2012).

Hausmann et al (2007) have likened this dynamic to a game of scrabble. They note that a place’s economy is made up of different letters (skills) and the more letters you have the more words you can make (products). Some letters (skills) are also worth more (higher skilled) and therefore are more valuable as they help make more words (products) and more complex words (higher value products). As a result, the more diverse and higher skilled a place becomes, the more that place is able to drive innovation, job creation and offer high wages.