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Open Access 2024 | Open Access | Book

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The Rise of China’s Innovation Economy

Author: CICC Research, CICC Global Institute

Publisher: Springer Nature Singapore

Part of: Springer Professional "Wirtschaft+Technik" , Springer Professional "Wirtschaft"

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About this book

This open access book provides a comprehensive review of technological innovation in China, focusing on some existing challenges and the debate on the role of public policies in promoting innovation. Technological innovation has become a vital factor in promoting high-quality development in China. By examining the current state of and challenges confronting China's technological innovation from both the supply side (talent and R&D) and the demand side (domestic and international demand), this book offers a view on how to enhance the efficiency of industry chain while ensuring security through innovation. Public policy often plays a crucial role in shaping and improving the national innovation system when new challenges emerge. We put special emphasis on innovation in strategically important sectors, which include the digital, green, and biotech industries, as well as the manufacturing and logistics sectors that are fundamental to the working of the whole innovation system.

This book explains academically rigorous content in a simple manner, and is therefore suitable for readers from the fields of public policy, economics, finance, and innovative sectors who seek to better understand China’s path of innovation. The book cites information from various credible sources, including academic journals, policy institutions, and a network of primary sources such as industry experts and renowned academics.

Table of Contents

Frontmatter
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Open Access

Chapter 1. Technological Innovation in China: Current State and Challenges
Abstract
Technological progress and the substantial easing of international competition after the Cold War have jointly shaped the pattern of division of labor in the international industry chain over the past few decades. While serial production and network collaboration have improved production efficiency, industry chain security has gradually become a cause for concern. We believe the policy response should focus on enhancing irreplaceability domestically to address risks from international competition as countries deemed irreplaceable in the industry chain could resume production by establishing new network connections with other production partners, while countries that are less irreplaceable are at risk of being marginalized or even removed from the production network.
According to our analysis of the global value chain, China as a whole is in the downstream. In our view, on one hand, China's advantages mainly lie in low-tech manufacturing industries, exposing the country to potential horizontal risks posed by trade frictions for the purpose of decentralization. On the other hand, China's disadvantages mainly lie in primary products such as oil and medium- and high-tech industries such as software, exposing the country to potential vertical risks posed by overseas supply bans.
The key to coping with horizontal and vertical risks lies in technological progress. To clarify the future path of innovation, we believe it is crucial to examine the current state of China’s technological innovation and understand its major challenges. We take the perspective of a country’s innovation system to assess the status quo of China’s innovation activity. Regarding innovation input, China ranks only behind the US in terms of R&D spending, but still lags behind the world’s technology powerhouses in terms of R&D intensity. We think the country still needs to enhance its R&D intensity, especially in basic research that is vital for radical innovation. Talent is another crucial driver of innovation. China has a large talent base, but we believe there is room for improvement in the number of researchers per thousand people in the labor force as well as the quality of labor and structure of human capital. We believe the supply-side challenges constraining the education system and hindering the cultivation of innovators are three-fold: Uneven distribution of high-quality basic education resources, the intensified incentive system in exam-oriented education, and educational administration factors in research-oriented universities.
In terms of technological outputs, we focus on academic publications and commercial patent applications to measure China’s achievements in knowledge innovation. We compare the 30-year history of China's knowledge innovation with international experience and highlight five patterns. First, as a latecomer to knowledge innovation, China has caught up with developed countries in terms of quantity, and the gap between China and developed countries in terms of quality is narrowing. Second, China’s contribution of core innovation to global output remains limited and it lags behind developed countries in terms of originality. Third, from the perspective of conversion of achievements in knowledge innovation, industries do a good job while conversion of academic research results is relatively weak. Fourth, China tends to post strong performance (in knowledge innovation) in areas in which it has comparative advantages in international trade. Fifth, the growth momentum of China’s cooperation with foreign entities in knowledge innovation has slowed in recent years, especially in the field of academic cooperation, which deviates from the global trend.
Having examined China’s current position in the global value chain as well as its innovation inputs and performance, we use criteria of “systemic importance” and “promising development prospects” to identify three major areas for further analysis: The digital economy, the green economy, and the bioeconomy. We note that regardless of international competition, China still needs to increase R&D intensity and accelerate technological progress to achieve its medium- and long-term growth targets. Regardless of the perspective of either international competition or domestic growth, China needs to accelerate technological progress, in our view, and policy intervention is indispensable to accelerating technological innovation.
In this book, we discuss the paths to accelerating technological innovation in two parts. Three macro chapters focus on the analysis of innovation economics including the status quo (this chapter), the scale effect (Chap. 2), and the innovation ecosystem (Chap. 7). We also include four industry-focused chapters, which examine the application of innovation economics in digital industries (Chap. 3), green energy (Chap. 4), the biotech industries (Chap. 5), and supporting industries such as manufacturing and logistics (Chap. 6).
CICC Research, CICC Global Institute
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Open Access

Chapter 2. Size Matters: Economy-Wide Scale Effects
Abstract
Size matters in an innovation economy. On the supply side, a large country usually has a higher GDP and large population. A higher GDP means that both its public and private sectors can commit more resources to innovation, hence higher R&D spending. On the demand side, a large population can contribute to large domestic demand. Domestic demand from large countries benefits innovation through economies of scale, economies of scope, and wealth effects. The first channel is through economies of scale. Demand from large countries helps reduce R&D costs per unit of output and enhances incentives for production-side R&D investment. Second, economies of scope can be better achieved through sizable demand, which also contributes to innovation. Diversified demand is conducive to the success of product differentiation strategies, which in turn encourages firms to increase their investment in innovation. Lastly, wealth effect affects consumers’ participation in innovation, and also facilitates technological advancement. As consumers’ spending power continues to improve, the proportion of consumers directly participating in innovation is also rising. This raises the overall investment in R&D resources.
In addition to domestic demand (consumption) and supply (R&D spending), international trade is also a key driving force for innovation. We believe trade can foster innovation via three channels: Economies of scale, learning, and competition. First, trade allows companies to expand business scale and generate more profit, which is conducive to diluting the fixed cost for R&D and innovation. Second, companies learn advanced technologies and improve production efficiency through trade. Third, international competition encourages innovation. In our view, the boost from learning is likely stronger when companies lag behind in technological knowhow, while the momentum from competition is likely more important for groundbreaking innovations.
However, changes in the external environment in recent years may pose challenges for China. We believe deglobalization, including trade protectionism, will hinder corporate development, and make it more difficult for companies to develop advanced technologies. The US has managed to lead key technological revolutions such as semiconductors, personal computers, and mobile internet. We believe this is because US companies have leveraged the global market to promote new products and support high R&D spending, and kept improving themselves through international competition.
Despite changes in the external environment, we expect the rise of the digital economy to offer new opportunities through trade. Because of the replicability of data, the cost of data duplication is close to zero. Therefore, scale effects can be better leveraged in the digital world. We think the digital economy will also help improve human resources and talent development, strengthen the scale effect, and thus benefit technological innovation. We think the digital economy can help expand the scale of trade in both goods and services, and enable more companies to benefit from trade.
Digital economy also offers new opportunities in demand-driven innovation. We expect the digital economy to accelerate consumption-led innovation. In a digital economy, products and services are more closely integrated, further underscoring the importance of local demand. Big data helps companies effectively understand consumer needs and facilitate technological innovation. A digitalized economy provides consumers with new models of product innovation for consumer goods. A digital economy also reduces the cost of consumer participation in technological innovation and helps increase the proportion of consumers participating in innovation.
CICC Research, CICC Global Institute
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Chapter 3. Digital Innovation
Abstract
Innovation in digital industries is one of the key factors to building a country’s competitiveness. With a focus on the semiconductor industry and the software industry, this chapter mainly analyzes the path of innovation of China’s digital economy. Semiconductors are the cornerstone of the global information and communications technology (ICT) industry. The semiconductor industry has a global division of labor, with upstream and downstream players being interdependent and regional cooperation being indispensable. Although Chinese companies mainly focus on downstream intermediate products and end product assembly, we suggest China undertake a range of measures to promote innovation, especially those relating to semiconductor manufacturing. Software is also an important component of the digital economy. Currently, China’s supply of system and high-end application software may not be sufficient, and China relies heavily on imports. This current situation may lead to security risks, including import suspension and data leaks, and also may result in a lack of long-term drivers for industrial upgrades. We believe the security risk of the software value chain is rooted in inadequate technological innovation, and it is important to catch up in innovation in both system and application software.
Regarding the path of innovation of China’s semiconductor industry, we think China can step up efforts in innovation in the following two directions: More Moore’s Law and More than Moore’s Law. The former indicates that China can leverage existing mature technologies and follow the path of leading global companies. China can increase capex on mature process capacity and step up R&D on semiconductor equipment, materials, and electronic design automation (EDA) tools, aiming to eliminate the supply chain bottlenecks and improve the command of core technologies. More than Moore’s Law, on the other hand, suggests that China can highlight catching up with global players more quickly in terms of advanced integrated circuit (IC) processes; deepen its presence in potentially disruptive technologies such as new semiconductor materials, new computing architectures, and chip integration; and increase investment in the wide band-gap semiconductor materials and advanced packaging markets, in which technology advancement is more visible and the gap between China and overseas economies is narrow.
There are four major driving forces behind innovation in the semiconductor industry. Industrial policies have played a crucial role in stimulating technological innovation and driving industrial development. Many countries and regions have unveiled a variety of incentive policies to bolster the semiconductor industry, mostly consisting of fiscal and taxation measures. In addition to industrial policies, capital, talent, and technology are three indispensable elements for the semiconductor innovation.
Regarding the path of innovation of China’s software industry, system software and application software take different forms. System software innovation is an aggressive process led by scientific R&D. Setting standards for system software tends to create monopolies. It promotes innovation and requires long-term input of funds and resources. Innovation of application software happens gradually, and it is rooted in the constant feedback exchanges between users and developers. Small new entrants find it difficult to compete with the low pricing of large players, making application software an ideal target for venture capital.
Therefore, we believe that domestic software companies can innovate in the following ways. Almost all new-generation system software is open source, giving domestic companies a chance to participate in the setting of new standards. In fact, Chinese software developers are already an important part of the international open source community. We suggest that domestic companies increase independent innovation to keep up with global cutting-edge system software technology. In terms of application software, we think standardization is the key to success. Some companies in China are able to define local standards for application software, but only a few can set global standards. We believe opening up more application scenarios and clients is crucial for domestic companies to strengthen the competitiveness of their products.
CICC Research, CICC Global Institute
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Open Access

Chapter 4. Engineering Green Transformation
Abstract
We believe that the essence of technological innovation in the field of green energy lies in cost competition—i.e., the race to reduce the “green premium,” which is the additional cost of choosing an emissions-free or low-emission innovation over an existing fossil-fuel-based option. The fossil fuel era was marked by high reliance on resource consumption amid increasingly scarce resources that constantly push up the marginal cost of energy exploitation. Thus, the purpose of technological innovation was to capitalize fully on limited fossil fuel resources. In contrast, green energies such as photovoltaic (PV) and wind do not face such constraints, but rather depend upon the manufacturing of equipment that has higher energy conversion efficiencies. We believe that more efficient and lower-cost energy equipment manufacturing is at the core of energy security. Specifically, the incentive for green energy improvement is that innovators gain greater market share and erect barriers to entry by leveraging lower manufacturing costs. However, the excess profits gained through cost reduction are not sustainable over the long term, as new entrants tend to acquire late-mover advantages.
In retrospect, we note that incremental innovation has become the dominant trend in the green energy sector, supplemented by radical innovation. Radical technological innovation in green energy creates a new generation of products, as evidenced by the improved efficiency and performance of PV and electric vehicle (EV) batteries. However, as the up-front cost can be high, companies try to gain cost advantages and leading market share via incremental innovations such as import substitution and lower unit consumption of raw materials. Internet of Energy (IoE) technology has spawned innovation in business models, and facilitated the integration of elements across the entire green energy industrial value chain on the back of digital transformation and smart technologies, which we believe will generate economic benefits and empower green energy development.
Through continuous technological innovation, the PV and EV battery technologies of domestic manufacturers are now on par with their foreign counterparts. This, coupled with strong cost advantages, enables Chinese manufacturers to capture a larger share of the global PV and EV battery supply chain, with top-tier companies reaping excess profits. In addition, IoE and energy digitalization have created an incremental market and provided external incentives for infrastructure operators. We note that innovation is primarily driven by R&D, technological convergence, and business model transformation. Government finances, policy banks, capital markets, corporate funds, and venture capital (VC) and private equity (PE) institutions comprise the major sources of funding that support innovation in the green energy sector.
Governments play a pivotal role in cultivating demand through subsidies, guiding the upgrading of demand, and establishing demonstration projects, and we think that this will facilitate technological advances in the green energy industry. We also believe that this will provide a platform to test large-scale production and cost reduction. Fierce competition among enterprises has gradually forced quantitative change to culminate, whereupon qualitative change ensues. We think that the current favorable policies will be extended to a wider range of green energy development programs such as hydrogen energy, energy storage, and carbon capture technology. Given that China still lags developed countries in radical innovation, we expect the government to further improve its talent pool and R&D system, strengthen intellectual property rights (IPR) protection, and regulate the disorderly expansion of production capacity.
The major “horizontal risk” to China’s green energy industry chain, stemming from the disruptive impact of new-generation technologies on existing ones, lies in the radical innovation of new battery technologies. We believe that the overall risk is manageable, as there is no obvious R&D gap between Chinese companies and their overseas rivals. The “vertical risks” that exist within the green energy supply chain for a particular generation of technology mainly arise from scarce resources and from equipment requiring import substitution. We think that the overall risk is manageable, given: (1) The gaps in the manufacturing of other equipment and supplies of raw material versus foreign counterparts are small; and (2) the shortage of key resources can be partially addressed by leveraging new battery technologies such as sodium-ion batteries. China also boasts a complete PV and automotive battery industrial value chain that ensures stable supply and demand.
CICC Research, CICC Global Institute
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Chapter 5. Biotechnological Innovation
Abstract
Biotechnological innovations are rapidly reforming the pharmaceutical and agriculture sectors at home and abroad. With leading technological advances in the US and Europe, Chinese industries have been quick to follow with scientific discoveries, industrial applications, supply chain, legislation reforms, and administrative support.
Despite high pharmaceutical demand, China’s manufacturing capability on the supply side is not yet globally competitive. The global pharmaceutical market is built upon the demand of unmet medical needs, health insurance, and extensive investment in new drug development. China is a leading pharmaceutical market in absolute size, but its pharmaceutical spending per capita is relatively low. Nevertheless, Chinese companies are catching up, and China’s contribution to global pharma R&D has started to shift from high-quality generics to gradual innovation.
As for the agriculture sector, the overall supply in China is stable, but other countries’ experience in agricultural innovation is also worth studying. China typically maintains steady output growth and a relatively high self-sufficiency ratio. However, there remains room for improvement in the supply of some agricultural varieties and in the front-end sector of the meat value chain. We think China's overall biotech innovation in the agriculture industry is characterized by incremental innovation. Judging by China’s successful innovations in rice cultivation, we think policy support, appropriate government mechanisms, and public–private cooperation are important for agricultural R&D.
Agriculture and pharmaceutical sectors are now at different stages of innovation, and therefore need different types of policy support. Major factors affecting China’s pharmaceutical innovation and status quo are basic science development, clinical R&D, and standardized production capability. Policy-wise, we believe: (1) Funds from the public sector could be used to support the development of basic and translational sciences, which are the foundation for innovation; (2) pharmaceutical payment reform could be accelerated, and incremental funds from commercial insurance be introduced (3) a tiered financing system could be built to enhance risk-resistance capacity; and (4) a new drug approval system could be optimized to encourage innovation.
As for biotech innovation in agriculture, policy support may include the following. (1) Legislative supervision: We suggest that the government enhance the protection of agricultural intellectual rights and step up efforts in combating infringements. (2) Capital investment: We suggest that public sector investment in R&D be increased and cooperation enhanced with the private sector. (3) Talent education: We propose strengthening whole-procedure education and the cooperation between companies and research institutes.
CICC Research, CICC Global Institute
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Chapter 6. Smart Manufacturing
Abstract
The smart manufacturing industry stems from the manufacturing and logistics industries, which is crucial to the formation and sustainability of an innovation economy. The manufacturing sector can support innovation activities, promote the industrialization of innovative products and services, and propel the innovation cycle. Furthermore, development of the logistics sector can significantly boost trade by lowering transportation costs, and can support complex supply chains. In addition, the logistics industry’s digital transition may have accelerated during the COVID-19 pandemic, and logistics plays a key role in supporting innovation in the digital economy.
China's manufacturing industry has developed rapidly since the 1990s, and its innovation capability has improved significantly. However, Chinese manufacturing companies are less active in pursuing innovation, as evidenced by their output and their revenue from innovative products. Reasons behind the weaker innovation include insufficient R&D investment, fragmented investment structure, and mismatch between R&D and production as well as between production and application. We also see deeper reasons for weaker innovation capability. China's manufacturing industry is export-oriented. The emphasis that companies place on capacity expansion also weighs on the innovation capability of the manufacturing industry.
We also examine the cost efficiency of domestic logistics, and find that while China has low logistics costs, efficiency could be improved. First, China is able to achieve low logistics costs at the expense of profit margin. Second, China’s labor efficiency remains relatively low. We attribute the low efficiency of China’s corporate logistics businesses to three factors: Low automation rate, low transport efficiency, and a lack of integrated transportation. Furthermore, China is not a strong player in international logistics, which limits its ability to build reliable supply chains.
Innovations in digital technologies present new opportunities for China’s smart manufacturing industry. For the manufacturing sector, we expect more engineering-based innovation and business model-related innovation to emerge in China given there is a new round of technological revolution and industrial transformation in the making with the integration of the digital economy and the manufacturing industry, and a possible flattening of the smile curve. The logistics sector may benefit from a large domestic market with stronger economies of scale, and technology could play a greater role here. We think logistics companies’ increasing R&D expenses and China’s leading 5G and AI technologies may help the country catch up in the area of logistics. There is also opportunity for China to develop its international logistics system as the competitive landscape of international logistics may evolve.
CICC Research, CICC Global Institute
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Chapter 7. Supporting Innovation: Unquenchable Flames
Abstract
Innovation is the source of economic growth on a per capita basis and an essential way to improve standards of living. Thus, developing innovation capabilities is fundamental for modern economies. The innovation system of a country includes market-based cooperation and interaction between enterprises, universities and government, as well as innovation-related framework conditions such as infrastructure, policy framework, and macroeconomic environment. In this way, a complete ecosystem nurtures innovation.
China has been establishing an innovation system that conforms to its national conditions. The country’s innovation system shows notable competitive advantages given its enormous domestic market system and world-leading physical infrastructure. China has also established innovation-related systems and policies, including those for anti-trust and IP protection. It is able to provide a macroeconomic environment that encourages overall innovation. For example, it has established a modern enterprise system, and continues to strengthen the provision of financial support for technological innovation. Facing changing situations at home and abroad, China continually upgrades its approach to integrating into the global innovation framework, and the country is shifting from a latecomer in traditional segments to a frontrunner in new fields.
Regional innovation centers are also an important part of China’s national innovation system. They are essential for implementing national innovation policies. Regional innovation centers in different areas have their respective advantages, and we expect them to improve further, with Silicon Valley and Germany providing valuable models.
We should not neglect the government’s role in coordinating and supporting technological innovation. In China, the government emphasizes its role in promoting innovation, especially during key periods and for core industries. It can make targeted use of market resources and policy measures when supporting corporate R&D, and improve the efficiency of its financial support to innovations in the private sector. We also believe that it is important for the government to make reasoned decisions, to increase the flexibility of R&D management system, and ultimately, to make full use of the new system for mobilizing resources.
The government also plays a vital role in financing innovation. While innovation needs external financial support, the financial industry does not always spontaneously invest in it. We attribute this to the constraint from financial cycles, a high risk of failure, and an innovation paradox. The government could correct such failures to enable the financial system to better support innovations, including allocating appropriate financial resources to different types of innovations. For example, the private equity market has limited financial resources, but it is better positioned to support smaller firms, which have a stronger desire to promote “radical innovation”. The stock market could create a divesting channel for venture capital to make the private equity market more active. Large firms tend to rely on “incremental innovation”, which could be supported by banks that naturally prefer stable cash flows and ample collateral.
Currently, China is catching up with advanced economies, and we expect the country to become a global frontrunner in technology in the long term. A number of domestic industries (e.g., semiconductors) are facing vertical risks. In such sectors, the “catching up” innovation financing model in which large banks offer ample credit resources to big companies may need to play an important role. As such, China should improve the “leading” innovation financing model where medium-and-small firms rely on capital markets to raise money to fund innovation. Thus, the financing models for both radical and incremental innovations are key to China.
CICC Research, CICC Global Institute
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Metadata
Title
The Rise of China’s Innovation Economy
Author
CICC Research, CICC Global Institute
Copyright Year
2024
Publisher
Springer Nature Singapore
Electronic ISBN
978-981-9982-31-8
Print ISBN
978-981-9982-30-1
DOI
https://doi.org/10.1007/978-981-99-8231-8

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