Innovation and Firm Performance

Currently, one of the German economy’s main problems is its weak growth performance, which shows up in low growth rates for potential output and for real gross domestic product (GDP) (Sachverständigenrat, 2005). Comparing important economic performance indicators within the EU15 countries, it further becomes apparent that economic development in Germany has lagged behind that of many other European countries since the mid 1990s. For instance, since 1995 Germany has continuously been among the group of the three countries reporting the lowest growth rates in real GDP. Similarly, the average growth rate of labour productivity of about one percent for the period 1995–2004 ranks within the lower third of the EU15 countries. In addition to falling behind other competitors in Europe, Germany — and also Europe as a whole — have been unable to keep pace with the economic development in terms of real GDP growth or labour productivity growth in the US, as can be seen in Fig. 1.1. Fig. 1.2 further shows that the low growth development is accompanied by a steady rise in the rate of unemployment over the last 15 years in Germany, whereas other countries, e.g., the United Kingdom (UK) or Spain, have experienced great success in reducing unemployment. In 2004, the internationally harmonised unemployment rate amounts to 10% in Germany. This is one percentage point above the European average, 4 percentage points higher than in the US and even twice as high as in Japan or the UK (see OECD, 2005a).

The subsequent empirical analyses on employment, productivity, and persistence effects of innovation activities are mainly based on the Mannheim Innovation Panel (MIP). This chapter first presents some general background information on the data set including the survey methodology, response rates, and the information collected. It then provides the basic definitions of several innovation indicators which will be applied in the subsequent empirical analyses. The knowledge about the firms can be enriched by merging the MIP with other data sets. Therefore, a short description of the information used from other data sources follows. The chapter concludes by portraying the innovation activities of German firms at the aggregate level over the last 10 years using various input- and output-oriented innovation indicators.

The question of how technological progress affects the employment situation is an old one and has long been the focus of theoretical and empirical industrial organisation research as well as lively public discussions.³³ The controversial debates on this issue mainly result from the fact that, from a theoretical point of view, different channels exist through which innovations can destroy existing jobs (displacement effects) but that there are also several mechanisms through which innovations may create new jobs (compensation effects). In addition, product and process innovations influence employment via different channels. The overall impact depends on a number of firm-, sector- as well as country-specific factors.

Understanding and quantifying the driving factors behind productivity and productivity growth, and in particular the role of innovation activities in this context, has been of major interest in the field of empirical economics for several decades.⁷⁶ This can be explained by the fact that innovation is widely believed to be a key long-term driving force for competitiveness and growth of firms and national economies as a whole. Recent years have even seen a surge of studies on productivity, in particular at the firm level. This is in part due to new theoretical underpinnings from the endogenous growth theory, which emphasises that economic growth is positively correlated with investments in research (see Romer, 1986; 1990) and human capital (Lucas, 1988). Another reason is the increasing availability of comprehensive micro databases. However, as was set out in section 1.2, quantifying the importance of innovation for productivity is a challenging task and, despite a large number of empirical studies, innovation research has only been partly successful (see Griliches, 1995; Bartelsman and Doms, 2000).

Recent empirical evidence indicates that firm performance in terms of productivity is highly skewed and that this heterogeneity is persistent over time (for an overview, see Dosi et al., 1995; Bottazzi et al., 2001; Bartelsman and Doms, 2000). Since innovation is seen as a major determinant of firm’s growth, one hypothesis is that the permanent asymmetry in productivity is due to permanent differences in the innovation behaviour. However, little is known so far about the dynamics in firms’ innovation behaviour, and the evidence is mostly based on patents (see Geroski et al., 1997; Malerba and Orsenigo, 1999; Cefis, 2003a).

The process of firms’ growth — in terms of productivity or employment — is a major concern of policy makers. In this context, innovations are widely considered to play a crucial role in stimulating firms’ performance. This monograph has empirically investigated the impact of innovation on firms’ performance by looking at three different topics: