Knowledge Capital as Engine for Growth: The Good Story and the Bad Story for Remote Areas
Published Monday, June 12, 2006 - 14:01
An indepth look at the impact of human capital and ICT in the development of sustainable knowledge economies and how ageing and remote areas might be negatively affected if they do not have the right infrastructure or educated human capital
New economic growth theories advocate as winners the countries that have invested in knowledge-base. Productivity growth via innovations also generates employment growth. New employment thus requires policies to augment this growth. This is despite R&D investments not always enhancing current output whereas future growth. The good employment prospects materialize over the years.
Growth Divided to Innovative and Imitative Growth
Growth can be roughly divided into that determined by physical capital investment and into that dependent on innovative ability. East Asia and developing countries have taken from Europe the role of imitative and physical investment driven growth. Physical capital investment can be combined with cheap labour in Asia to produce new products. Western Europe and the US have entered into a totally new growth regime since mid 1990s. Growth is based on innovative capability. A micro study at the company level, such as carried out in Piekkola (2006) for Finland, shows solid evidence that growth driven by knowledge capital relies on education and occupation human capital and on agglomeration of human capital. Knowledge capital can be decomposed into 8 main categories divided into that specific to workers and to firms.
Companies that are closest to the frontier in productivity use intensively educated workforce. The availability of highly educated is not always the bottleneck for growth but it is needed to keep in pace with the new technology and innovations adapted in the frontier firms. It also supports imitative-type growth of high technology firms. Traditional story of building new physical capabilities and investment in machinery is no more the innovative story. Doubling the size of machines in your factor does not give a competitive advantage as rivals can quickly follow if they so wish. Good firms have capabilities for innovations. The combination of highly skilled and occupationally qualified blue-collar workers is good predictor of high productivity growth.
It is though clear that we still have the physical capital investment story also in Europe. But much of this produces low growth. Among these firms, the productivity growth is higher in firms that employ workers that are paid more than what would expect based on the education level and in firms that use intangible capital. We thus have different kind on human capital used in low productivity growth firms (that rely on physical capital investment). Knowledge capital is the kind that gives a comparative advantage over longer period of time. Innovative firms typically instead use the very similar and mobile educated workforce. The momentum of innovativeness is attained when many high-productivity firms are competing for the same thing and when the band of productivity differences is narrow. To have a skilled labour in low-productivity firm is instead to keep the firm alive and to kill competitors.
Are people divided into innovative and others?
It is sometimes claimed that innovativeness lead to class A and class B people. Human resource management is targeted to class A innovative people and class B people are less and less needed for the growth to continue. Some incentive pay is meant to raise income differences. But it is difficult to separate incentive pay from co-operation among all the employees. An incentive pay rewarding one cannot be a dis-incentive for those who are not paid. We should thus have a well-specification of targets for all kinds of labour. Targets should be enough specified and enough close to the workers. There is no necessary division of people into class A and B although the method of rewards may differ.
It is also often claimed that young workers are more innovative. Work experience that is closely tied up to the age of the worker does not anymore mean better knowledge. The average age of workers usually varies quite little from one firm to another. Or the differences can be explained by very bad performance in the past, which had lead to no hirings of young workers over a longer period. We cannot easily measure individual productivity by the age. Thus the age-productivity relation is an open issue for many reasons. One is tempting to claim that a well-performing firm needs both young and experienced workforce. Ageing Europe is not in a hopeless situation as long as young workers do exist.
Productivity divergence between regions rises
The shadow of the knowledge capital-based growth is that the GDP and productivity growth have diverged between regions since mid 1990s. In European regions and also in many other areas catching-up has been limited because it takes place predominantly in large cities / small companies. The divergence in productivity growth is explained by the agglomeration of knowledge capital. Education human capital plays the most significant role in very advanced companies near the frontier in productivity. The accessibility of educated workforce is not necessarily the most binding constraint for the firms in general. But it is necessary for growth in high-productivity firms that are the most important engines for growth.
Human capital and innovativeness should also play a major role in competitiveness indices set over regions. Knowledge capital not only explains regional divergence, but also the high growth in many smaller regions. Agglomeration of human capital, however, usually explains the top ranking of all the big cities when using a general competitiveness index. The top ranking of many metropolis naturally relates not only to the importance of agglomeration of human capital but also because many top firms in the industry are located in metropolis. The problem with agglomeration measures is that they capture many things and are highly correlated. The alternative competitiveness index is to use the growth competitiveness index, which weights each subindex depending on how they have explained growth (hedonic approach).
We observe from the recent growth patterns at company and at country level that human capital is more important than before for productivity and employment growth. The frontier firms in productivity use educated workforce and are able to use it flexibly. It is not only the use of most advanced technology that matters. This may also strengthen the tendency of employment creation in largest cities. This is only strengthened by a shift in industrial structure to service sector. As the ageing is also a more prominent problem in non-growth areas we are potentially faced with regional imbalances in the future. We have very promising economic growth prospect in countries that rely in growth on knowledge capital but very sad story for remote areas that are suffering in human capital, young workers and service-sector.
Further reading
Piekkola H. (2006): Knowledge and Innovation Subsidies as Engines for Growth – The Competitiveness of Finnish Regions. The Research Institute of the Finnish Economy ETLA B-Series No. 216. Helsinki.
Acknowledgements
This research was supported by PROACT, Research Programme for Advanced Technology Policy and by Ministry of Labour in Finland
Other Reference
Piekkola H. (2005): Performance-Related Pay and Firm Performance in Finland. International Journal of Manpower 26 (7/8), 619-635.
Piekkola H. (2006): Knowledge Capital as the Source for Growth ETLA Discussion Paper No. 972 and ENEPRI Working Paper No. 43. Helsinki.
