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Policies and Practices Affecting U.S. Competitiveness in Aclvancecl Technology Three conclusions emerge in examining the varying prac- tices of nations toward advanced technology development and trade: (1) other nations do indeed have comprehen- sive national plans supporting technology and trade objectives; (2) the United States does not take a cohesive and coordinated look at its policies and practices and those of our trading partners regarding advanced technology; and (3) the United States has available to it tools for addressing the needs of its advanced technology enterprise, to strengthen both its capacity for technological innovation and its inter- national trade competitiveness. Such tools include federal programs for support of research and education; governmental policies and prac- tices with regard to taxes, antitrust, patents, regulation, and technology exports; and broad national economic policies. Clearly many of these policies and practices are designed to support other national objectives. In the processes of policymaking and allocation of resources, however, the nation's technological capacity and inter- national competitive strength must be highly valued among national objectives. Furthermore, the variables affecting the U.S. advanced technology enterprise must be well understood. This may be accomplished by a high-level assessment reviewing domestic governmental and private actions, the industrial and trade policies of other nations, and the broad global environment. The United States has no adequate assessment process now. In consequence, governmental policies evolve without any broad assessment of how they will affect the strength of U.S. advanced technology capacity and trade. 39

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40 One reason for this oversight is that the United States views technology and trade policies differently from its competitors. The United States formulates its trade policy in terms of a process; it sets rules for competition and lets the private sector operate within that framework. Some other countries tend to choose a desired outcome and then define policy accordingly. Furthermore, the United States views international competition as having rules defining a "level playing field" for firms from different countries--the game should then be left alone. But some other countries, having decided on desired outcomes of the competition in terms of, say, market share or employment, feel the rules allow them to intervene if their national firms are not doing as well as they would like. This difference in approach makes negotiation difficult. The often adversarial relationships of U.S. government and business, evolved early in the country's history, also may impair U.S. competitiveness. Industry and government have to be prepared to work more cooperatively in order to achieve national goals. A further problem is that policymakers are rarely people experienced in the industrial innovation process-- those who through active experience know the difficulties of creating, producing, and marketing new products and processes embodying advanced technologies. Maintaining a continuing expertise, through a highly qualified and stable governmental career staff, is a corollary difficulty. Finally, U.S. companies often see themselves competing against national systems rather than individual foreign companies--U.S. aircraft manufacturers see their competi- tor as a government-supported consortium; individual semiconductor, robotics, and computer manufacturers here face a cooperative network of Japanese companies working with a governmental agency. So mixed an international trading system complicates international negotiation and agreement. GOVERNMENT POLICIES Macroeconomic Environment While the depressed worldwide macroeconomic environment intensifies the pressures we have been describing for every nation, the effects may be greater in the United

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41 States than elsewhere. Some of the erosion of the U.S. lead in advanced technology may be blamed on macroeconomic factors, particularly the low rate of investment and the consequent slackening of demand for new technologies. U.S. macroeconomic policies obviously serve a range of national needs beyond those of the advanced technology enterprise, but their impact on U.S. technological devel- opment should be well understood. Slack domestic demand reduces the current profits of all firms, their ability to finance investment, and the expected profitability of new investments in capital or technology. The problem is intensified in the advanced technology sector because the payoff to new investments is more uncertain and comes after a longer delay than in traditional industries. Further, advanced technology industry is unusually vulnerable to high real interest rates that work differ- entially against long lags in cash flow. The mix of macroeconomic policy in the United States has caused interest rates to be high and volatile for a long time. Apart from the effect already mentioned, this choice has caused the dollar to appreciate ~--~~~~~ ~''~~ ~ other currencies. The strength the yen, especially, makes U.S. suDscantlally against of the dollar relative to firms less competitive precisely in those markets that are endangered for other reasons. Finally, inflation may have inhibited invest- ment in long-range planning and new technology. Antitrust Policy While U.S. antitrust policy has begun taking international competition into account, its implementation still fails to give sufficient weight to international trade consid- erations. The manner in which antitrust statutes are interpreted and applied is charged with interfering in international competitiveness. For example, firms have difficulty retaining the benefits of research that are the product of multifirm collaboration; prospective "safe-harbor" rulings are not readily available; and there is a general uncertainty regarding what corporate actions may elicit legal actions on the basis of anti- trust legislation. Because of this uncertainty, management cites anti- trust policy as creating excessive risk for a range of activities that may benefit innovation and trade, such as pooling research efforts, pooling information on the work of international competitors, or pooling development

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42 programs whose costs are too large for any one firm in an industry to undertake. By contrast, foreign governments-- for example, Japan and France--encourage cooperation among firms through mergers or cooperative programs. U.S. antitrust policy, however, has successfully fostered beneficial domestic competition. Any changes must be carefully considered. But, in the context of the new era marked by increased relative importance of inter- national trade, by offshore production and investment, by the emergence of world-scale markets, and by the differ- ing policies of other nations, antitrust regulation and enforcement should be reexamined in the light of the international context in which U.S. firms must compete. Capital Supply Cost and availability of financing are major factors, both in the start-up and growth of new companies and in the modernization of established firms. Over the past decade, capital costs have been 50 to 100 percent higher in the United States than in Japan.i The supply of venture capital for new U.S. firms, however, is large and flexible; that contributes significantly to the abundance of small advanced technology firms here. Technological innovation by large established firms requires both the capital and the incentive to make large- scale investments. Japan appears to have an advantage over the United States in this area because the cost of capital in Japan (in real terms) is lower due to more thrifty savings habits and superior macroeconomic perfor- mance. The difference is aggravated by the economic volatility that has characterized the United States during the last decade. Also, financing of large firms in Japan is less dependent on open capital markets than is true for their American counterparts; thus, Japanese firms' abilities to invest are not dependent on promises of short-term results. To take one example, Japanese semiconductor firms, some of which are part of large industrial groups that include banks, tend to be heavily financed from within the group.2 U.S. firms are competing with foreign firms that receive their capital at reduced rates from their governments or from banks encouraged by their governments.

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43 Export Policies Ideally, we would prefer a world without corruption, without trade restrictions against our allies, without government financial support for exports. We would like to expand U.S. trade in a free-market environment. At the same time, we would like to limit the military tech- nological development of our potential adversaries. How- ever, our pursuit of these objectives must be tempered by our interest in the health of U.S. industry. U.S. advanced technology firms operate in an increas- ingly competitive world market. ~ ~ ~ ~ ~ . Americans should be conscious or the Impact of U.S. policies on U.S. exports as they help or hinder viability of advanced technology firms. This competitive environment need not deter American pursuit of their major objectives, but such pursuit must acknowledge what is realistically attainable and may entail compromises with this reality. For example, some of our leading competitors justify using official export credits because they protect jobs and nurture industrial development. Until we can achieve agreement to minimize government sponsorship of export credits, we should be prepared to provide similar support for our own industries as we have done in the past through the Export-Import Bank. Similarly, the United States imposes on exports to currently out-of-favor nations controls for both foreign policy and national security reasons. In the East, these restrictions have been partly based on the questionable assumption that the United States had an effective monop- oly in providing the products in question. The conse- quence may be a loss of U.S. sales, the foreign policy goals may not be achieved. To be in the best interest of the nation, the economic and political costs and benefits of controls must be carefully assessed, and they must be undertaken multilaterally--consulting and cooperating with other leading industrial or agricultural countries. Tax Policy Because technological progress diffuses throughout the economy, there is a strong case for special tax treatment for research and development. Indeed, the Economic Recovery Tax Act of 1981 offered several incentives to business investment, including subsidies for a 5-year period for research and development expenditures and

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44 accelerated write-offs for capital expenditures. The United States is not alone in providing tax incentives for industrial research and development, though many nations prefer to provide direct subsidies. Sometimes new and rapidly growing advanced technology firms are targeted for benefits such as accelerated depreciation and tax benefits during their start-up phases. Policy assessments of the effectiveness of current tax policy in support of research and development (for example, the actual effect of the 5-year limit mentioned above) would be welcome. Regulatory Policy Health, safety, environmental, and other regulations have been criticized for raising the costs of product develop- ment and manufacture, and thus raising prices of American products. The counterargument is that added costs are warranted because of their benefit. There is now a general mood in this country for reex- amination of regulatory policies. That reexamination should include consideration of the effect of regulatory policies on the capacities of U.S. industries to innovate and to compete in world markets. PRIVATE SECTOR POLICIES Nongovernmental variables affecting the advanced tech- nology enterprise may be influenced by government policy. These include the nature of corporate manage- ment, university-industry relationships, and financial resources. Management American industrial management, long regarded as the standard for excellence, has recently come under criti- cism. Failure to maintain product quality, searches for short-term market payoffs, and failure to invest in long-term technological innovations are some of the alleged faults. Management has been accused of placing undue emphasis on short-term financial goals, yet our system requires companies to fund their own growth--even and especially in a recessionary period.'

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45 Short-term financial concerns have come to dominate many U.S. corporations for various reasons--among them, the increased size and complexity of corporate structure, the harsher macroeconomic climate, the uncertainty in government regulation and policy, and (somewhat ironi- cally) the intensifying international competition. Managers equate this near-term emphasis with the need to survive, yet the result--a reluctance to take long-term risks--sacrifices major technological innovations. A blanket indictment of American management is simplistic and erroneous, of course. Examples abound of techno- logically astute management willing to take risks and invest in an innovative future. Effective application of American styles of management coupled to a deeper understanding of the critical role of technological innovation in future economic growth may be more appropriate than studying Japanese or other manage- ment models. The rapid evolution of advanced technologies offers remarkable opportunities for corporate exploita- tion and growth. Despite the recession, U.S. industry has seen those opportunities and responded by increasing its research and development spending by 15 percent in 1981.4 University-Industry Relations Historically, the federal government has provided the majority of funds for academic research. Industry has contributed only modestly--4 percent to 6 percent yearly of total academic research and development expenditures from 1960 to 1981.5 University-industry collaborations can be, never- theless, remarkably effective in improving the transfer of advanced technology research results to commercial applications. An obvious example is the influence of MIT and Stanford University in contributing to the growth and success of advanced technology enterprises populating Boston's Route 128 and Palo Alto's Silicon Valley. New university-industry relationships are emerging in such fields as biotechnology and electronics. Stanford University's Center for Integrated Systems and Carnegie- Mellon University's Robotics Institute have benefited from corporate support in establishing multimillion dollar research facilities. We applaud such efforts, and we encourage universities and industry to continue to enter into collaborative

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46 arrangements that may create new knowledge, quicken its commercial translation, and strengthen components of the nation's advanced technology capacity. It is crucial, however, that those involved must ensure that research findings in the university are generally open and avail- able to the entire scientific community. Deviations from this rule should be fully disclosed, should be under constant scrutiny and review by the universities and companies themselves, and should be based only on the most compelling short-term reasons. This need not obviate targeted industrial research grants to universities con- sistent with rewards to the sponsor. In addition, such openness will maintain the concept of free scientific communication and open university. GOVERNMENT AND PRIVATE POLIC IE S The following are areas for which both government and private sector actions affect national capabilities. Human Resources The U.S. educational system, public and private, is complex. It involves local, state, and federal gover- nance, and its funding sources range from state subven- tions to indirect cost charges against research. A coherent examination of the educational system within a broader review of policies and practices affecting the nation's technological capacities would not be easy, but it is necessary. A diverse set of human skills is essential to national technological innovative capacity: a technically come petent labor force, a first-rate and constantly freshened basic research force, and well-trained baccalaureate and graduate engineers, scientists, and technologically sophisticated managers. Advanced technologies are powerful tools, but their power is realized only through individual imagination applying them in novel ways. This requires that some technological sophistication be prevalent throughout the population. To illustrate, about half of research and development done in the manufacturing sector flows to the service sector--insurance, banking, utilities, transporta- tion, education, etc. 6 Such flows--and the economic gains they provide--occur because of the technological

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47 understanding and imagination of those working in both sectors. The United States still has the Western world's largest technologically sophisticated population, both absolutely and in the numbers of scientists and engineers as a pro- portion of the total work force. Since the early 1910s, however, it has been adding to its pool of scientists and engineers more slowly than Japan and West Germany.7 Precollege Education The American primary and secondary high school system for teaching science and mathematics is in trouble. State-by- state statistics show insufficient numbers of qualified science and mathematics teachers. A 1981 survey revealed a shortage of high school chemistry teachers in 38 states, of mathematics teachers in 43 states, and of physics teachers in 42 states.8 American high school graduates have quantitative skills and understanding of science and technology that is today inferior to those of their coun- terparts in Japan, Germany, and the USSR. The higher productivity growth of the Japanese economy has been attributed, in part, to the high quality of Japanese secondary science and mathematics education.9 University Education and Research The close coupling of research and graduate education is the core of the strength of the American research system. The system is now suffering not only a virtual stasis in research funding, but also squeezes on endowments of private universities and diminished governmental support for state universities. Total national basic research spending averaged 4.4 percent annual growth from 1975 to 1980, with the federal government accounting for 70 percent of that increase.~ Growth has tapered off since then and would be negative but for increased research spending in defense and space. The effect on universities of diminished growth in resource funding is direct, given that they accounted for half of all basic research expenditures in 1981 and given that basic research was 69 percent of all academic R&D expenditures. A direct result of this funding lag has been a deterioration in the utility and availability of scientific instrumentation in university research

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48 laboratories. It is estimated that modernizing univer- sity equipment alone would cost at least $1 billion. 2 While the federal government historically has dis- tinguished support of research from support of univer- sities per se--in contrast to the dual-support systems of France, West Germany, and the United Kingdom--that dis- tinction is necessarily somewhat arbitrary in the case of the research universities. Engineering Education Problems in training future scientists and engineers are apparent in U.S. engineering education. While Japan, with a population less than one-half of the United States, graduates more engineers than does the United States, the deeper issue is the quality of education received by American engineering students, both at the baccalaureate and graduate levels. The large number of unfilled engi- neering faculty positions--estimated in 1980 to be at least 1,8004--spells serious trouble for the quality of engineering education, particularly because under- graduate engineering enrollments are at an all-time high. The unfilled positions are commonly attributed to higher salaries in industry than academe. Industry attracts bachelor-degree engineers in ever greater numbers--a process that has been aptly termed seating our seed corn." And, as with the sciences, university engineering education is beset by deteriorating and obsolescent instrumentation. Monitoring International Technology Many nations have developed mechanisms for monitoring foreign technological developments and reporting them back to their domestic industries. Nothing compar- able exists in this country. Several facets of the issue might be examined, including any barriers to industrywide collaboration in acquiring and sharing foreign techno- logical intelligence and mechanisms for public and private cooperation in acquiring and disseminating technical information

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49 Support of Basic Research and Development We have emphasized earlier the various approaches that the United States and other nations take to the support of research and of various stages of development. The U.S. federal government has accepted its role as the patron of basic research in the United States, and the issue, therefore, is the level of support and the relative emphasis given to various fields. Support for development, as well as for applied research, is a more difficult matter, involving not only levels of support but even whether support for these endeavors is a federal responsibility. Development is supported in defense, many areas of space technology and aeronautical research, agriculture, and some areas of energy. Some advocate broadening support to include advanced technologies; others oppose this on the grounds that the federal government does poorly in choosing which technologies to support. WHAT POLICIES ARE APPROPRIATE? The traditional U.S. position on the government role in supporting advanced technology development and trade has been that governments should restrict their intervention to basic research and education and leave the other components (development, production, distribution, etc.) to the marketplace. Our competitors, however, do not accept this view; they intervene to support the advanced technology system at all stages--research through mar- keting. The traditional U.S. instruments used to foster technological industrial performance still may be adequate in the face of the more intrusive policies of other countries; but they can only be truly effective with a coordinated and national focus on strengthening the nation's trade competitiveness and advanced tech- nology capacity. Certainly, any change i in the use of existing instru- ments, or the addition of others, means a major departure in governmental policies toward the industrial economy. However, given the intervention of other governments in international competition, such a departure should be widely debated. For the reasons cited in the first chapter of this report, the United States must maintain the strength of its national capacity for technological innovation. That capacity can be damaged by weak

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50 domestic policy. It can also be damaged through prac- tices of our industrialized allies. The problem in responding is to define policies that maintain our technological strength and comport with our national character and values. NOTES Iran Assessment of U.S. Competitiveness, n p. 79. See M. Therese Flaherty, Determinants of Market Share in International Semiconductor Markets, n a Dre- sentation to the Panel on Advanced Technology Competition and the Industrialized Allies, Washington, D.C., February 9, 1982, pp. 1-13. 3 Robert J. Hayes and William J. Abernathy, Managing Our Way to Economic Decline, n Harvard R',ri n-~.~ D="i "w July-August 1980, pp. 67-77. 4 National Science Foundation, Nabio=~1 Patterns of . , _ science and Technology Resources 19 ~ , D.C.: U.S. Government Printina Office 1 4R1 1 ~ 1 n sIbid., p. 21. 6 F. M. Scherer, Research and Development, Patenting, and the Microstructure of Productivity Growth," a report to the National Science Foundation, June 1981. 7 National so ionic ROA r'1 Cry i "n-= Ton; ~ ~ ~ ~'~ .1 ~ Q fat p. 4. , ~ , ~ ~ ~ .r ~ ~ Paul Hurd, "The State of Precollege Education in Mathematics and Science, n presentation to a Convocation on Science and Mathematics in the Schools, National Academy of Sciences, Washington, D.C., 1982. 9 New York Stock Exchange, Office of Economic Research, People and Productivity: A Challenge to . ~ Corporate America (New York: New York Stock Exchange, Inc., 1982), pp. 10-13. A Calculated from data on basic research expen- ditures by source, National Science Board, Science Indicators 1980, p. 255. nonnational Science Foundation. Nations] Porn Of Science and Technology Resources, p. 12. . ~ ~ ~ xT _ ~ _ _, ~ ~ ~ ~ ~ _ _ ~ ~ ~ ~ cowl ^~=dLCIl ~ouncll, Kevltallzlng Laboratory Instrumentation, the report of a workshop of the Ad Hoc Working Group on Scientific Instrumentation (Washington, D.C.: National Academy Press, 1982), p. 1. 13Business-Higher Education Forum, Engineering Manpower and Education: Foundation for Future Competitiveness (Washington, D.C.: Education Forum, 1982), p. 13. Business-Higher

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51 Upjohn D. Kemper, "Graduate Enrollments in Engineer- ing: Meeting National Needs for Productivity and Innovation" (University of California, Davis, July 1980), p. 7. t5For a discussion of some of the mechanisms used by Japan and Western Europe in the field of computer science, see National Research Council, International Developments in Computer Science (Washington, D.C.: National Academy Press, 1982).