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Sunday, November 28, 2010

Want to go global? Build up at home first—and innovate

According to a World Bank report, hi-tech products account for just 6.5% of Russia’s exports vs. just under 30% for China and the U.S. Sad stats for Russia, indeed. But should exports be the focus? Isn’t it putting the cart before the horse?

As is the case in a traditional commodity economy, Russian businessmen very often think in terms of exporting their products for sale abroad. With an innovation economy, however, it is first and foremost a domestic market that is the first buyer of innovation.

Historically, if you look at any other innovation-driven economy like the EU, Japan or the U.S., the first market has always been a domestic market which creates economies of scale. Local companies gear themselves up, take strong positions in local markets, build up their capital base and production know-how.

That forms the proper platform for exports of high technology all over the world. The Japanese built up their domestic automotive industry, filled it with high technology and then began exporting. The same with many other Asian economies.

So the problem for Russia is the lack of domestic manufacturing demand for innovation and modernized production mechanisms. Owners of new technology products feel they can’t make large enough profits through the domestic market so they immediately seek export markets. But the domestic economy of scale is not large enough. Therefore it is very hard for them to enter into markets such as America; they don’t have a large enough production base for their products within the Russian Federation.

The only way out here is if Russian managers and specifically the owners of Russian large-scale companies begin to buy Russian domestic technologies to use in their own companies. Once in some number of years the domestic market is substantial enough, this will form an outstanding foundation for Russia to begin exporting new ideas because they will already have been tested within the Russian market with quality control improved.

Domestic innovations ignored

Some fault Russian science for being in crisis and unable to supply new ideas. In my opinion, it is not the problem; and our readers responding to our recent poll obviously agree with me. Russian science has the greatest capabilities in the world. The problem is in the lack of commercialization opportunities; Russian science can’t identify local markets.

The real root of the problem lies in owners of this country’s large companies not buying domestic innovations to upgrade their assets. If they begin to do so, this will stimulate the entire development of this sector of the economy and will eventually create a terrific platform, from which Russia can not only export commodities but also high technology products—and not only in the defense sector but in regular consumer electronics, pharma or IT markets. These are significantly broader in scope across the entire planet compared to simply defense products, which are typically government-to-government purchases.

As soon as Russian industry begins to tap into global consumer markets, the scale for expansion is astronomical and can represent huge profits for Russian companies.

R&D neglected

There’s another serious snag that holds back Russia’s innovation drive.

If you look at the American market, for example, on average 3.5% of corporate turnover is returned in R&D investments. If you look specifically at the pharmaceutical or telecom sectors, 20-to-30% of turnover is plowed back into research and development. This allows companies to continuously improve efficiency and their competitiveness on a global scale.

As far as the stats I’ve seen, Russian companies, unfortunately, spend on average less than 0.5% of turnover on R&D across the entire economy. For large government-owned industries in the oil and gas sector, if I’m not mistaken, this is like 0.17%.

There’s no comparison with the amount of money that global majors like Exxon, Shell or BP reinvest in research and development. There’s no path to an innovation economy unless corporate Russia takes the lead in trying to catch up.