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R&D in Canada and British Columbia

Topic Box from the 2006 Sixth Annual Benchmark Report

Research and development (R&D) leads to innovation and ultimately productivity improvements and economic growth. The importance of R&D is widely recognized but the best policies to encourage it remain up for debate. Research and development spending in BC has long lagged behind Ontario and Quebec in both absolute and relative terms. British Columbia accounted for only 8.8 percent of Gross Domestic Expenditures on R&D (GERD) in Canada in 2004, while Ontario accounted for 48.6 percent and Quebec accounted for 27.7 percent. British Columbia's R&D intensity (GERD relative to GDP) was 1.5 in 2004, while Ontario and Quebec had ratios of 2.3 and 2.7, respectively.

A recent OECD study found that one of the strongest economic growth determinants among member countries was the level of BERD intensity (Business Expenditure on R&D as a percent of GDP). The same study found no statistically significant effect from public R&D spending. BC ranked third among provinces for the percent of R&D performed by the business sector in every year between 1990 and 2004 with an average ratio of 54.1 percent. However, Canada as a whole does not perform well in international rankings, earning the 20th rank in the OECD with 54.0 percent of GERD performed by the business sector. BC earned the 17th rank in 2004, well below the OECD average of 67.9 percent.

Several factors help explain BC's historical underperformance, including:

  • Reliance on Natural Resources: the economies of the western provinces have traditionally relied on the natural resources sector. Commercial activity in BC has predominately been concentrated in the forestry industry. This has prevented research-intensive industries from maturing and reaching the critical mass needed to compete outside the province. In most countries, high-tech industries are responsible for the largest share of BERD. In contrast to BC, the economies of Ontario and Quebec are less resource-dependent and have a much more developed manufacturing sector where a large amount for their R&D takes place. Among the provinces, Ontario and Quebec consistently rank 1st and 2nd for both GERD and BERD as a percent of R&D.

  • Large Service Sector: BC has one of the largest service sectors among the provinces and service industries have low R&D intensity in general. The service sector accounted for 73.2 percent of BC's GDP (at basic prices) in 2005, compared to 69.0 percent for Canada. The high service sector share is attributed to larger than average shares in: health and social assistance; education; finance and real estate; tourism; and, transportation.

  • An Underdeveloped Venture Capital Market: Western Canada receives only 14 percent of all venture capital in the nation. This is not surprising because venture capital investment is often determined by where it is managed and only 12 percent of all venture capital is managed in Western Canada. In comparison, 87 percent of venture capital funds are managed in Ontario and Quebec. In 2005, Ontario and Quebec received venture capital investments of $751 million and $710 million, respectively – dramatically higher than the $226 million invested in BC.

  • Clusters: Canadian R&D is largely concentrated in Ontario and Quebec, and even more specifically, within Ottawa, Toronto and Montreal. This concentration is also seen in the US where California alone accounted for over one-fifth of US R&D in 2003 and the top five states (California, Michigan, Massachussetts, Texus and New York) performed 43.2 percent of the total. As Alberta and BC have the third and fourth largest provincial economies their historically poor R&D performance is a large part of the reason for Canada's weak showing. Fortunately, they both have the necessary supports for R&D – excellent universities, skilled labour, desirable cities, and proximity to US technology clusters – within the GVRD in BC and the Calgary-to-Edmonton Corridor in Alberta.

  • Investment: Capital expenditures (or capex) are investments by companies in machinery and equipment and buildings. Although capex and R&D spending are often considered seperate they are complimentary. Investment in new machinery and equipment is one way to incorporate innovations discovered through R&D performed by others, either within Canada or outside the country, usually the US. More than two-thirds of world technology diffusion to Canada originates in the US. The gap in investment per worker in Canada and the US is estimated at $3,200 for 2006; investment per worker in Canada roughly matched that in the OECD in the late 1990s but is now estimated to be $1,400 less. Investment per worker in BC in 2006 was 70 percent of the US level and 81 percent of the OECD level. Among the provinces only Newfoundland and Labrador (121%) and Alberta (178%) enjoy investment levels above the US.

  • Taxation: Taxation affects so many of the decisions that have lead to our historical underperformance. Canada has the sixth highest effective tax rate among thirty-six competitor countries in 2006. Of particular importance, US tax policy is more supportive of investment spending by companies than Canadian tax policy. Canada's rate, 36.6 percent, is the eighth highest in the world and is more than six percentage points higher than size-weighted average effective tax rate on capital across all eighty-one countries. Within Canada, BC had the fourth highest rate among the provinces in 2006 with a rate 8.3 percentage points above Alberta, but 4.9 percentage points below Ontario.

British Columbia has a mediocre R&D track record. A recent provincial R&D report notes that Manitoba (14.1%), Alberta (12.1%) and BC (11.9%) had major increases in 2004 that were driven by growth in business R&D. National growth in R&D expenditure was 6.8 percent in 2004 and was around 4.5 percent in 2005 and 2006. Further, BC's R&D spending as a percent of GDP has increased from 1.07 in 1999 to 1.45 in 2004 and the relative gap between R&D spending in BC and the Canadian average has decreased from 40.4 percent in 1995 to 28.0 percent in 2004.

BC has the necessary supports for an R&D cluster within the GVRD. Continued growth in R&D spending (see page 79) and capital expenditure (see page 72) would help to improve the R&D picture in BC.

Sources: Jaumotte and Pain (2005), Innovation in the Business Sector, OECD Economics Department Working Paper No. 459; TD Economics (2006) British Columbia's Golden Decade, Can this Period of Prosperity Take on a Longer Life?; BC Progress Board (2006) Boosting Incomes, Confronting Demographic Change: BC's "Productivity Imperative"; Harris, Richard (2005), Canada's R&D Deficit – And How To Fix it, Removing the Roadblocks, CD Howe Institute.; Statistics Canada (2006), Total spending on Research and Development in Canada, 1990 to 2006, and Provinces, 1990 to 2004, cat. #88-001, Vol. 30, no. 7; Ference Weicker & Company (2003), Western Economic Diversification Canada: A Catalyst for Innovation in Western Canada; Thomson MacDonald (2005), Canada's Venture Capital Industry in Q4 2005; Wolfgang Keller (2001) The Geography and Channels of Diffusion at the World's Technology Frontier, NBER Working Paper No. 8150; Robson and Goldfarb, (2006) Canadian Workers Need Better Tools: Rating Canada's Performance in the Global Investment Race, CD Howe Institute; Mintz (2006) The 2006 Tax Competitiveness Report: Proposals for Pro-Growth Tax Reform, CD Howe Institute.