There's tax cuts and there's tax cuts: getting big business to innovate

The major big business lobby groups have largely welcomed this week’s innovation statement, getting behind its support for entrepreneurs. One wonders why they care since it is primarily focused on research institutes and startups, which they hardly interact with.

“Australia’s innovation challenge means we need to move from fat and happy, to lean and keen,” said Australian Chamber of Commerce and Industry chief Kate Carnell.

As the Australian economy is forced away from a sole dependence on the resources sector, the reality is our dominant services sector has relatively few exporters. One reason is these companies are users of technology platforms rather than developers; they have to a large degree been operating in a protected oligarchical environment which has depressed their need to innovate with respect to the development of technology platforms.

Competition review head Ian Harper, in the interest of consumers, would like to put pressure on the services oligarchies by removing the hidden barriers to competition from larger foreign players and new disintermediating entrants into the Australian services sector. Inexplicably he also wants to water down our already weak IP rights which would further reduce the incentives for our services companies to invest in the creation of new IP.

The principle of using a big stick (removing the hidden barriers to foreign competition) would supposedly force our companies to compete more aggressively to keep their market share to the point that they would be competitive enough to export their services.

I think that this is a very risky approach.

Firstly, there is a good chance that they would fight such changes and collectively they could win such a battle.

Secondly, even if by some miracle these changes came to pass, our oligarchies might simply lose out to foreign service providers well before they could change their cultures sufficiently to compete in a truly open market.

Essentially battles of the type being waged in the taxi industry today could engulf our whole services sector, which accounts for around 70% of GDP. Without our own disintermediating services companies focused on world domination, Australia would be much worse off in such a scenario.

At the same time, Carnell and others continue to call for a cut to the company tax rate, which she and her counterpart Australian Industry Group chief Innes Willox have consistently argued is not competitive with the rest of the world.

It is true that international competitive pressures are driving company tax rates towards zero. So we may as well use company tax breaks as an incentive for companies to behave in a certain desired fashion while we can.

Alternative options

My personal preference is to go for the carrot and not the stick. Government can give the same oligarchies in the services sector a strong incentive to invest in innovation in the areas of their core revenues using substantial tax breaks for foreign income related to innovation through the patent box scheme.

The key would be to offer these tax breaks only for foreign income, for two reasons; one, only foreign income would result in any net benefit to the taxpayer, and, two, because it’s possible that our companies would focus solely on gaming such a tax break if it were available for domestic income, without any having to venture overseas into larger markets.

Only after such a transition is well on it’s way should we open up the Australian services markets to foreign competition with some surety that our companies have the skills to defend their local patch, based on their already successful foreign ventures.

Innovation is no longer optional

On the subject of “innovation” I would note that it is not an outcome of any sort by itself. It is a habit of individuals and companies that is required to flourish in the modern era. All it means is that “constant change” is the new norm.

Government policy that focuses on just on creating “innovation” suffers somewhat because it is difficult to measure genuine outcomes. Far more useful would be a target to, say, double high-tech exports which are currently only 1.5% of all exports by value. Fostering innovation to achieve such a goal would then be far more concrete.

The role of government, if there is one, is to give the right people and companies the correct incentives to be innovative and successful.

As a final note, it would seem quite disingenuous to attempt to foster innovation in Australia without also addressing our court system that currently makes the enforcement of IP (and especially patent) rights slow, complex, expensive and with little financial return.

Ian Maxwell has invested in a number of companies that have gratefully received federal government grants.