Research and Development across Canada

Quebec allocates almost the same share of its gross domestic product to research and development as the province of Ontario but the number of patents delivered in Ontario is the double of that in Quebec. This difference lies in the dynamism of the two economies.

The first of the two TV debates in view of April 7, 2014 general election took place yesterday, March 20, between the leaders of four political parties. Were debating Mrs. Françoise David for Quebec Solidaire, Mr. François Legault for  the Coalition for the Future of Quebec, Mr. Philippe Couillard for the Liberal Party of Quebec, and the outgoing Prime Minister Mrs. Pauline Marois for the Quebecois Party. Economic issues were the first of the four topics discussed. To the question which strong medicine, the party leaders were proposing to stimulate Quebec’s economy, Mrs. Marois was the only one to talk about reviving foreign trade and research and development (R&D). I found it unfortunate that she did not went deep into these points that differentiate her from her challengers.

R&D is the investment in the design of the goods that an economy will produce in the future or in the discovery of new and better ways of doing things. Nowadays, innovations resulting from R&D are protected with patents. As a matter of fact, R&D stimulates growth in an economy since it increases business investment spending and revives exports and investments abroad given the know-how domestic firms gain from it.   

In terms of percentage of its gross domestic product (GDP), Quebec invests more than any other province in Canada in R&D. As it appears in Figure 1 below, between 1981 and 2011, it is, on average, 2.02 % of Quebec’s GDP that is allocated to this activity versus 2.01 % in Ontario.

Figure 1: Share of Gross Domestic Expenditure on R&D in GDP, average, 1981-2011, Data Source: Statistics Canada, NL: Newfoundland & Labrador, PE: Prince Edward Island, NS: Nova Scotia, NB: New Brunswick, QC: Quebec, ON: Ontario, MB: Manitoba, SK: Saskatchewan, AB: Alberta, BC: British Columbia, Territories: Nunavut, Northwest Territories, and Yukon

 While the share of GDP invested in R&D is almost the same in Quebec and Ontario, the number of patents granted in Ontario is the double of that in Quebec.

Figure 2: Percentage Share of Patents Granted by the USPTO to Institutions across Canada, Average, 1980-2012, Data Source: Institute of Statistics of Quebec

Without any doubt, there is more room to entrepreneurship in Ontario than in Quebec. That is why the two provinces allocating the same share of their GDP to R&D end up with different productivities as far as patents are concerned. To be more prosperous, Quebec has to foster the creation and expansion of small and medium size companies. 

Foreign Direct Investment and Research and Development in Canada

Why do firms settle subsidiaries abroad? Many theories have been put forth to explain this phenomenon known as foreign direct investment (FDI). According to some of these theories, firms invest abroad because they possess some product differentiation ability, a monopoly power, patents, trademarks, etc... These special assets are known to be the outcomes of successful research and development (R&D) activities. I then propose to test empirically these theories by checking whether there is a long-run equilibrium relationship between Canadian direct investment abroad and our gross domestic R&D expenditure. The R&D expenditure I consider are those in National Science and Engineering funded and performed the Canadian business enterprise sector. I use, in turn, three series on Canadian direct investment abroad: (1) the net flows, i.e., the investments abroad by Canadian firms minus their divestments, (2) the outflows, i.e., the investments abroad net of the reinvested earnings, and (3) the earnings made abroad and reinvested abroad by Canadian firms. These series are plotted in the figure below for the period 1970-2011.  

The figure shows a co-movement between each of the three measures of Canadian direct investment abroad and the R&D expenditure. By co-movement, I mean when the R&D expenditure goes up or down, the measures of Canadian direct investment abroad also follow the movement. Some simple linear regression exercises indicate that the R&D expenditure explains respectively 59 % and 64 % of the variability observed in the net flows and the outflows of Canadian direct investment abroad. It accounts for 74 % of the variability observed in outflows of Canadian firms’ reinvested earnings abroad. The relationship between each of the three measures of Canadian direct investment abroad and R&D expenditure also turns out to be a long-run equilibrium one.

R&D activities generate what is called knowledge spillover, i.e., any firm can freely use the knowledge underlying previous innovations to devise new and distinct products or idea.  So, foreign firms may want to settle in Canada in order to benefit from the know-how of our domestic firms. I have found that the  flows of FDI in Canada are also positively correlated with our gross domestic expenditure on R&D. This latter variable explains respectively 31 % and 49 % of the net flows and the inflows of FDI in Canada. It explains 72 % of the profits reinvested by foreign firms in Canada. It is also worthwhile recalling here the positive correlation between Canadian direct invest abroad and FDI in Canada I mentioned in my November 28, 2013’s blog. The correlation coefficient between these two variables is about .8.                       

 

To finish with, note that:

• A reason why Canadian firms go abroad is because they are endowed with a specific know-how acquired through R&D, 
• A government policy aiming at encouraging R&D activities in Canada will boost growth, enhance the performance of our firms outside the country, and will attract more FDI in our country.