Is Spain losing out on international investment in R&D?
The rise of the emerging countries as a new focus for the R&D of multinational companies is weakening the leadership of developed countries, leaving those such as Spain in a complicated situation in relation to aspects linked to technological readiness. This article therefore examines what factors influence the attraction of value-added foreign investment, as well as possible measures that could improve Spain’s outlook.
1. Where in the world is R&D situated and why?
The world financial crisis of 2008 left in its wake a new international economic map. The most visible change is seen in the rise of emerging countries as a new pole of attraction for investment by multinational companies. From 2005 to 2015 the percentage of accumulated foreign investment received by the BRIC countries (Brazil, Russia, India and China) increased considerably with respect to developed countries (see graph 1). Although the latter are still leaders in attracting foreign investment, there is a relative decrease in their worldwide participation. Spain is not immune from this tendency: in ten years worldwide foreign investment has fallen by 1.3%. In contrast, in the emerging countries the tendency is upwards, especially in China, which in 2015 accumulated nearly 5% of worldwide foreign investment.
The gradual opening of emerging economies to foreign investment and their recent commitment to technological innovation as a driving force for competitiveness have led these countries to be the main receivers of foreign investment in R&D from multinational companies. These corporations choose the countries in which to locate their R&D activity on the basis of factors linked to market demand and the technological readiness of the host country (see figure 1).
Market demand is concerned with aspects such as the size, potential and drive of local and nearby markets, and the availability of production and logistics infrastructures. These factors attract investment in innovation to provide technical support for foreign production units and differentiate multinational companies’ standardised products, adapting them to local needs. Traditionally these were the types of factors characteristic of the emerging countries which attracted investment, therefore innovation was linked to the production and commercialisation of products in the geographical market.
However, recently emerging countries are endeavouring to attract investment in higher value-added innovation, by promoting technology readiness factors. This means they are reinforcing aspects more closely related to policies in innovation matters, local presence of leading-edge scientific institutions, availability of qualified research personnel, quality of higher education, etc. Investing multinational corporations attracted by these factors consider internationalisation as a source of value creation for obtaining new competitive advantages, increasing their technological capacity by making use of other countries’ knowledge. Thus, these countries become more appealing the more they increase the resources they commit to R&D, better the quality of their human resources and improve their scientific level (Kuemmerle, 1999).
In addition to the market and technological readiness, other general factors exist that include aspects such as the economic and political situation, legislation, bureaucracy, cultural barriers, etc. Although these factors are not solely responsible for attracting the innovation of multinationals, they can provide the stability necessary to instil confidence in foreign investors. The emerging countries are also taking steps to reinforce their institutional framework, although the maturity of their institutions still lags far behind that of developed countries.
Following the change in orientation of the emerging countries, the multinationals are transferring part of their innovation from developed countries to more advantageous economies. Thus, the gap that separates more advanced countries from developing countries is progressively being closed. This phenomenon, which was practically unthinkable a few years ago, is being intensified, giving rise to a change in tendency that poses new challenges for the Spanish economy. Before this new situation, what is the competitive position of Spain in attracting the R&D of the multinationals? It is no longer a case of competing with those countries that are traditionally more advanced in innovation, but also with emerging countries that are scaling positions and showing increasing strength.
To respond to this question and evaluate Spain’s position, this study examines two sources of information. Firstly, the annual report produced by the World Economic Forum (WEF), The Global Competitiveness Report (GCR), which provides an index comparing global competitiveness between the different countries, and is compiled based on official public data and an opinion survey of business executives. Of the twelve basic pillars that make up the index, the three are analysed that provide information on market competitiveness, technological readiness and the institutional framework (see graphs 2, 3 and 4).
Secondly, an opinion survey was conducted among eight multinational companies (Alstom, ArcelorMittal, Ericsson, Hero, Hewlett Packard, Sony, ThyssenKrupp and Vodafone) that possess consolidated R&D centres in Spain. Based on various interviews with general and R&D directors of these corporations, there is analysis of how the multinationals perceive location factors and what Spain’s position is with respect to benchmark developed countries (United States, Japan and Germany) and the BRIC countries (see table 1).
2. Spain against the developed countries and the BRIC:
MARKET DEMAND FACTORS
According to the GCR, the market size pillar, determined by internal demand plus the exports of an economy’s businesses, attracts multinationals due to the potential for exploiting economies of scale. Although traditionally Spain has been considered a good platform for expansion towards Latin American markets, the evaluation awarded to Spain in the market size pillar is far below other countries analysed. The United States, China and India not only have the largest markets (between 20% and 30% larger than Spain even after taking into account Spanish businesses’ exports), but the high growth of their exports is boosting their position, as they gain ground over Spain year after year.
The multinationals interviewed offered views along the same lines (see table 1). According to Hero, “when a market increases in weight, it justifies greater investment in innovation, as an important volume of business in the country means that development activities are carried out, above all in order to adapt to local needs”. And although for Alstom, “the Spanish subsidiary constitutes an extremely important location for the commercialisation of products in South America”, in general, the directors interviewed are of the opinion that the size and drive of the Spanish market is far below the potential of China and India.
Factors related with production networks also have an influence on attracting investment aimed at covering demand. According to the directors interviewed, Spain has an advantage over the BRIC countries, both in availability of qualified providers and in infrastructures and logistics systems, but none with respect to developed countries. In the words of Hero, “the level of infrastructures must be analysed more by zones than by countries themselves”, as countries’ internal level of development is unequal. Hewlett Packard is of the opinion that “the ideal solution is to find a country with suppliers that in turn are competitive in production costs and have the resources and capacities necessary to undertake R&D activities.”
TECHNOLOGICAL READINESS FACTORS
The innovation pillar defined by the GCR includes evaluations of the different countries on aspects such as business expenditure on R&D, availability of scientists and engineers, quality of the research institutions and capacity for innovation and university-business collaboration, among others. According to these indicators, Spain lags behind the de veloped countries (whose results are better by approximately 40%) and the BRICs are cutting down distances (graph 3). While Brazil and Russia present worse results than those of Spain, China manages to beat it, and India is clearly chasing close behind, as it is approaching the Spanish level and even surpassed it by 7% in 2016.
Furthermore, the multinationals interviewed pointed out the importance of technological readiness factors for attracting research to Spain, beyond mere technological development (table 1). They highlighted the need for an effective fiscal system to encourage business spending on R&D, as the BRICs have very attractive fiscal incentives. In India, for example, the law contemplates a deduction of 100% of the amount spent on R&D on the taxable base of business units. Budget cuts in recent years are undermining the advantage of Spanish subsidiaries in relation to subsidiaries in emerging countries, which are maintaining and even intensifying these types of aid.
Another essential element for attracting innovation is the availability and the cost of scientists and engineers. For Sony, “given that the cost of an R&D centre is basically constituted by the salaries of researchers, factors linked to the labour market are crucial in the international decision-making process.” Spain emerges favourably in comparison with the BRICs, above all in terms of availability of qualified personnel and the quality of its universities. However, the cost of scientific personnel in Spain is perceived as less competitive than that of emerging countries, despite output performance being higher. In these countries there is a prevailing lack of commitment among employees, which brings with it high research-staff rotation and, consequently, a fall in performance and an increase in personnel costs. According to Hewlett Packard, “sometimes, in emerging countries, it is not only necessary to pay the engineer or researcher hired, but also the substitute who is on the “bench” waiting and learning in case the post-holder decides to leave halfway through the project.” All this leads to inflation of salary costs, which reduces the appeal of the apparent advantage in the costs of the BRICs. Additionally, living standards in Spain help to attract and retain scientific personnel. In fact, according to Vodafone, “in recent years, the Spanish subsidiary has been an important receiver of expatriates within the British multinational.”
Spain also obtains a positive score, though with room for improvement, in the availability of scientific institutions and its capacity for attracting scientific talent. According to Hero, “the Spanish scientific level is good although more resources are necessary.” For Alstom, “a vital point is the creation of real possibilities of return for researchers who have had to leave the country to develop their research career abroad.”
In addition, separation between the scientific-academic world and the business world is another of the key factors requiring improvement. For Sony, “a major gap exists as, despite the great potential of Spanish research centres and the resources invested, their objectives are very different and far removed from those of the business system.” Therefore, it would be necessary to establish bridges that reinforce the collaboration and transfer of knowledge between both systems, creating, for example, a national innovation network in which both the public sector and the business sector would participate.
INSTITUTIONAL AND CULTURAL ENVIRONMENT FACTORS
Within the institutional environment pillar, the GCR evaluates the different legal and administrative frameworks of each country. This determines the quality of the public institutions on the basis of transparency and legal security and has a major influence on the confidence and decisions of international investors. According to this pillar, since the 2008 crisis, the image of Spanish institutions has deteriorated, especially in relation to Government corruption and efficiency, which widens the gap between Spain and the United States, Japan and Germany, putting the country in a vulnerable position before the advance of the emerging economies (see graph 4). With the exception of Brazil, where the level of institutional competitiveness in 2016 fell to levels of 2008, Spain is being reached by the BRICs, especially by India and China over the last four years.
However, in the opinion of the multinationals interviewed, there is still a long road to travel until the emerging economies achieve the levels of certain developed countries (table 1). For Hewlett Packard, “fighting with Chinese bureaucracy is complicated, but with India it is especially exasperating.” Furthermore, according to Hero, “Brazil and Russia have a long-winded and insecure legal system, which can make work enormously complicated.” Spain still has an advantage in issues related with the protection of intellectual ownership, above all with respect to countries such as China, where a high risk of copying exists along with a lack of a legal system that enforces regulations. According to Vodafone, “in Spain, the protection of intellectual ownership does not cause any problems; it is considered a strength.”
Beyond institutional security, other aspects more closely linked to the economic situation also reinforce the confidence of investors. For Ericsson, “macroeconomic instability adds difficulty and complexity if the aim is to execute a strategy of industrial implementation and local commitment in the long term”. Despite the financial crisis being international, some developed countries such as Spain have been more severely affected, and although in recent years a deceleration of growth has existed among the BRICs, they still maintain a better position with respect to Spain. For ThyssenKrupp, “macroeconomic instability may mean less capacity for public funding and a deterioration of the country’s image abroad, which if prolonged over time could ultimately lead to the de-location of the multinational’s R&D centres from Spain towards other countries, such as Germany, for business policy reasons, or China, more for market reasons”.
Finally, the cultural differences between countries (work practices, communication problems, and cultural barriers) complement this third group of factors. While not in themselves attracting foreign investment in R&D, they may undermine a country’s appeal. For the multinationals interviewed, cultural factors take on greater importance when operating in emerging countries, where practices for doing business are different. For example, according to ThyssenKrupp, “the way of proceeding in China is very different from the European way. Whereas in Europe an idea is analysed, developed and only once it is very clear is it tested, in China they frequently resort directly to trial and error. This leads to many protocol problems.” Also, according to Hewlett Packard, “it is difficult to find supervisors in China, because their cultural view of hierarchical structures makes it difficult for them to take decisions.” For this reason, Swiss company Ericsson, with 17 R&D centres that provide employment for 22,400 engineers worldwide, “trains its employees in areas such as communication and multicultural management”.
3. Conclusions: a necessary evolution
Countries such as Brazil, Russia, India and, above all, China, are gaining ground on the map of international location for R&D, occupying part of a space that was previously indisputably dominated by countries such as the United States, Japan and Germany. Not only is there a closing of the technological gap that previously kept the BRICs lagging behind, but we are also witnessing a loss of the competitive advantages offered by countries considered as moderate innovators as is the case with Spain.
Spain only outperforms developed countries in the cost of qualified scientific personnel and the BRIC countries with regard to its institutional and cultural environment. Nor does it have any factor that represents an absolute advantage with respect to both groups of countries. For this reason it remains a long distance behind the countries that are leaders in innovation, while being surpassed by the BRICs, not only in relation with the market, but also technological readiness factors such as R&D policy, the availability of scientific talent at a competitive cost and the presence of leading-edge scientific institutions. In consequence, Spain has no location characteristics that differentiate it and confer upon it a relative higher position for competing. Spain’s lack of competitive advantage in some of the factors for attracting R&D puts it in an intermediate position, this being one of the most vulnerable situations with regard to the competition because the risk exists of ultimately being “trapped in the middle”.
In the face of the strategic turnaround among the BRIC countries, which are adopting measures with effects on the quality of their technological readiness in order to attract higher value-added foreign investment, the challenge for Spain consists of strengthening its innovation system before the aforesaid countries catch up with it. As priority lines, there should be strengthening of the presence of scientific institutions, improvement in the capacity for attracting scientific talent and reinforcement of the linkages between the scientific/academic and the business worlds. In particular, measures geared towards strengthening collaboration between the different national agents and local and multinational companies would enrich the generation of ideas and attract financial resources that would boost technological readiness. Only with a longterm view and the implementation of proactive R&D policies, accompanied by public aid and fiscal incentives for the private sector, will Spain manage to construct the innovative ecosystem so necessary for improving its international competitiveness.
Kuemmerle, W. (1999): “The drivers of FDI into research and development: an empirical investigation”, Journal of International Business Studies, 30(1).
Miravitlles, P., L. Guitart-Tarrés, F. Achcaoucaou and A. Núñez-Carballosa (2013): “The role of the environment in the location of R&D and innovation activities in subsidiaries of foreign multinationals”, Innovation: Management, Policy & Practice, 15(2).
Miravitlles, P., L. Guitart-Tarrés, A. Núñez-Carballosa, F. Achcaoucaou and C. Cruz-Cazares (2013): Factores de localización de centros de I+D en los países emergentes y análisis de las ventajas competitivas de España, Madrid: Fundación Española para la Ciencia y la Tecnología (FECYT), Ministerio de Economía y Competitividad.
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