That investment in research and development (R&D) should help economic growth seems to be a no-brainer. And a consistently high level of R&D spending, measured as a share of GDP, seems to be a precondition for being a prosperous country, as seems evident from Figure 1.
The top 5 countries all post GDP per capita well above the EU average (the most recent list of GDP per capita in the EU28 can be seen here) and all of the bottom 10 have a GDP per capita below the EU average. Outliers are Slovenia and Estonia but this may follow from causality: Whereas richer countries may be better able to afford more R&D spending, it should be higher R&D spending that creates higher future GDP per capita – if so, good news for Estonia and Slovenia.
Figure 1: Spending on research and development (R&D) as a share of GDP, EU28, 2012
Source: Eurostat; Note: Luxembourg excluded
The link between R&D spending and GDP per capita can also be illustrated and perhaps even more clearly by Figure 2 that plots the two against each other. A clear, significant, positive relationship appears.
Figure 2: GDP per capita (2013) against the share of R&D in GDP (2012)
Estonia is blue, Latvia red, Lithuania green
Source: Eurostat and own calculations; Note: Luxembourg excluded
And then to what the patient reader has been waiting for all along: Why such a dismal performance by Latvia? In general one could come up with at least four reasons:
1) Lack of funding – R&D spending is partly from the private sector, partly from the public sector. Public sector spending is generally low in Latvia and may partly explain this sorry state.
2) Lack of priority – it would be strange if this had low priority. Of course, Latvian politicians know the link between R&D spending and GDP per capita. But the country is not very ambitious in this area. Its EU2020 target is only 1.5% of GDP – OK, more than a doubling of the current 0.66% but a long way from the recommended 3% and behind the goals of Estonia and Lithuania. And the EU does not even believe that Latvia will hit this modest goal (see section (10)).
3) Specific reasons – in some, typically small, countries the industrial structure may not need all that much R&D. Cyprus has a target of just 0.5% and I guess there is a limit to how research-intensive tourism needs to be. But Latvia is not supposed to a tourism-mainly economy so I don’t find this point valid here.
4) Lack of capability – and this is where the problem really lies, isn’t it? R&D spending is low because the capacity to perform R&D is low. The EU mentions in its recommendations for Latvia’s national reform programme (same link as before) that only 10% of the country’s research institutions can be considered as high-level research centres. Pretty dismal, and an issue that should receive much more attention than it has since it acts as a significant stumbling block for the country’s future growth.
Morten Hansen is Head of Economics Department at Stockholm School of Economics in Riga