The rate and path of innovation will be critical for determining the world’s economic future. Indeed, having an innovative society may be more important for growth than having a high rate of capital investment.

Since 1995 the share of national output going to business investment in the U.S. has averaged only 11.3%, almost identical to the previous two decades, and considerably lower than Japan. Yet U.S. productivity has surged because of the rapid adoption of new technology, in the form of the personal computer and the Internet.



Without technological breakthroughs, it will be difficult to solve the most pressing long-term problems. It’s hard to see, for example, how the fast-growing energy needs of emerging economies such as China and India can be met over the long term without new sources of energy. And providing affordable health care to aging populations around the world will be a challenge unless medical productivity dramatically improves — and that won’t happen until health-care technology advances far enough to reduce costs rather than increase them.



Nor will it be possible to generate enough good jobs for American workers in the future without new innovative industries. The events of the 1990s reminded us how a technological breakthrough — the Internet — could inspire an employment boom and create whole new categories of occupations, just as innovations such as the automobile and railroads have in the past. More than ever, it’s clear that America’s prosperity depends on its ability to remain the global innovation leader.



Innovations don’t have to be technological breakthroughs, like the Internet. They can be more mundane advances in, for example, manufacturing or retailing or the reorganization of work processes within a corporation. The idea of “lean manufacturing,” introduced by Toyota Motor Corp. (TM ) in the 1960s and ’70s, showed how it was possible to increase the quality and reduce the cost of assembly-line production. Around the same time, the advent of “big box” retailers such as Wal-Mart Stores Inc. (WMT ), which opened its first store in 1962, brought highly efficient logistics and tightly integrated supply chains to retailing. This innovation — based in part on effective use of information technology — is a key reason why retail productivity has risen so much faster in the U.S. than in Europe. More recently, eBay’s (EBAY ) ability to successfully run auctions online has opened up a sales channel that never existed before.



In addition, the rapid pace of financial innovation — mostly in the U.S. — has made capital markets far more liquid and stable, translating into more innovation and growth. The first real venture-capital firm, American Research & Development, came into being in 1946, making it much easier to finance innovative startups. The invention of the credit card, introduced by Bank of America Corp. (BAC ) in 1958, gave middle-class Americans access to easy and immediate credit. And the creation of the mortgage-backed securities markets in the 1970s transformed the way that housing was financed, and enabled homeowners to tap into their home equity.



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