Do subsides encourage innovation?

As the world is rapidly moving towards recasting development financing to meet the pressing needs of the post-2015 development agenda, the question of subsidies’ efficiency comes to light (again).

Should subsidies still be supported by countries, with donor funding, to help maintaining and streamlining service delivery in critical sectors, such as agriculture, energy and telecommunications? Debates have been ongoing for more than a decade.

But a recently published research work points out that well-targeted subsidies in the early stages of mobile technologies diffusion can play a determinant role in their massive adoption, helping to overcome initial confidence barriers, leveraging economies of scale, and, in the longer-term, triggering macroeconomic positive feedback mechanisms.

Evidence shows that information and communications technologies (ICT) — especially mobile telecommunications services — can lead to sustained economic growth and human development. Mobile telecommunications, without any doubt, have triggered many positive changes and impact in the developing world. They are by far the leading area of growth in the ICT sector. Because of this central role, mobile technologies are increasingly used as a transformational tool to foster economic growth, accelerate knowledge transfer, develop local capacities, raise productivity, and alleviate poverty in a variety of sectors.

In that respect, in the last decade, ICT development has become a key strategic area for policy engagement in emerging economies.

However, the much-celebrated breakthrough of mobile telephony in the developing world must not obscure the chasm between rich and poor nations in accessing ICT. The diffusion dynamics of new technologies across regions show a striking heterogeneity. For many emerging economies, the massive expansion of low-cost telecommunications networks and value-added mobile services remains a major development challenge. In addition, this puts a tremendous pressure on private sector and ICT firms operating in the space, who are expected to develop more inclusive marketing strategies and commit to important investments on international markets.

To support policy-makers and marketing decision-makers in designing optimal ICT sector development strategies, an increasing research focus is now being placed on the success factors and the impediments to implementing ICT solutions in the developing world.

As a contribution to this field of research, a recently published book titled “Quenching the Thirst for Innovation : Modeling the Diffusion of Mobile Technologies”  aims at identifying the economic and socio-cultural determinants affecting the capacity of developing countries to adopt new technologies and innovations, as well as defining relevant policy principles likely to foster the diffusion of ICT solutions in emerging economies that are characterized by strong income inequality and uncertainty avoidance.

The research methodology focuses on designing a holistic framework for the analysis of ICT diffusion processes, based on a multidisciplinary literature review and conclusive interviews conducted among innovation industry and development experts. In order to capture the non-linear forces at play and the complex interactions (feedback loops) between macroeconomic, corporate and consumers dynamics, we use the System Dynamics modeling approach.

Designed at M.I.T. in the 1960s and originally applied to engineering science, this system thinking approach enables to assess the implications of policy strategies in complex and highly integrated environments. Once calibrated using available mobile phone diffusion data for 17 countries, the model is used to explore various ICT development policy options and quantify their impact on diffusion speed and extent. The key findings of this research work are that:

1. Country-wide socio-economic heterogeneity and endogenous cultural drivers — such as uncertainty avoidance— significantly influence the dynamics of innovation diffusion across countries. For instance, emerging economies with strong income inequalities and social stratification are more prone to face exacerbated challenges in the large-scale adoption of new technologies.
2. Temporary cross-subsidizations at the early stages of product diffusion can, in particular, significantly accelerate market penetration. Defining the optimal timing and duration of such subsidizing approaches requires a detailed analysis of the product affordability across the population, as explained in the modeling approach section. In particular in income unequal countries, it is recommended wait for economies of scale to draw adoption costs down, and postpone cross-subsidy programs until the product starts to become affordable to the upper segment of mass-markets.

Cross-subsidization in the early stage of diffusion can significantly accelerate product takeoff. Such a mechanism, implemented for one year, just after product commercialization, would allow reducing the time to takeoff from 3.9 years to 2.6 years. This is illustrated in the figure below, showing simulations for Brazil — a country characterized by strong income inequality.