Blog
Dynamic Efficiency and Innovation
29th January 2008
Dynamic efficiency is an increasingly important aspect when we consider the welfare consequences of market structures. I regard dynamic efficiency as form of efficiency that occurs over time in the sense that a market should meet our changing needs and wants as time progresses.
Naturally we expect to pay a premium price for innovative products that enhance the ‘customer experience’ or which deliver something else better than the ‘industry standard.’ But at the heart of this is the impact of process and product innovation by suppliers in the market place.
There is a whole literature out there that deals with the causes of innovative behaviour. William Baumol’s ‘The Free-Market Innovation Machine: Analyzing the Growth Miracle of Capitalism’ was a major contributor to the debate. And there is a good summary of the concept of innovation in the Economist’s A-Z economics directory.
I gave the students three industries in which dynamic efficiency might be an important characteristic- motor car manufacturing; health care services and postal deliveries. In all of them there has been and continues to be a growing intensity of competition - for example the rapid growth of health tourism among nations of the European Union and the liberalisation of household and business mail deliveries in the UK since 2006. There were some excellent ideas generated in the mind map. It quickly becomes clear that innovation is a driving dynamic of a competitive market, but that businesses need the incentive of a proper commercial rate of return in order to drive through a lot of innovative behaviour.
Of course innovative behaviour can go too far - we may well be witnessing just the start of the negative fallout from a decade or more of incredibly complex innovation in financial products such as collaterised debt obligations and the like which is currently unsettling the world’s financial markets.
I showed three short video clips on aspects of innovation - all from the BBC news audio-visual library. Here are the links:
Aspects of dynamic efficiency
Face Book and the incentives for applications developers
China and innovation - a shift away from manufacturing to design
Geoff Riley
Geoff Riley FRSA has been teaching Economics for over thirty years. He has over twenty years experience as Head of Economics at leading schools. He writes extensively and is a contributor and presenter on CPD conferences in the UK and overseas.