An Analytical Framework

Any analytical framework that deals with the issue of what the proper development strategies are for SMEs in the PRC-especially with regard to technological innovation-has to confront the issue of understanding the basic nature of innovation. At the same time, such a framework needs account for the specific circumstances surrounding a transition from a centrally planned economy to a market-oriented one. ²

In this paper, we introduce an analytical framework that highlights these issues based on a synthesis of four distinct areas of prior research: The resourcebased view on the late-industrialization (Barney 1991), the institutional economics perspective on technological learning process (Nelson 1993), the innovation network analysis on industrial competitive strategies (Porter 1990), and the monopolistically-competitive model of international trade (Krugman 1979, 1980).

Resource-based late-industrialization

At the center of the resource-based view is the fact that the superior performance of a country is derived from the pursuit of a strategy that best exploits its unique resource positions (Barney 1991). ³ In this view, then, the development of the technological capability of the nation is premised mainly on competing use of resources, or more specifically, on the allocation and leveraging of resources toward both the use of existing as well as the creation of new technologies, so as to enhance the overall competitive capabilities of the nation's industries. Technological capability development can be conceptualized as either enhancing an existing core competence, or an attempt to build new core competence (Hamel & Prahalad 1994).

This richer understanding of the nature of technology allows a departure from standard models such that technological capabilities can now possess two dimensions: Product technological capabilities and process technological capabilities. The former is more upstream, and focuses on the ability to create, design, and commercialize new products (whether in terms of goods or services); while the latter is more downstream, and is concerned with the ability of the nation to manufacture or produce multiple copies of a given product. These are not mutually exclusive, but rather a fuller conceptualization of the nature of the underlying technological capability of a nation. We adopt this two-dimensional understanding of technology for our analytical model.

Institutionally-based technological learning

Based on the discussion above of the two dimensions of product and process technologies, this section goes on to examine four modes of the technological learning process for a late-industrializing economy, as suggested by Wong (1999): The product technology pioneering mode, the process capability pioneering mode, the fast-follower innovation mode, and the applications specialist mode.

The product technology pioneering mode involves strong capabilities in terms of product technology, but is relatively weak in terms of process technology. In this mode, new products are pioneered though radical product technology innovation. In addition, the first-mover advantage allows for the establishment of a given innovation as the dominant design, and its consolidation through subsequent incremental innovations. This innovation path is probably most commonly pursued in advanced industrialized countries, and is the most difficult mode for late-industrializing economy. Some recent examples of such an innovation mode are those of Apple's iPod and Japanese hybrid car technology.

At the other end of the spectrum is the process capability pioneering mode. Here, rather than seeking new product innovation-which may require the costly development of research, innovation, marketing, and branding capabilities, accompanied by a higher risk of product failure-the focus is on developing process capabilities by mastering the latest technologies for low-cost, high-quality product replication. There are several possible approaches to this mode: By the progressive expansion of the vertical scope of process capabilities (via the development of complementary industries from the raw material stage through to the final product stage), or by a concentration on either specialized niche components or process steps, and building its capabilities in that chosen area. In general, this mode requires the constant investment of resources into process innovation technologies, for the purposes of maintaining high levels of productivity in the face of rising factor input costs. This mode is best exemplified by the Asian dragon economies such as Taipei,China (in high-technology computer parts and peripherals) and Korea in the 1980s (in steel manufacture).

The applications specialist mode allows for low levels of both product and process technological capability. In this mode, the aim is to become an innovator in the application of existing technologies. This usually occurs in a business area where complementary skills already exist. Success in this mode requires the early adoption of new (but available) technologies, and the use of these new technologies in ways that enhance competitiveness in traditional industries. In some ways, this mode may overlap with the process capability pioneering mode, since highly-innovative usages of existing product technologies may be treated as pushing the service process technology frontier. ⁴ This involves more than na ive, straightforward adoption, however: Doing so may run the risk of stagnation. Examples of countries that have successfully adapted to this mode include the United Arab Emirates in its national airline, while much of sub-Saharan Africa provides a negative example of countries that have not adapted well to this mode.

Finally, the fast-follower innovation mode captures the enviable circumstance where an indigenous late-industrializing economy is able to move from being a late-follower to fast-follower, and perhaps even toward parity or exceeding established leaders via leapfrogging. Often, economies graduate into this mode from the process capability pioneering mode, where, by taking advantage of technology transfer through licenses and/or imitative learning, it eventually develops an indigenous product technology capability, while maintaining its process technology leadership. However, the converse-starting with high technological capabilities and developing process technologies-is also possible. Japanese car manufacture in the 1990s and German heavy industry in the post-World War II period are examples of each. We adopt this distinction between the four possible realizations of technological capabilities into our analytical model.

Network-based industrial competitive strategies

Given the above modes that we have defined, it is possible to introduce corresponding competitive strategies that accompany these modes. We adapt the generic strategies concept introduced by Porter (1990) and introduce three strategies that are congruent with our framework; namely, the free riding strategy, strategic cluster strategy, and niche strategy.

The free riding strategy corresponds to the applications specialist mode. Here, the approach is to simply free-ride off the available technologies developed by others. However, as suggested above, without adequate insight into the business or market-such that new technologies can be leveraged to best improve competitiveness and productivity-there is a risk of falling behind.

Strategic clusters seek to form alliances in order to gain competitive advantages. This strategy can be used profitably under the fast-follower innovation mode, although the cluster strategy can be applied to the process capability pioneering mode as well (especially for moving into the fast-follower innovation mode). Almost by definition, this strategy is best adapted to SMEs, since their size and outlook make them more flexible and adaptable in terms of developing complementary relationships within a strategic cluster. The successful execution of this strategy requires the repositioning of firm image from low-end, low-tech producer to high-quality, high-sophistication manufacturer over time.

The niche strategy fits best into either the product technology pioneering mode or process capability pioneering mode, as firms within the economy concentrate on becoming the supplier of specialized niche products or process steps.

Figure 1 [ PDF 74.9KB | 1 pages ] summarizes the conceptual framework that we have developed for the purposes of understanding domestic technological capabilities. In order to allow for an international dimension, we now incorporate some insights from the monopolistic competition model of international trade.

We open our hitherto closed-economy approach by adapting the Krugman (1979, 1980) model of monopolistic competition to our model of domestic technological innovation. ⁵ As before, we allow technology to change over time, and we allow for resource endowments to differ between countries. Now, opening the economy to trade provides yet another mechanism for increasing returns: That of a larger market with consumers that have a love of variety.

With an international market, an economy can adopt either a high or low export orientation. In general, it is in the interests of firms to seek to produce products for export. However, with differential levels of productivity, coupled with fixed costs of export, not all firms will be able to adopt an export orientation (Melitz 2003). Therefore, economies that are able to encourage lower fixed costs of exporting-by minimizing red tape, through participation in free trade agreements, and fostering a national innovation system that supports products with an international appeal-will be able to situate themselves in the hyperquadrant with a fast follower innovation mode accompanied by export orientation, where welfare is maximized. We call this the globalized fast follower innovation mode. In general, firms in this mode will also tend to be larger in

size (medium as opposed to small), since an export orientation will be accompanied by an expansion of market size and hence the size of the firm, as well as more effcient. ⁶ Figure 2 [ PDF 58.3KB | 1 pages ] captures our ideas with respect to the international technological capabilities.

Economies from clustering

Entering the globalized fast follower innovation mode requires an upgrade of both size and technology, in order to further development and to enhance the productivity of industries in global markets. More specifically, our analytical model suggests that a network cluster strategy, pursued concomitantly with an international outlook, is the best approach for doing so. The successful pursuit of such a strategy enables firms to increase in size (from small/medium to medium/large), adopt technology that is higher up the value-added ladder (from consumer/low-tech to low/high-tech), and serve global markets (from domestic/import substitution to international/export orientation).

Firms in a cluster benefit from the advantages of agglomeration and external economies of scale; increasingly, the empirical evidence suggests that the key binding constraint for firm growth stems not so much from size per se, but from the fact that small firms face limited resources, and when operating independently, cannot access the variety of resources available to larger firms. As a result, clustering allows the benefits of increasing returns due to these external economies to be harnessed. ⁷ This involves increased cooperation between SMEs within a cluster, in terms of vertical as well as horizontal linkages, both bilaterally and multilaterally.

The economies of scale that exist in a cluster allow the firm to access resources that are typically beyond the reach of a small firm. These include the purchase of inputs, including raw materials and technology; the creation of a common pool of skilled workers; the shared use of common capital, such as production machinery; and the pooling of production capacity in order to meet large-volume orders from international buyers. Moreover, economies of scope can be achieved in a cluster by employing common marketing and distribution channels, and by learning from each other about areas such as common markets and product and process improvements. Alternatively, such economies could also be attained by collaboration through producer associations that help open up access to international markets, and which increase small firms’ access to government support services. Finally, working within a cluster may also give rise to greater specialization. Firms can concentrate on their core businesses, and evolve a division of labor among firms, thereby achieving greater effciency in production.

The case of the PRC is complicated by its transition from a centrally-planned economy. We argue that, in order to reap the full benefits of economies from clustering, the process of economic development needs to emphasize a collaborative process between the government, private firms, and research and educational institutions (Porter 2004). This evolution is summarized as Figure 3 [ PDF 70.3KB | 1 pages ].

There is increasing empirical evidence that cooperation among SMEs that share business interests such as markets, products, and infrastructure needs is more likely when these enterprises operate in close physical proximity. This physical proximity, in our view, is best achieved when the development of these clusters operate as a network within the framework of the broader NIS.

Network clusters and the National Innovation System

In addition to cooperation between SMEs in a cluster, the cluster also allows SMEs to interact with institutions in their surrounding environment. These institutions include-but are not limited to-universities and R&D institutes, banking and other types of financial intermediaries, non-financial intermediaries (such as marketing and human resource firms), and relevant government departments; we define these institutions as functional agents. Moreover, certain policies may also impact the cluster. Essentially, our model sites the network cluster within the broader National Innovation System; this national innovation system is thus comprised of the set of innovation actors, the linkage mechanisms among them, and the policies and institutional factors that influence the performance of each of the innovation sectors. We illustrate these components and their linkages in Figure 4 [ PDF 66.4KB | 1 pages ].

The above setup allows us some flexibility in classifying the linkages that exist within the NIS. For example, a vertical cluster can exist with the configuration

Firm A + Firm A1/A3 + Functional Agents.

Alternatively, a network cluster can exist with the full set

Firm A + Firms A1,A2,A3,A4 + Functional Agents.

Although most firms in a cluster or network may be small, we define an "organized cluster" as a cluster that exhibits active cooperation and maintains directed linkages among participating firms, usually with the involvement of government policymakers at either the infrastructure or coordination level. This occurs when SMEs in a cluster or network evolve together, after the realization that, by working together as a group, they obtain advantages that allow them to compete in the global economy, which they may not possess if they act as individual, isolated small enterprises. ⁸ As the cluster matures, the focus shifts toward establishing new relationships with other network clusters, and consolidating relationships with the functional agents.

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1. Christian Louboutin
   (posted 09 June 2010 / 01:03:10 AM)
   
   Thanks for this useful article.