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Parallel innovation policies to supportfirms with heterogeneous innovationcapabilities in developing economiesDilupa Nakandalaa, Tim Turpina & Abdelkader Djeflatb

a School of Business, University of Western Sydney, Locked Bag1797, Penrith, NSW 2751, Australiab Faculté d'Économie et de Sciences Sociales Department,University of Lille1, Cité Scientifique, 59650 Villeneuve d'Ascq,FrancePublished online: 14 Nov 2014.

To cite this article: Dilupa Nakandala, Tim Turpin & Abdelkader Djeflat (2015) Parallel innovationpolicies to support firms with heterogeneous innovation capabilities in developing economies,Innovation and Development, 5:1, 131-145, DOI: 10.1080/2157930X.2014.980552

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Parallel innovation policies to support firms with heterogeneousinnovation capabilities in developing economies

Dilupa Nakandalaa*, Tim Turpina and Abdelkader Djeflatb

aSchool of Business, University of Western Sydney, Locked Bag 1797, Penrith, NSW 2751, Australia;bFaculté d’Économie et de Sciences Sociales Department, University of Lille1, Cité Scientifique, 59650Villeneuve d’Ascq, France

Recent research in understanding innovation policy practice in developing economies hasrevealed the need for different analytical perspectives. In considering the parallel presenceof firms with highly diverse levels of innovation capabilities in developing economies,policy-makers must be keenly aware of the heterogeneous technological requirements ofthese firms. An analysis of the national innovation system of Sri Lanka reveals the presenceof science-driven innovation policies which tend to benefit the firms that engage in in-houseknowledge creation activities but only weakly support those engaged in strategic externaltechnology acquisitions as a means of gaining a competitive edge. Taking this firm-centredview when considering developing economies such as Sri Lanka, we propose a pluralisticapproach that takes account of internally created knowledge, externally sourced knowledgeand firm heterogeneity for efficient innovation-based development. The implications forpolicy-makers in developing economies are on the need of different parallel systems andselective approaches that cater to the diverse technological requirements of local innovationactors to promote, nurture and create the desired technological change through optimalutilization of existing resources.

Keywords: firm heterogeneity; innovation; technological development; national system ofinnovation; Sri Lanka; developing economies

1. Introduction

The national system of innovation (NSI) framework responds to the effects of innovation andlearning through the analysis of economic growth. Early seminal work on the NSI researchwas based on empirical studies of industrialized economies, and there has however been increasedrecent focus on developing economies. A broader understanding of the NSI is needed to adapt theinnovation system approach for developing economies (Lundvall 2007). In addition to the ten-dency to concentrate on the science and technology institutes and policies in a general analysisof an NSI in a developing economy, it is also important to understand how different forms ofknowledge and different modes of innovation are combined. A narrow view that focusesmainly on science-driven innovation in developing economies limits the possible understandingsof avenues towards economic development through alternative approaches (Arocena and Sutz2000). Growing evidence indicates that innovation capabilities rest on the innovation strategiesbased on DUI (doing, using and interacting) and firms that have a strong DUI-mode of learning

© 2014 Taylor & Francis

*Corresponding author. Email: d.nakandala@uws.edu.au

Innovation and Development, 2015Vol. 5, No. 1, 131–145, http://dx.doi.org/10.1080/2157930X.2014.980552

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and combine it with elements of the STI (science, technology and innovation) mode are often themost innovative (Jensen et al. 2004; Lundvall 2007).

The application of the NSI concept in practice is challenging and policies can run the riskof ending up with a ‘one size fits all’ (Chaminade, Intarakumnerd, and Sapprasert 2012). Whileit is true that all industries in less developed economies are not as sophisticated or technologi-cally competitive as those in developed economies, there are nevertheless firms that are highperformers which are innovative and internationally competitive (Djeflat 2012; Nakandalaand Turpin 2013). Their presence increases the level of complexity required for analysis. Inthe context of catching-up economies, Kim (1997) argued that the innovation paths of suchfirms are different from those in developed economies and proposed a model with threestages: acquisition of foreign technology; assimilation; and improvement. However, promotionor adoption of one innovation path or strategy may not lead to a promising technologicalchange for an economy when the presence of firms with recognizably different levels of inno-vativeness is strong. Hence, the parallel presence of firms at diverse technological levels, somewith high technological and innovation capabilities but many with weak in-house technologicaland knowledge capital, creates a need for a policy response that recognizes this firmheterogeneity.

This article analyses the innovation system of Sri Lanka in order to gain insights into itsstrengths and weaknesses; it takes the perspective of the firms, placing them at the centre ofthe analysis. It demonstrates the current policy emphasis on science as the driver of innovationand technological development and exposes the concurrent weak policy focus on the capitaliza-tion of pre-existing firm-level connections with the international knowledge stock. We argue thatthis absence of heterogeneous policies fails to create an environment simultaneously conducive tofurthering the technological development of globally competitive local innovative firms and tosupporting the nurturing of firms with weak technological capital. In contrast, we propose abroad development approach that supports technological learning and growth within localfirms and infant industries that are attempting to compete in the international market, tobecome internationally competitive and thus align with national development goals.

This paper proceeds as follows. Section 2 places the discussion in the context of the relevantliterature. Section 3 introduces the methodological approach and provides a synthesis of the per-ceptions and experiences of firms, policy-analysts and policy-administrators concerning the NSIof Sri Lanka. Section 4 discusses these perceptions and builds an integrated framework for ana-lysing the Sri Lankan NSI and potentially for application in other developing economies. Section5 concludes with suggestions for further research.

2. The NSI approach for developing economies

There is a range of definitions of innovation in the literature and these determine how innovationsystems are not only defined but also analysed (Lundvall 1992). In order to represent the nature ofinnovation that takes place in developing economies and the innovation system with all actors(not limited to those with R&D responsibilities) that contribute to innovation (OECD 2005),this study defines innovation as any improvement on process or product. To understand theeffects of innovation and learning in the analysis of economic growth, the concept of NSI wasintroduced by Lundvall in the mid-1980s and was first used by Freeman to analyse the successof Japan (Freeman 1987; Lundvall 2007). The initial narrow view of the NSI approachfocused only on institutes that promoted the acquisition and dissemination of knowledge at thenational level and the later broader NSI perspective recognizes all institutes that affect the newproducts, processes and systems, including the role of political, cultural and economic policiesin which those institutes are embedded and which take part or influence research and development

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(R&D) and innovation (Freeman 2008). Alternatively, the micro view recognizes the importanceof small routine-type innovations of firms where knowledge and the process of learning are para-mount to the development process and the sources of knowledge can be enduring relationshipsamong firms, customers and suppliers (Lundvall 1992).

Assimilation theory identifies the importance of technology learning and technical change foreconomic growth, beyond the original investments in the accumulation of physical and humanassets (Nelson and Pack 1996). Approaches to develop capabilities to both generate and useknowledge are equally important for development (Cassiolato and Lastres 2000). Operationaliz-ing technology learning strategies is however, not straightforward: the challenge of identifying thepolicies that are capable of generating and stimulating technological development efficientlyunder specific local conditions is not trivial. It is widely recognized that approaches for technicalchange developed and analysed in industrialized economies need adaptation rather than simpleadoption of policies in developing economies. Based on the East Asian experience in economicgrowth, Lall and Teubal (1998) identified that technological learning requires an integrated mix offunctional, horizontal and vertical policies and recognized that the formula for this mix woulddepend on the country context and local policy-making capabilities. The need for an extendedapproach that combines new technological development and first adoption of new technologywith the assimilation of new technical knowledge through its effective application across theeconomy, has also been identified (Vonortas 1998). For developing economies, it is acutelyimportant that STI policies be creative and vertical and be accompanied by strong governmentcommitment (Niosi 2010); to manifest in this manner, they must focus on enhancing mechanismsfor absorbing, diffusing and mastering advanced knowledge, the ongoing development of a strongnational education and training system and ways to nurture new and potentially dynamic industrysectors.

The analysis of NSI is highly complex as a result of the diversity of firms, research institutes,policies, R&D funds and programmes, universities and government agencies involved in inno-vation as well as all the myriad interactions among these institutional actors. As such, the NSIanalysis needs a flexible, context-specific and comprehensive approach. Firms are at the heart ofthe analysis of this complex system, and firms, their linkages to each other and to the knowledgeinfrastructure are the central motor in the innovation system (Lundvall 2007). All types of firms,irrespective of the level of innovativeness, must be analysed as they all have the potential todevelop. The analysis of the NSI should start with the knowledge about what is happening infirms in terms of innovations, followed by the linkages among firms and with the knowledgeinfrastructure. Subsequently, the wider setting must also be analysed and the performance ofthe innovation system must be explained with reference to the firm organization and networkpositioning. Firms have nonetheless diverse technological levels in developing economies,and there is a strong need to broaden the NSI framework to recognize firm heterogeneity inorder to reinforce innovative firms operating in challenging systemic contexts (Jensen et al.2004).

In many developing economies, public R&D funds are invested in public research institutes(PRI) and in university research. Industrial involvement in R&D lags behind even when there areexplicit government incentives (Niosi 2010). Systemic problems encountered by non-research-based firms relate to the institutional conditions for innovation (Chaminade, Intarakumnerd,and Sapprasert 2012). These include capabilities, hard and soft institutions, networking andsupport services. Interactions with other innovation actors in the system are beneficial for inno-vative firms with a higher absorptive capacity, and national initiatives in the form of industrialconsultancy services and technology transfer support are appropriate for their innovation anddevelopment. Consequently, national-level policies and strategies should take into account theheterogeneous needs of firms and their innovative capacity, contingent upon their level of

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innovativeness, knowledge networks and the wider setting in order to accommodate their specificand differential requirements in their drive to innovate.

3. Overview of Sri Lanka and empirical data for analysis

Sri Lanka is a lower-middle income economy in South Asia with a population of 20.8 million on aland area of 65,610 km2 and with a US$49.5 billion economy (2010). The literacy rate is high at90.5% (2008) (World Bank 2012). In 2010, 58% of GDP was derived from services value-add,29% from industry and only 13% from agriculture. Garment exports have dominated the nationalmanufacturing exports for several decades; however, other industries such as tyres and tubes(13-fold increase) followed by electrical machinery parts (7-fold increase) have shown low butsteady growth over the last 15 years.

Sri Lanka offers an interesting developing-economy case study for exploring an NSI from theperspective of firms. This is because in some sectors, such as rubber products, there is a significantdiversity of technological development, technical complexity of the operation and innovativeness,etc. across firms. In the rubber sector, while raw rubber production has a long history there is acomplex mixture of firm types that are also engaged in rubber product manufacturing. Somehave links back to raw rubber production through their vertically integrated models, some haveglobal links through international partnerships with international rubber product manufacturersand chemical and machinery suppliers and some merely occupy a position in the value chainwith very limited innovation capability. Similarly, developments in the garment accessories indus-try in recent decades have expanded the diversity of the garment industry firms; some continue inbasic garment manufacturing, while others are specialized garment manufacturers, garment acces-sories manufacturers, and most recently in fashion design. Collecting and analysing the percep-tions of a diverse group of firms generates an inclusive and more appropriate understanding of theimpact of national innovation policies on the sector.

3.1. Methodology

The data were collected from multiple sources as a part of a bigger study conducted during 2009–2010 that investigated the innovation and technology management strategies of manufacturingfirms in two sub-sectors: rubber products and garment accessories. Six case firms from thegarment accessories and rubber products manufacturing industries were studied with regard totheir interactions with the NSI. They were selected on the basis of their performance and techno-logical development. Fifteen face-to-face interviews were undertaken which lasted for 1–6 hourseach with key technology managers in the senior positions of director, factory manager, technol-ogy manager and engineering manager in case firms. A total of 17 other interviews with, amongothers, officials of the Board of Investment (BOI), academics of relevant departments of a localreputed engineering university, researchers in a national research institute and external industryconsultants allowed a comprehensive collection of data on industry and the national context.The interviews were guided by a set of open-ended questions that aimed to capture how the inno-vation system supports (or otherwise) firm innovations and technological development. Interviewquestions solicited responses covering six general topics: R&D investment strategies; institutionalstructures in the system; state-funded research; the higher education system; foreign direct invest-ment (FDI) and technology transfer; and small and medium enterprises (SME) technology devel-opment. The focus of the interview questions was to gather information on how differentstakeholders perceived their impact on the support requirement of firms. Additional data collectedfrom government websites, corporate websites and consultancy reports were also integrated withthe interview data in order to supplement the updated contextual data.

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3.2. A summary of findings from an analysis of the Sri Lankan NSI

This section summarizes the findings from the analysis of interview data and the data sourcedfrom an extended search of relevant data from secondary sources, as guided by the findings ofinterview data analysis.

3.2.1. The national STI policy and R&D investment

The need for a national STI policy and the active role of government in national technologicaldevelopment have been well documented in Sri Lanka (Wignaraja 1994). The NationalScience Council in 1978 and the Presidential Task Force of Science and Technology in 1991,first attempted to develop an STI policy. The first comprehensive STI policy however, was devel-oped in 2010. To provide for national development, it explicitly identified the need for developingan STI culture; building human resource capabilities; promoting R&D; technology transferrequirements; policy that promoted sustainability and continued to foster indigenous knowledge;a defined system of intellectual property rights and took account of relevant social aspects.

Through the mid-2000s, government’s expenditure in R&D remained low at 0.17% and0.11% of GDP in 2006 and 2008 (UNESCO 2012). The average R&D expenditure in countrieswith medium human development such as in Sri Lanka is 0.77% of GDP in the period of 2002–2005 (UNDP 2009). There have been several proposals to increase investment on R&D: up to 1%of GDP over a five-year period (Ministry of Finance and Planning 2005) and up to 1.5% of GDPby 2016 (NASTEC 2012) with the public sector contribution being at least 1% as explicitly statedin the recent national STI policy.

Approaches to develop specific science and technology capabilities in some advanced areaswere demonstrated through biotechnology and nanotechnology policies mirroring national objec-tives. The implementation of the nanotechnology policy was through the National Nanotechnol-ogy Initiative in 2006 and the Sri Lanka Institute of Nanotechnology Private Limited (SLINTEC)established in 2008. This was an unprecedented joint investment between the government and theprivate sector. It consisted of a Sri Lankan Rupees (SLRS) 420 million1 investment with equalinvestment at 50% shares between the government, represented by the National Science Foun-dation, and five high-performing local firms. According to a respondent from SLINTEC, therehas been a significant interest from expatriate Sri Lankan scientists to contribute through knowl-edge sharing and building external linkages with international research institutes; such informallinkages provide access to advanced knowledge bases.

3.2.2. R&D institution structure

The administrative structure that underpins public research in Sri Lanka is complex; there is nodirect line of control or institute with overarching authority for the implementation of the nationalSTI policy. The National Science and Technology Commission (NASTEC), the peak policy for-mulating and advisory body for STI, established under the STI Developmental Act No.11 in 1998,is under the purview of the Ministry of Science and Technology and has limited control over theother PRIs in other ministries. For example, agriculture-based R&D institutes are located in threeministries: the Ministry of Plantations; the Ministry of Agriculture and the Ministry of MinorExport Promotions. According to a respondent from the National Enterprise Development Auth-ority, a lack of coordination of research effort, duplication of resources and barriers to the exploi-tation of common knowledge stocks are likely to have detrimental consequences for thedevelopment process, especially in the context of constrained resources. Limited opportunitiesfor an holistic approach result in negative consequences; for example, according to a respondent

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researcher in the Rubber Research Institute (RRI), which is under the Ministry of Plantations, theinstitute is not obliged to support the rubber products manufacturing industry, as manufacturingfalls under the Ministry of Industrial Development.

NASTEC’s limited authority saw the national STI policy implementation process requiringsignificant negotiation across many ministries; the solution was the establishment of an inter-min-isterial committee, chaired by the president of Sri Lanka. This committee coordinates andimplements policy objectives, giving due regard to STI and developing a national STI culture,and according to the NASTEC (2012), is an attempt to empower the national research systemto control the state-funded STI activities and ensure alignment with national priorities.

3.2.3. The role of state-funded research

Public R&D in Sri Lanka is dominated by agriculture-based research; a legacy of the historicallyagriculturally based economy. It was recognized that this historically unbalanced situationrequired redressal and that industry-specific research for agricultural product manufacturingthrough the agricultural research institutes engaged in product development and manufacturingprocess innovations in the downstream value chain (a respondent from the RRI) was required.In practice, there appear to be weak links between industry development and public research.For example, despite the local rubber product industry having internationally competitiverubber product manufacturing firms, the contribution from public research is mainly on rawrubber production (Nakandala and Turpin 2011). Even the objectives of the important STI Devel-opmental Act No.11 in 1998 overlooked the role of industry as an active participant in the STIdevelopment. In section 18 of this Act No.11, the incorporation of Industrial Training Institutewith government departments and institutions, universities and technical colleges is promotedwhile industry links were barely mentioned.

The role of public research carries both the generation and dissemination of new knowledge tousers for benefit-realization. As revealed in the interviews, rubber product manufacturing,researchers in the PRI and university academics lack up to date knowledge about the manufactur-ing technology used in the industry; weak demand from the industry for research collaborationsresults (Nakandala and Turpin 2011). However, skill transfer in the downstream of the value chainhas been functional. For example, the RRI in 2007 conducted 15 tapper training programmes, 28skill development programmes, 18 awareness programmes on agronomic practices and 40 train-ing programmes on quality improvement of Ribbed Smoked Sheet rubber and maintenance ofprocessing centres (RRI 2008); the consequent effects of which were quality and efficiencyimprovement in the upstream rubber product supply chain.

The lack of collaboration between downstream product manufacturing industries and publicSTI is addressed in the national STI policy through such mechanisms as industry representation inthe governing bodies of STI institutes and universities, tax incentives for industries with colla-borative research work and the promotion of private sector R&D. However, the missing, over-arching structure, no peak body to direct the research agendas of individual ministries, theslow response of public research to the changing needs of industry (with their evolvement ofdownstream functions) and the siloing of responsibility to different authorities at differentstages of the value chain are worthy of attention.

3.2.4. The higher education system

Education in Sri Lanka from primary school to university is regulated and funded by the govern-ment with only comparatively small input from private investment. The free education systemwith equal opportunities irrespective of socio-economic status is the backbone of the educated

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labour force. The level of school enrolment at a gross intake rate in grade 1, total (% of relevantage group) was 99.8% and progression to secondary schools was 97.8% in 2008 (World Bank2012). There are 15 state universities including 4 in engineering and technology, but onlyabout 6 offering postgraduate education in engineering, technology management and generalmanagement fields. The government spent 1.62% and 10.97% of GDP on the university educationand schooling system in 2007, respectively. A crucial issue is the limited resource available for theuniversity system which means that not all eligible students receive a university education; forinstance, out of 61.27% eligible students only the highest 16.53% could enrol in state universitiesin 2007 (UGC 2009). More specifically, the proportion of enrolments in engineering was 6.35%out of total 21,561 undergraduate admissions in the state universities in 2010–2011 (UGC 2011).The demonstrated polarization of resource distribution and academic capability in non-engineer-ing disciplines limits the human capital development in STI.

3.2.5. FDI and technology transfer

The Sri Lankan economy was the first in south Asia to liberalize trade policies in 1977 and adopt apro-export-oriented strategy. The problem of having a passive and non-selective investment pro-motion strategy in Sri Lanka (Wignaraja 1994) is reflected in the incentive scheme for FDI by theBOI. By the end of May 2008, the highest number of FDI firms was in garments and related pro-ducts, metal products and machinery and food products sectors. Recent efforts to promote stra-tegic investments through the Strategic Development Projects Act, No. 14 of 2008 intended tofavour special projects based on advanced technologies but require more efforts.

Technological upgrading of local industry utilizing foreign technology requires technologydiffusion to the local industries through competition, demonstration and skill mobility. Undersection 17 of the BOI act, the 2006 version of incentives provided non-traditional goods manu-facturing with fiscal concessions, such as exchange control and custom duty exemption on impor-tation of raw materials for export-oriented firms with 80% or more of production (BOI 2008). The2012 version has introduced a bar on exports at 75% for apparel and textiles and 90% for others tobe eligible for 6–12-year tax holiday period (BOI 2012). According to a respondent from the BOI,export-oriented incentive schemes are designed to shield the domestic industries from potentialcompetition from the multinationals in the local market.

Even when foreign firms intentionally and intensively control technology sharing with thelocal industry, the local workforce continues to develop skills and capabilities and thus increasesthe capacity for future technology acquisitions. For example, in the Sri Lankan rubber productsindustry, the only gamma irradiator for rubber gloves sterilization belongs to a foreign multina-tional for its exclusive use. Other manufacturers have more limited opportunities to expandtheir product range, increase quality and enhance process capability for international competitive-ness. The recent intervention of the government has resulted in a proposed gamma irradiator plantfrom the government investment of SLRS 320 million1 is intended for shared use among localfirms in the rubber products industry (Ministry of Technology and Research 2012). There are sig-nificant benefits from the multinational firm’s possession of technology; increased familiarity andawareness of a specific technology and improved engineering skills in installation, commission-ing, operating and maintenance causing increased readiness for the acquisition of technology. Asstated by a respondent from a rubber product manufacturing case firm, not only the technologicalskill readiness but also the social acceptance for the new technology made the adoption of the newtechnology for wider shared use by smaller firms feasible.

Vertical spillover to the supplier industries offers a possible path depending on the level of capa-bility and technological development of the local supplier industries. For example, according to therespondent industry consultant, one contributing factor in successful capacity building in rubber

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product manufacturing to come out of the long-term stagnated raw rubber production industry wasthe local knowledge base among raw rubber producers that enabled them to improve their qualitystandards to meet product manufacturing requirements. In the case of garment manufacturing, thesupplier industry faced several challenges in the beginning (Kelegama and Foley 1999); and theirtechnological development after the 1990s reflects the innovation capabilities and strategic technol-ogy management of local firms in joint venture partnerships in technology acquisition and techno-logical development (Nakandala and Turpin 2013).

3.2.6. SME technological development

The national STI policy in 2008 identified both the need for appropriate technologies in SME andthe role of STI institutes in rural industry development. The SME and micro industries sectorshave been identified as strategic sectors for regional development (Department of National Plan-ning and Ministry of Finance and Planning 2006). Operationalizing the development objectives ofthese sectors is done through several regional industrialization programmes. The Ministry ofTechnology Research has implemented the Vidatha Programme through Vidatha ResourceCentres (260 divisional secretariats by 2010) which are located nationwide. The support for entre-preneurs includes training and awareness programmes on cultivation, food processing, producingrecycled papers, ornamental fish farming, screen printing and computer hardware (Ministry ofTechnology and Research 2012). Another programme called Gamata Karmantha has beenimplemented with the objective of regional enterprise development (Ministry of Industry andCommerce 2012). These regional development programmes aim to develop an enabling environ-ment through provision of infrastructure for industrial development in regional areas (Ministry ofIndustry and Commerce 2012). According to a respondent from the National Enterprise Devel-opment Authority, these programmes enhance the potential for increased diffusion of moreadvanced technologies and the opportunity to shift towards more advanced industry sectors inremote areas in the future. As we point out in the discussion below, the parallel developmentof infrastructure is critical in rural areas in creating the environmental conditions conducive tothe sustenance of SMEs.

4. Discussion

This section reviews the findings of the analysis presented above and discusses them in thecontext of relevant literature. Overall, some national consensus regarding national prioritiesand targets for the STI policy is important in driving national efforts for directed technologicaldevelopment. The weaknesses created by structural barriers such as the absence of a peakbody and a direct line of control across STI-related institutes, such as public research institutes,create challenges for the implementation of the STI policy. STI institutional structures should beconducive to the deployment of national-level STI policies and convergence of institution-levelstrategies towards national priorities. For example, the scope and strategies of the RRI need toalign with broad national priorities in an integrated approach with other research institutes. Theprocesses related to government funding and monitoring and evaluation of projects need to besystematic and transparent for the maximum national benefit from limited resources. Thestrong bias towards agriculture-based research with limited public investment directed towardsmanufacturing represents a lack of synchronism between developments in the public researchsystem and economic structural development, typical of many developing economies (Chami-nade, Intarakumnerd, and Sapprasert 2012). The prolonged lack of government investment inR&D could now be supplemented through private–public partnerships as in the nanotechnologyinitiative evidenced in Sri Lanka. Identification of relevant public and private stakeholders and

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coordination among them and sourcing joint resources for infrastructure development includingfinance and technical and managerial skills are important in creating such partnerships.

For a less developed economy the contribution of higher education is significant (Lundvall2008). Investment in relevant skills serves to generate demand for knowledge while innovationis critical for technology assimilation. However, as the findings above suggest, the polarizednature of education resource distribution towards non-engineering disciplines ensures humancapital development in STI is limited and keeps the base of technological capability for industrydevelopment weak. There is a reciprocal relationship between industry development and STI skillbase. Moreover, irrespective of industrial development, the capacity of industry to absorb largenon-STI skills is limited, resulting in high unemployment among tertiary non-STI skills. Whilethe STI skill development for increased technological capability should be focused in and deliv-ered by universities (Lundvall 2007), at the national level there is a need for a range of high-leveland guiding policies. For example, governments need to assess higher education policy and pro-grammes relative to the industry innovation policies that are based on local industry growth, long-term industry plans, emerging industries and focused areas of technology. Although there couldbe a temporary mismatch between the industrial development and engineering skills, the foun-dation for higher technological capability and the skills surplus could be absorbed by industrydevelopment in the later stages, as in the case in Korea (Kim and Dahlman 1992).

Even in resource-constrained contexts, some firms stand out, innovate and prosper in theglobal market. Firm-focused initiatives and incentives can nurture their knowledge and technol-ogy-intensive activities. For Sri Lanka, the presence of local manufacturers producing high-quality complex garments and accessories for global niche markets, OEM tyre manufacturersfor international automobile brands and software developers for multinational firms confirmthe need to create favourable conditions that purposefully stimulate innovative functions andefforts in order to achieve sustainable growth. At the industry level, the overall picture presentedby Sri Lanka’s exports points to the technological dynamism of developing countries (Mani andRomijn 2004) as they represent the international competitiveness of local production. For SriLanka, garments have been the dominant exports followed by rubber tyres and tubes duringthe last few decades. However, the lead had been narrowing for some time and has now been over-taken by the other industrial exports (Central Bank 2011). The industries of electric machineryand parts, transport equipment and parts, paper and paper products as well as boilers, machineryand parts and the ceramic and porcelain products are steadily growing in exports but remain lessvisible under the dominant garment exports. Neither the garments industry nor the emergingindustries have attracted a significant public research focus. The limited research capacity inthese emerging areas is confined to the electrical, mechanical and materials engineering researchcapacity of universities. Incentives to stimulate their innovativeness and technological support inthese emerging industries could yield more returns generated through their already developedtechnological capacity. Based on the analysis of the Sri Lankan NSI which identified the areasof focus that need to be addressed to support the actors of economic activities in the innovationsystem, a firm-centred integrated perspective is developed in the following section.

4.1. A firm-centred integrated perspective for developing economies

Demand for innovation is equally in importance with the supply of innovation (Edler andGeorghiou 2007). Fostering demand for knowledge is more difficult than fostering knowledgesupply (Arocena and Sutz 2000) and this is a particular problem for developing economieswith limited resources. The developments of industry and the need for firms to be competitiveto survive drive demand for innovation. Developing economies have the capacity to capitalizeon the demand for innovation that resides with innovators such as high-performing firms, both

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big and small and the STI skill base. While some industries and firms that require a systemic pushto be innovative, some have already built innovative capabilities, and these also require systemicsupport, but in this case for sustainability and enhancement. It is appropriate to consider technol-ogy policies that cater for the different requirements of firms and industries operating at multiplestages of the technology ladder.

4.1.1. External knowledge perspective

Studies on emerging economies show that international technology transfer has been prominentand contributed at some stage to the technological development process (Kim and Dahlman 1992;Hoekman, Maskus, and Saggi 2005). Firms in technology-constrained contexts seek moreadvanced technologies externally; subsidiaries of foreign firms and local firms in joint ventureswith foreign partner firms have better access to advanced knowledge across borders. Overall,foreign technology transfer is a major source of technological change in developing economiesthat have scarce technological resources (Lastres and Cassiolato 2005) and the capability of inno-vation systems in supporting technological developments through external technology sourcingas well as inducing local innovation are equally important.

Links are created between NSIs by firms and other institutional actors for knowledge, inno-vation and technology (Rasiah 1999). In a firm-centred analysis, the potential effects and opportu-nities for firms to benefit from external knowledge that resides internationally with offshoreinstitutes or domestically with foreign subsidiaries that possess more advanced technologicaland managerial skills are important. Hence, interactions between local and foreign agents in thenational system are very important. The importance of international technology transfer to devel-oping economies for productivity growth through technology acquisition and diffusion has alreadyfocused the attention of the policy-makers in developing economies and resulted in the formulationof policies that stimulate international technology transfer (Hoekman, Maskus, and Saggi 2005).

Technology transfer through inward foreign investments, licensing, capital goods purchasesand turn-key projects, increasing technological collaborations with overseas institutes for univer-sities and research institutes and promoting international skill exchanges through training pro-grammes are important. Subsidiaries of foreign firms or others in joint ventures link with theirforeign partner firms in sourcing knowledge and technologies for development. Universitiesand research institutes create links with other foreign peer institutes to access better technologiesand engage in collaborative R&D. Tapping the knowledge within the multinationals requiresinvestment incentives, such as special economic zones, subsidies, tax holidays and othergrants, for the increase in foreign investments (Hoekman, Maskus, and Saggi 2005). Incentiveschemes promoting export-oriented foreign investments do not induce competition in the dom-estic market and do not push domestic firms for technological advancements. The Sri Lankanlocal knowledge stock and innovative firms together facilitate the functional upgrading of localindustries through foreign technology transfer (Nakandala and Turpin 2011). Based on the com-ments from the respondents from case firms in the rubber product manufacturing industry and theRRI and the industry consultant, both the accumulated local knowledge base on raw rubber pro-duction and the presence of foreign investment in the rubber product industry have influencedgrowth in the rubber product manufacturing industry.

There is a need to adopt dynamic technology policies throughout different economic growthand technological development phases. In least developed economies, technology acquisitionthrough FDI is considered to be more appropriate than licensing, given their weak absorptivecapacity (Hoekman, Maskus, and Saggi 2005) even though some studies have shown that technol-ogy transfer remains relatively limited in viewof the high expectations of host countries (Young andLan 1997). Judgements based on the national technological development levels hinder appropriate

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systemic responses for firm performers and emerging and performing industries. The presence ofindustries and firms at diverse technological development levels calls for policies to match theirlevel of absorptive capacity. From the point of view of development through external sourcingof technologies, policies assisting acquisition, assimilation, development and diffusion of technol-ogy are important. The acquisition challenges lie in developing strategies that can select technol-ogies that align with national priorities and directions; that are actually needed by firms; that thelocal skill base and industries have the capacity to absorb; that can build local competences andthat have the capacity to functionally upgrade the existing industries. The expansion of a localengineering skill base and creating competitiveness amongfirmswill increase demand for high util-ization of transferred technology. Selective strategies to promote diffusion of technologies throughinduced competition are more effective than horizontal export-oriented incentives for foreigninvestment. Service-oriented strategies to enable firms to identify which technologies availableinternationally match their domains and identify potential technology suppliers and foreign inves-tor partners are also important. Policies that support innovative firms formore investment in acquir-ing better technologies; mobility of skills through supporting the creation of more firms andincentives to promote qualified technical labour are likely to enhance technology diffusionacross domestic firms as well as increased demand for innovation in the local industry.

4.1.2. Internal knowledge stocks

Technological capability such as the ability to develop and exploit knowledge commercially is ofcritical importance to foster catch-up (Fagerberg and Srholec 2008). In the linear view of techno-logical development, STI-based learning understands science-based research as the first step oftechnology and innovation and R&D focus for local research efforts towards new products;process developments become crucial for economic performance. Alternatively, learning andtechnological development through DUI leads to exploitation of knowledge and technologydepending on the competence and the learning capacity of the users of technology. It is difficultto measure DUI-based learning with the standard measurements (Lundvall 2007). Innovation per-formance requires both STI- and DUI-based learning and the narrow policy perspective thatfocuses only on the STI mode must be avoided (Lundvall 2007).

With respect to domestic technology transfer, knowledge gaps between public research insti-tutes and innovative firms could hamper effective collaborative innovations or technology transfer.Interactions aremost likely to take place between research institutes and smallfirms operating in thedownstream value chain. The protection of indigenous knowledge-based technologies and theencouragement of knowledge and technology-based innovative activities in firms, as well as iden-tifying and exploiting grassroots innovations, are mandatory for the growth of a local innovationbase. Mechanisms for technology transfer to rural industries could be used to understand the tech-nological requirements of those industries and communicate and engage with rural communities,and could be purposefully used to identify and nurture grassroots innovations. The recent focuson informal innovations and community-based innovations confirms the importance of capturingnon-traditional forms of innovation that take place in developing economies.Moreover, the conceptof scarcity-induced innovations identifies the problem-solving and innovative capabilities in devel-oping economies. All forms of non-formal, non-systematic and informally performed R&D (Sutz2012) as well as community-based innovations (Lorentzen 2010) have been emphasized in thecontext of developing economies to recognize the existing innovation base and inform policy-makers in designing strategies that capture and nurture all types of innovations.

Figure 1 presents a schematic view of an integrated framework for analysing NSIs in devel-oping economies. The externally sourced technology perspective includes technology acquisitionfrom external sources, diffusion to the local industry and development required national-level

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strategies to increase the absorptive capacity of firms and make available a wider setting condu-cive for transfer and diffusion. In the development process, cross border interactions to tap exter-nal knowledge become very effective for developing economies with constrained localknowledge resources. Internally created technology refers to the development of local knowledgestock and capabilities and innovation. R&D investments and research-based learning for creationof new industries and upgrading of the existing industries as well as interactive learning for thedevelopment of local capabilities and innovation are crucially important for sustainable techno-logical development. Moreover, community-based innovations and informal innovations mustnot be overlooked and the system must be capable of capturing and nurturing them. For bothexternally sourced and internally created knowledge and technology, there must be an intentionalfocus by policy-makers on the development, transfer and diffusion system. However, the pro-cesses of transfer, diffusion and development in each dimension are simultaneous rather thansequential (Kim and Dahlman 1992). Consequently, the NSI should accommodate the complexco-existence of multi-foci in each dimension. The third dimension of firm heterogeneity rep-resents the different levels of innovativeness of firms and the resulting requirement differentialbetween firms for systemic support from the NSI. This can even be related to industries at differ-ent levels of innovative performance and potential for development but firm-level differences areimportant because there is a high diversity of firm innovativeness within industries in developingeconomies. Selective policies need to support innovative firms that are competitive in the globalmarket, nurture emerging firms to exploit their innovativeness and also push the others with thepotential to be competitive in future. The findings of this study align with the studies which

Figure 1. Firm-centred integrated perspective.

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identify the context specific requirements of developing economies. Some examples are fromCassiolato and Lastres (2000), which recognized the higher levels of diversity and institutionalinstability in developing economies and from Arocena and Sutz (2000), which referred to the‘normative weight’ of the NSI concept in the developing-economy context.

5. Conclusion

This article analyses the NSI of Sri Lanka in order to identify its effectiveness in promoting theproduction, transfer and diffusion of technology in the developing-economy context. Anapproach that adopts a more appropriate broader view of the NSI and exploits existing and poten-tial knowledge and technology resources is the key to efficient technological development indeveloping economies. First, state initiatives are important for the successful transition of devel-oping economies as evidenced in emerging Asian economies (Lundvall, Intarakumnerd, and Vang2006). While the NSI comprises the core and the wider setting within the national boundaries(Lundvall 2007), as an open system it extends across the national borders (Rasiah 1999) andsuch interactions need explicit consideration in analysing the NSI.

Firms are the key actors of technological development in an economy. A key observation inthis study is the significance of the existence of diverse actors at different levels of technologicaldevelopment and technological and innovation capabilities along with the simultaneous pres-ence of parallel states of technological development within and across sectors. This diversityin firm requirements needs to be considered in formulating national-level policies to supporthigh firm performers, both emerging and active innovators and those are not yet active butwith the potential to grow. This firm-centred approach enables an understanding of knowledgecreation, technological development and innovation processes in firms and their requirementsfor the national system context. The ability to exploit internal knowledge and capabilities,access to available external knowledge stocks within international firms and institutions andthe capability to exploit those resources and adapt them for local development are crucial fordeveloping economies.

STI Policies in Sri Lanka do not reflect the application of the broad NSI framework. Thecommon bias towards promoting science-based technological development needs to be refinedto develop a system for optimum utilization of all sources of technologies and modes of inno-vation. It is important to strengthen the presence of firms as the core of NSI framework with aparallel emphasis on DUI-based technological development as well as building the STI infrastruc-ture to nurture and enhance firms’ existing local competences, competiveness and innovativenesswhile creating new innovative actors. Policies and strategies that create a wider setting conduciveto external technology sourcing as well as creating internal knowledge need to be supported withapproaches that back internationally competitive innovative firms and industries and foster newand emerging firms and industries to grow and become internationally competitive. As Lundvall(2007) states, understanding the importance of capabilities to learn, systemic support in the localcontext and complementarity among different modes of innovation are vital for the application ofthe NSI framework. A combination of different strategies to accommodate firm differences, toattract foreign firms with preferred technologies and to develop absorptive capacity, technologydiffusion as well as science-based innovations need to be considered in building the NSI in devel-oping economies. The possibility of optimum utilization of the existing knowledge stock and net-works that reside within and between firms is much needed for exploitation of limited resources indeveloping-economy contexts.

Insights drawn in this study on the requirements of a pluralistic approach for policy-makingon innovation systems based on the analysis of the Sri Lankan NSI as an example could provideguidance for policy-makers in other developing economies. However, it is important to recognize

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that a system that is suitable for exploiting externally sourced technologies may not be capable ofcreating a science-based knowledge base but could compete with one another. Hence, it is impor-tant to maintain the cohesion among different parallel policies and systems designed to supportactors who are at different levels of innovativeness. Future research should further investigatethe diversity of firms within industries in terms of innovativeness and what technological policiesare effective in catering for the heterogeneous technological requirements of firms and industriesat different levels of technological development in developing economies.

AcknowledgementsWe are indebted to the participants of GLOBELICS 2012 conference who provided critical comments on ourpaper that helped clarify the argument and to the two anonymous referees for their helpful suggestions forimprovement.

Note1. According to the Central Bank of Sri Lanka, the average selling rate of 1 USD was 131.92 SLRS in the

period of January – October 2014. Pls. see http://www.cbsl.gov.lk/.

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