An OECD Policy Brief of 17 September 2024 examined government support for innovation and how this can be directed towards priority objectives. The policy brief uses recent evidence on how governments direct financial support to innovation, based on recent OECD measurement and impact analysis work.

The Policy Brief notes that governments look for the appropriate level of financial support for innovation to make progress in their policy objectives. This involves choices about the design of instruments; who will be the beneficiaries; and the conditions on which support is given. These factors must be correctly balanced to ensure that support is directed towards priorities.

OECD data indicate that most OECD and EU governments have relied on research and development (R&D) tax incentives to spur innovation. On average R&D tax incentives have accounted for almost 60% of the total support for R&D in the OECD and EU. Although R&D tax incentives are effective in raising total R&D, they are more effective at boosting investment in incremental innovation than more transformational development where the knowledge gained can have higher spillover potential.

In theory R&D tax incentives are easier to administer, however governments need to deal with potential fraud or misuse of the incentives. Tax incentives contribute to building R&D capacity but cannot direct innovation towards specific priority activities. These incentives are therefore limited in their ability to address the global challenges currently faced by countries.

There is room for improvement in the measurement of important factors that enable innovation systems to contribute to key transitions. There are gaps in the monitoring of support for innovation activities other than R&D and in the measurement of support provided through indirect mechanisms. In a competitive environment, the issue of government financial support to business is sensitive. There is scope to develop a more complete understanding of the range of government support for business R&D and its impact on innovation. More comprehensive monitoring can help to inform future policy making.

The Policy Brief recommends that government policymakers should consider the size and balance of their support for innovation in relation to their policy objectives. Countries could fine-tune specific instruments after assessing their effectiveness based on available evidence. Reforms could be made to R&D tax incentives on the basis of the data showing that they are more effective as a means to build innovation capacity in small and medium enterprises (SMEs); and that this effect is facilitated by allowing refunds (or immediate reductions in payroll taxes) for cash constrained firms.

Government support for innovation should be directed to align with policy priorities. Appropriate regulatory frameworks and management capacity is required. More effective and transparent monitoring systems are need to ensure that government investments in innovation have the intended impact and provide value for money. Monitoring of support must go beyond traditional R&D grants or tax incentives, and monitor innovation support supplied in different forms such as financial instruments or public procurement, and across different policy areas. Rather than being an ultimate objective, innovation can be an enabling factor in policy areas such as green transformation, digitalisation or security.