Productivity and innovation in UK financial services: an intangible assets approach

Financial services are typically described as highly innovative (excessively so according to some). However, it is hard to see this by many standard IO innovation and productivity measures. Patenting for financial products in the UK is zero. The R&D/sales ratio in UK financial services is 0.02%, putting finance (on this measure) less innovative than furniture manufacture (0.3%). Whilst measured labour and total factor productivity growth have been quite rapid, there are doubts over measurement and the residual nature of TFP growth leaves open the question of what drives financial innovation. This paper looks at innovation in UK financial services by trying to bring together the industry productivity/TFP literature with some of the case study evidence. Case studies suggest that much financial innovation (a) can be readily copied and (b) requires investment in product development, software, marketing, training and organisational change. Whilst copying can be captured by TFP, these investments are almost certainly not captured by conventional R&D. Thus we follow the Corrado, Hulten and Sichel (2005) intangibles framework and measure the broad range of intangible/knowledge assets that case studies suggest are important in finance. We document that these investments are very large in UK finance, and that conventional R&D understates them. Incorporating them into growth accounting shows that the method seems to capture much of innovation in financial services and changes the productivity/TFP growth picture to give more intuitive numbers. *Contact: Jonathan Haskel, Imperial College Business School, Imperial College London SW7 2AZ, [email protected], Annarosa Pesole, Imperial College Business School, [email protected]. We are very grateful for financial support from the NESTA Innovation Index project and from the COINVEST project, www.coinvest.org.uk, funded by the European Commission FP7, Theme 9, Socio-economic Science and Humanities, grant number 217512. This work contains statistical data from ONS which are crown copyright and reproduced with the permission of the controller HMSO and Queen's Printer for Scotland. The use of the ONS statistical data in this work does not imply the endorsement of the ONS in relation to the interpretation or analysis of the statistical data. We thank Larry White for helpful comments, Rob Hunt for data and our interviewees in various financial institutions for their time and information. Errors and opinions in this paper are our own.