Chaos in the financial markets following the collapse of the US sub-prime mortgage sector has led to increased calls for the regulation of financial institutions and their products. A lack of regulation is alleged to have lured banks, hedge funds, insurers and others into taking greater and greater risks with borrowed money – until finally the bubble burst.
The economist John Kay has claimed that the financial services sector became too innovative, offering more and more complex products that created unacceptable levels of risk in the system. Calls have been made to re-regulate the system, and clamp down on innovation.
Understanding the financial crisis, however, and preventing its repetition requires a more sophisticated approach. We can learn lessons from other sectors of the economy about how to manage innovation, and what sort of innovation we should encourage.
Concorde was a triumph of engineering ingenuity. Its creation engaged some of the most skilled designers, technicians and scientists in the aerospace industries of two countries for nearly two decades of work. But it was a commercial failure, little more – by its cancellation – than an eccentric plaything for the super-rich.
Low-cost flights, by comparison, have dramatically shrunk the world for ordinary travellers. Low-cost airlines used tried-and-tested technology, in a new business model that focused on short turn-around, minimal extraneous frills, and clever use of yield management software.
Concorde was a radical invention, offering new technological possibilities. But low-cost flights are a truly disruptive innovation, transforming social possibilities. How we use technology is as important as what that technology can actually do.
The most dramatic changes to our lives can occur from apparently simple or pre-existing technology used in innovative new ways. Concorde was invention for the sake of invention: brilliantly clever, but ultimately not useful. Some see it as the fatal triumph of clunking government planning over market-led innovation. Bureaucrats were mesmerised by the technology, and ignored real needs.
But the same blindness can occur in the most resolutely market-driven industries. Cutting-edge financial innovation is a Concorde for the 21st century: using the most advanced IT technologies, employing the most highly-skilled maths and physics graduates - and producing outcomes that are socially undesirable.
Some of the new techniques developed in the financial sector have provided benefits. A disruptive innovation like micro-credit, providing small loans to groups of borrowers, has helped many millions in the developing world secure access to much-needed capital, enabling them to buy tools and land, or pay for education. Clearly, such innovations can be encouraged.
The Concorde syndrome kicks in when the finance industry invents for the sake of invention, chasing illusory possibilities at the top of a financial bubble. Vast resources were expended by banks and others in an effort to deliver products that were ultimately valueless and – worse – highly destabilising.
The Bank of England estimates that the mark-to-market losses from the credit crunch total at present $2.8trillion across the UK, North America, and the Eurozone; this is a somewhat larger figure than Concorde's estimated total cost of £10bn (in 2007 prices). The latter was an expensive mistake; the former, a financial catastrophe. Both resulted, in part, from technological bedazzlement.
Tighter regulation of financial services may help lessen the risk of future credit bubbles. Utilising the technology and expertise they have mobilised for socially desirable goals, however, is a deeper problem.
Low-cost flights have been criticised, rightly, as contributing to climate change, alongside their more positive effects. But the lesson they provide - that creative uses of existing technology may have more impact than new technology itself - can act as spur to low-carbon adaptations, like this scheme to use existing weirs and waterfalls for electricity production, with the local community owning the generator. A new way of operating old technology can help reduce carbon emissions.
Similar lateral thinking may be needed for the financial services industry. Its current tribulations are freeing resources for use elsewhere: already, former City workers are looking for careers in teaching, while the Training and Development Agency reports an "unprecendented" 25 per cent increase in applications suitable to teach maths on this time last year.
We should be throwing open our universities, colleges and schools, re-employing former high-fliers and giving new graduates their first jobs in teaching much-needed science and maths skills - not just for current students, but in night-classes and adult education. And how much could cutting-edge research in the pure sciences benefit from the application of the mathematical models and the expertise developed in financial services? The financial sector has been a major pull for leading researchers in other fields. The task now is to put that motor into reverse - turning City rocket scientists into actual rocket scientists.
Instead of patching up financial Concordes, hoping the City will fly once more, we need to be applying the skills and technologies that were consumed by it to dealing with long-standing challenges elsewhere: delivering excellent education, pushing the barriers of scientific research.
In anticipation of Lord Carter's Digital Britain report, we've published a policy briefing - 'Getting up to speed' - which calls for decisive action to help attack the recession in the long term.
We believe that next-generation, super-fast broadband will be a vital part of the emerging digital economy’s infrastructure, enabling dramatic improvements in connectivity and offering new possibilities for businesses, public services and local communities.
By calling for this change now, we believe that the UK will emerge from the recession in far better shape for coping with future challenges from other emerging digital economies. It also makes economic sense - we estimate that the provision of universal super-fast broadband could directly create 600,000 new ICT jobs, with £18 billion added to GDP.
The indirect effects could be far larger. California is an economy approximately the size of the UK – it has been estimated that ultra-fast broadband installation there could add $366 billion to economic output and create two million new jobs.
But how do we pay for this super-fast broadband infrastructure?
Ofcom, the communications regulator, should use its powers to provide
radio spectrum access rights to communications companies in return for
installing a fibre-optic broadband network: a ‘spectrum for speed’
swap.
As part of this deal, broadband providers should also be required to deliver free, basic broadband services to the most deprived households in the UK.
Together, this approach will ensure that the UK is more connected, has better, more relevant skills and is at better equipped to exploit the opportunities and face the challenges of the global digital economy.
As we move into 2009, it is clear that the recession will dominate political discussions across most policy areas. Apart from debates about how the UK drives forward economic growth, politicians are looking for ideas on how to deliver increased demands on public services at a lower cost, how to deal with the social impact of a recession, and how the downturn will impact on the green agenda.
One of the first tests of the debate will come when the government decides on whether and how to support the UK's car industry. Will it focus on ensuring its survival, look for ways to help drive its growth or just leave the industry to the fate of the market? And if it does pump money into the sector, where will the money come from - borrowing, or money that was previously designated to drive innovation across other sectors of the economy?
NESTA's call for the government to set up a £1billion venture capital fund is beginning to gain momentum. Responding to the proposal Lord Drayson, Minister for Science and Innovation said that such a fund was now 'urgent'. The Observer picked up the story yesterday, and NESTA will tomorrow set out more details about how such a fund should operate, who it should be targeted at, and what level of funding it should provide.
Watch this space!
A packed audience, an engaged Minister and a hugely important topic combined to make an excellent event at NESTA last night - well worth a watch if you get a chance.
What's clear is that the Government is looking for some quick answers. NESTA provided some of those last night, and Drayson indicated he is keen to push ahead with a number of our recommendations.
That was Lord Drayson's closing remark at a packed event where a broad cross-section of people from universities, business, government and the 'connected' generation came together to listen to a precis of our discussion paper 'Attacking the recession' and also from Lord Drayson, Minister of State for Science and Innovation.
There were echoes from various speakers and contributions from the floor on the need for government and wider society to accept risk and learn and make decisions quickly if we want to maximise the opportunities of this coming recession - both in terms of surviving it, and also of coming out of it quicker and in better shape.
The full audio of the event (unedited) is here. We will publish video and audio edits during the day tomorrow.
You can also see highlights covered on twitter by us - and by others.
Unsurprisingly I find myself these days participating in a large number of discussions on what the financial and economic downturn means for businesses and organisations involved in the arts. The overwhelming feeling is predictably pessimistic.
History suggests that business-facing creative sectors, like advertising and architecture, face particularly challenging times as demand for their services slow down. The prospects for more consumer-facing creative sectors, such as film and the performing arts, are more uncertain. On the one hand, there are the negative effects of generalised weak consumer spending, but on the other there may be positive effects if households spend more of their time on cultural leisure activities.
Cultural organisations are also bracing themselves for the impact of the credit crunch: sponsorship deals may be seen as an unaffordable luxury by cash-strapped companies. In a recent survey by Arts & Business, two-fifths of companies interviewed thought that the economic downturn will negatively impact their arts sponsorship activities.
But whilst the arts will surely suffer in the short term -like other sectors - it is not inconceivable that the crisis may create a more positive long-term climate.
Whether or not this happens depends on the diagnosis of the root cause of the current economic downturn. Some views -call them "technocratic" -attribute the crisis to a failing of domestic and international regulatory frameworks. Looking forward, by implication, the solution lies with more robust regulatory frameworks.
If this is how the crisis comes to be perceived, then regulatory reform combined with measures to help businesses through the downturn will be the focus of policy. Special treatment will in effect be given by the government to those sectors, including the creative industries, which have large numbers of small companies, but any special case for support for the arts will likely fall on deaf ears.
But there is an alternative perspective on the downturn. "Communitarian" interpretations see ethical failings in the economy that gave rise to the current crisis. The system which facilitated the unbalanced growth of financial markets over other sectors, it is argued, is one which failed to balance individual rights with that of the community as a whole. Bonus-hungry, self-interested investment bankers did not pay attention to the social consequences of their decisions. Policymakers placed undue weight on the power of market institutions, and underemphasised the importance of social capital. The response to the crisis must go way beyond regulatory reform -changes are needed to attitudes in society as a whole.
If in time such communitarian strands of thinking gain influence in policy, new opportunities for the arts may emerge, for the simple reason that no discussion of social and civic responsibility can fail to engage with cultural issues. Even businesses, under pressure from policymakers and the public, may look for ways to demonstrate an increased commitment to society, including support for good causes in the arts.
Perhaps, then, one of the outcomes of the crisis will be a stronger sense of the role of the arts and culture in society, which may present opportunities for creative businesses and arts organisations.