Why did Britain vote for Brexit? In particular, why did so many people outside Britain’s largest cities turn out to vote Leave? Even for people who wanted a Leave victory, the divide between urban elites and the rest of the country has become a cause for concern.

Most of the explanations for last week’s surprise result seem to pin the blame on one of two things: neoliberal economics and traditional values. But I suspect that both these explanations are too simple, and too reassuring – and that the real reason for the emerging divide is a structural problem which is getting worse.

Let’s take neoliberalism first. A lot of people have argued that the surprise victory of Leave in last week’s referendum was the revenge of people left behind by modern capitalism. The Resolution Foundation showed the link between low earnings and places that voted Leave.

Austerity, neoliberalism and hyper-capitalism created winners and losers, the argument goes. The losers turned against the elite used the referendum to give them the finger.

This argument is certainly emotionally satisfying. When something bad happens, it’s appealing to think that it happened for a moral reason. Social psychologist Melvin Lerner called this the just world fallacy. This makes the universe make more sense (the gist of this piece by Ian Leslie), and offers a route out of our problems (if we embraced fairer government policies, this sort of thing would happen less, as Indy Johar and Diane Coyle argue).

But blaming neoliberalism seems to leave questions unanswered. Why did so many relatively affluent true blue shires vote Leave? Why did people who own their homes outright mostly vote Leave? And aren’t there a lot of poor “left-behind” people in Britain’s Remain-voting cities too?

This is where the traditional values explanation comes in. Political scientist Eric Kaufmann pointed out that it’s not class and wealth that predict whether someone will vote to leave the EU, but attitudes like authoritarianism and social conservatism.

“Culture and personality, not material circumstances, separate Leave and Remain voters. This is not a class conflict so much as a values divide that cuts across lines of age, income, education and even party.”

Lord Ashcroft’s polling to some extent confirms this, showing that people who dislike things like the Internet and multiculturalism overwhelmingly voted Leave, and people who liked them voted Remain.

Kaufmann considers the question of whether people are socially conservative because of their life chances, but concludes it’s not as simple as that. He points to a Swiss study showing that liberally minded children choose to go to university (rather than the university experience making children more liberal).

Paul Nightingale adds another wrinkle to this story, pointing out that Remain and Leave voters self-select into places that suit them. People who like diversity and technology move to big cities. People who dislike them stay put. Again, values and preferences.

This is a less obviously moral explanation than the “blame neoliberalism” story. But in some ways it is also reassuring. After all, the idea that some people are more traditional and some are more cosmopolitan is as old as the hills. (Indeed, Robin Hanson used the analogy of Neolithic foragers and farmers to explain Brexit.) If long-standing human variation is what’s to blame for the referendum divide, then perhaps we can rely on old-fashioned solutions. Making friends, reaching out, representative democracy rather than referenda.

 

What if it’s both?

My suspicion is that neither the “neoliberal economics” explanation nor the “traditional values” explanation is quite right. In fact, it’s something of a mixture of both economics and values.

Let’s start where the traditional values argument leaves off. Some people are traditionalists, some are cosmopolitans. Then let’s add in some economics. Are there any ways that the economy has changed recently that might affect traditionalists and cosmopolitans differently?

As it happens, the answer is yes – and it has relatively little to do with “neoliberal” policy choices and more to do with deep, long-term changes in how modern developed economies work.

Over the last few decades years, the capital stock of the economy in the UK, the US and other rich countries has become less dependent on tangible assets like factories, lorries or office buildings and more dependent on intangible assets like software, brands, R&D and designs. As far as we can tell, this isn’t a result of neoliberalism or other political choices: it’s a function of economic growth, technological progress (like IT, which makes intangibles more useful) and underlying forces like Baumol’s cost disease (since tangible assets are often manufactured, their cost will tend to fall quicker than intangibles, which are the result of service activities).

Now these increasingly important intangible assets has some interesting properties when you compare them to the tangible assets on which the economy used to depend. In particular:

• they tend to produce more spillovers – ie the benefits of an intangible investment don’t always accrue to the business that makes it. Think of how Xerox developed computers with a Graphical User Interface but Apple then Microsoft ended up making all the money. (Exploiting the spillovers of other people’s intangible investments is what business school types call ‘Open Innovation’.)
• they have unpredictable and sometimes large synergies with other intangibles (think of how bringing together a huge range of ideas and deals, from Jony Ive’s design to the iOS software to the plans for the App Store and deals with mobile carriers led to the hugely valuable iPhone)

A world where intangibles are more important will be one where it is really valuable to be able to exploit spillovers and spot synergies. It is a world that rewards workers with a roving eye, who like seizing on new opportunities. As people like the geographer Richard Florida have remarked, these sorts of encounters often happen in busy, diverse cities.

It’s also a world where the ability to make sense of abstract concepts, to argue and to enforce claims will be rewarded, since this is how workers and companies make sense of intangible assets, and combine and re-combine them. These characteristics were identified back in the early 1990s by economist Robert Reich as the preserve of a new class of workers Reich called “symbolic analysts” – a class of professionals that included people from designers to software engineers to lawyers.

What sort of people are predisposed to enjoy and succeed in an intangible economy? There’s some evidence that these types of innovative behaviour are related to the personality trait that psychologists call Openness to Experience (a trait that includes several facets, including imagination, preference for variety, and curiosity)*.

These seem very similar to the kinds of characteristics associated with being a Remain voter; the opposite characteristics are the kinds of characteristics associated with voting Leave.

So perhaps the divide between Leave and Remain voters is the result of two related things. There’s a difference in values, as people like Eric Kaufmann has observed. But there’s also a secular change underway in the economy that on the whole rewards cosmopolitan values and penalizes traditional ones, increasing the divide and building the kind of resentment that some people had blamed mainly on neoliberalism.

 

So what? Unfortunately, if this is true then as far as I can see, it’s quite depressing news. If we could pin the blame for social division on neoliberal policies, we could fix the social division by changing the policies. If the divide was just a recurrence of the time-honoured difference between traditionalists and cosmopolitans, we could address it by sticking to the old ways – for example, by avoiding referendums in the future, since by their nature they accentuate these divides (part of the reason, as Paul Nightingale notes, that they are banned in the constitution of Germany, a country that learnt the hard way how democratic systems can go wrong).

But if what we face is an inherent difference among the population the effects of which are growing as the economy inexorably changes, it’s harder to know what to do. It suggests that these sorts of culture-war conflict will become more common over time, and our traditional means of mitigating them less effective.

I’m not sure how we solve this problem, but as a first step, at least we should be aware of it how difficult it is.

 

 

 

* The evidence is quite complex, not least because the different aspects of the Openness to Experience trait seem to be related in different ways to different types of performance. Stuart Ritchie of the University of Edinburgh kindly shared this meta-analysis with me that goes into some of the detail.

One of the features of intangibles that we have noted is that they are scalable: Uber’s computer program for example across cities.  One of the implications of this is that intangibles are very suited to large markets, since they can potentially be scaled across many customers.  One testable implication of this is around barriers to trade: if a country faces lots of trade barriers, that should mean it makes less intangible investment.

This matters for the Brexit vote of course. If leaving raises trade barriers to services, might UK intangible investment suffer? Remember that the WTO only covers manufacturing, so the UK would have to negotiate trade agreements in services.  Such agreements are currently only covered only by the single market arrangement.

Step forward the OECD who have developed an index of service sector trade restrictiveness (STRI).  This index covers a number of service sectors, such as distribution, sound recording, motion pictures, banking, accounting etc. giving each sector in each country a score of 0-1 from the least to most restrictive to trade in these services.

Over the sectors, the index looks like this

 

 

Source: Nordås, H. K. and D. Rouzet (2015), “The Impact of Services Trade Restrictiveness on Trade Flows: First Estimates”, OECD Trade Policy Papers, No. 178, OECD Publishing. http://dx.doi.org/10.1787/5js6ds9b6kjb-en

 

As the picture shows, legal and air transport are the most restrictive to trade, but there is lot of variation across countries in how open they are.

The Figure below shows the correlation with intangible intensity, namely the fraction of GDP invested in intangibles.  Countries like the Netherlands and UK, who are very open, invest a lot.  One interesting country is Austria, not normally viewed as a basket case.  It’s intangible investment is rather low, but it scores highly on the restrictiveness index, so that could be part of the explanation: with high trade barriers it’s a small market and so it’s not worth investing in intangibles.

 

Source: authors’ calculations.  Trade barriers are higher the further along the horizontal axis.

In an intangible world, scale matters. And scale means free trade.  Barriers to that trade could be particularly costly.

Vox’s economics correspondent Timothy Lee is worried about Uber. Not for the usual reasons that have been debated to death, like pay and regulation. His concern is more novel, and very interesting.

What Uber is (or might be) doing

Uber is raising and investing lots of money, Lee points out. Only this week, it raised a massive $3.5 billion from the Saudis, and made it look casual. Normally this should be good news for the economy. After all, everyone’s worried about low investment – it’s the hallmark of so-called secular stagnation, the phenomenon that economic galacticos like Larry Summers argue is holding back productivity. All other things being equal, we’d like to see firms investing more. Especially smart firms like Uber who, we hope, will make canny investments.

But from the point of view of the economy as a whole, not all profitable investments are equal. Some investments benefit not just the business who makes them, but also other businesses – even competitors. Innovation investments are often like this. Apple invented the iPhone, but for all their patents and proprietary systems, their investment also benefited Samsung, Google and thousands of other firms. As economists would say, it was an investment with large positive spillovers. The gap between them is one of the reasons governments around the world subsidise businesses to do R&D.

Uber’s recent investments, Lee argues, are not much like this. They’re mainly about giving big discounts to users and payouts to new drivers to enlarge the Uber network in places China.

Under some circumstances, you could imagine that these network-building investments do have positive spillovers. For example, if Uber lobbies the Chinese government to allow certain forms of ridesharing, or invests in marketing to convince people that ridesharing is safe and classy, that would benefit not just Uber but also its ridesharing competitors by growing the overall market.

But according to Lee, Uber’s spending is mostly not about this – it’s more about winning tooth-and-nail battles for dominance with competitors like Lyft and Didi Chuxing.

These could still be very good investments for Uber’s shareholders. Ride-sharing is probably one of those winner-takes-all businesses where building the biggest network yields huge profits and the runners up can go whistle. As economists would say, there are “network effects” at work. Investing $3.5 billion of Saudi money to win these network wars may pay off handsomely. But it’s very possible that it won’t generate large spillovers in the way that Tesla spending $700m on battery R&D would.

Uber’s network: an intangible asset?

It’s worth reflecting on how we think about what Uber is doing with its vouchers and driver subsidies. As Lee says, this spending is clearly an investment, in that Uber is spending money today to create something that, they hope, will let them reap rewards in the longer term.

It’s also clear that this investment is intangible: it consists of the relationship and the contracts between drivers and Uber, not of physical stuff like lathes or servers or office buildings. But at the same time, it’s clear that Uber is not creating a public good that anyone can freely use like Pythagoras’s Theorem or oral rehydration therapy – the Uber network is just that: it’s Uber’s network.

In the early 2000s, economists were trying to get to grips with what was then called, without cynicism, the “knowledge economy” or the “new economy”. Carol Corrado, Charles Hulten and Dan Sichel set out a framework for how we might measure what was going on in a world ever more dependent on ideas.

They came up with a methodology for measuring intangible investment – spending that firms did to bring them long-term benefit, but that related to ideas and relationships rather than physical things. It gradually became clear that intangible investment was increasing rapidly; indeed, by the late 2000s countries like the US and the UK were spending more on intangible investment than on tangibles.

This included things like software and databases (they called this “computerized information”); R&D, product design and artistic originals (“innovative property”) and business-related investments like organizational development, marketing and firm-specific training (“economic competencies”).

The last category mainly referred to things going on within the firm: the original paper refers to “time spent on improving the effectiveness of business organisations”. But since the paper was published some interesting changes happened in the economy as whole. One is the sharing economy, in which companies like Uber and AirBnB use the Internet to build networks of not-employees on whom their business depends. Another is the smartphone revolution, one part of which involves Apple and Google cultivating ecosystems of app developers.

Of course, relations outside the firm have always been valuable, supply chains being one big example. But in recent years we’ve seen the emergence of large, high-profile companies whose main asset is the result of what Corrado, Hulten and Sichel would call organizational development investment, but outside the walls of the firm itself.

What is happening to spillovers?

This brings us back to Lee’s original point. Lee is arguing that Uber is spending its newly raised money on intangible investments that generate very few spillovers or none at all. As a result, productivity in the economy as a whole will increase less than if they were spending the same money on, say, an amazing R&D project.

Some intangible investment seems to have high spillovers. People are so convinced of the spillovers of R&D that they are willing to pay taxes to subsidise companies to do more of it. But it’s not just R&D: in the example of the iPhone we discussed earlier, Apple’s design, software and marketing investments also helped make prepare the market for smartphones in general, making the world safe for Android and the Samsung Galaxy.

Lee’s Uber example, on the other hand, suggests that some intangibles have very few spillovers. (You can imagine other intangible investments about which this would also be true. If I program a HFT algorithm to be faster than your HFT algorithm, there might not be any spillovers. A marketing campaign in a low-growth market might be mostly about winning market share – which could also imply low spillovers. Equally, it’s worth noting that other aspects of Uber’s business create positive spillovers, such as reductions in drunk-driving accidents.)

This raises an interesting question. What if the balance between high-spillover intangible investment and low-spillover intangible investment was also shifting? What if there were more Uber-style tournaments and fewer Tesla battery moonshots?

Intuitively, you’d expect productivity growth to slow, even if overall levels of intangibles were increasing. It’s not clear whether this is happening or not, but in an age of productivity worries, it would be interesting to investigate it more – and if it is happening, to consider how we can change it.

by Jonathan and Stian

The excellent Sarah O’Connor has an thought-provoking column about productivity in Tuesday’s FT. One question she poses is whether the reason for Europe’s low productivity is that innovations aren’t diffusing quickly enough through the economy.

The basis for this is research from the OECD that identifies “a growing divide between “frontier” businesses and the rest of the economy”. (The research, by Dan Andrews, Chiara Criscuolo and Peter Gal, is here; this WSJ piece summarises it.) The rationale is as follows. The best businesses in each industry are increasingly productive because they’re using new technologies. But the laggard companies are slow on the uptake, and are much less productive than the leaders. The net result is that overall productivity growth is low.

We wonder whether might be more going on here than just a failure of technological diffusion. Specifically, we suspect that the nature of what the winning businesses are doing is changing in a way that makes it harder for their competitors to catch up.

We know that across the economy, businesses are investing in more intangible assets – things like R&D, software development, organizational development, design, training and marketing. (Indeed, in countries like the US and the UK, businesses are investing more each year in intangibles than in tangible assets – buildings, computers, machines, etc.)

Now, intangible investments have some odd characteristics. Three of these relate to scale, spillovers and synergies.

• Intangibles are often very scalable: once you’ve developed it, the Uber algorithm or the Starbucks brand can be scaled across any number of cities or coffee shops. (Tangible assets like taxis and espresso machines don’t have this advantage: as your business grows, you need more of them.)
• Intangibles have spillovers: sometimes the company that invests in an intangible doesn’t benefit from it. Xerox funded the development of the graphical user interface, but Microsoft and Apple profited from it. What’s more, some firms seem to be systematically good at exploiting the spillovers from other companies’ investments. (A polite way of describing this is “open innovation”.)
• Intangibles sometimes have large synergies with one another. Uber’s software is valuable. Their networks of signed-up drivers in big cities are valuable too. But combined, they are super-valuable: they are what makes Uber a vast cash-machine. Synergies also makes it harder than you might think to copy another company’s intangibles, even if they’re not legally protected. If your competitors assets are synergistic, just copying one element will not yield much return.

When you add these characteristics together, they point to another reason why leading firms might be pulling ahead of their competition. If intangibles are becoming more important to business success, we would see leading companies pulling ahead ways their rivals couldn’t effectively copy:

1. They can scale their valuable intangibles across a large business (the OECD makes the point that leading firms tend to have larger sales than laggards). This will make them more productive, since the get a greater return from the same investment. Their smaller rivals don’t get the same benefit even if they make similar investments.
2. If they’re unusually good at appropriating spillovers, they can further increase their productivity by copying, exapting or learning from investments made by laggard firms. (Yahoo trains a new product manager, but Google hires her; Nokia designs a new feature for its phone, but Apple quickly introduces something similar.)
3. To the extent leading firms have more intangibles than their competitors, it may be hard for laggards to catch up with them, because even where their ideas can be copied cheaply or for free, they may not work as well without the leading firm’s whole suite of synergistic investments. (Copying Uber’s software is not impossible – this fun article estimates the cost of replicating various tech startups’ code; but copying Uber’s software, its driver networks, its political capital and its installed base of users would be insanely expensive.)

All this may seem paradoxical. In an economy that’s more dependent on knowledge, you’d expect it to be easier to compete. After all, knowledge is, as economists say, non-rivalrous – wouldn’t laggard firms be able to copy leaders and increase their productivity?

In fact, the odd characteristics of intangibles – their scalability, spillovers and synergies – may make this more difficult. In an economy with more intangibles, we might expect to see more leading firms benefitting from these types of lock-in, and greater dispersion of productivity of the type the OECD has identified.

So what? Well, it’s important to stress that the intangible interpretation doesn’t mean the OECD’s story is untrue. Diffusion of technology is definitely important , and the things the OECD report calls for, like strong competition policy, access to finance, and good education systems, are still good ideas.

But it does mean that it would be interesting to analyse the relationship between intangible-intensity and the distribution of productivity in the OECD’s data set. Are the industries with big gaps between leaders and laggards also ones where companies make lots of intangible investments?

We don’t have access to the OECD’s data set, but we did make a quick attempt to test this idea using a couple of other data sets: productivity data from the 2013 ESSnet project on Linking of Microdata to Analyse ICT Impact (ESSLait here, report here, data here), and data on the share of total investment that is intangible investment by industry and country from the SPINTAN project, an update of data from www.intan-invest.net. This gives data on the spread of labour productivity from 2000-2010, in, broadly, manufacturing and (market) services for a number of countries, and the proportion of investment in those industries that was intangible.

We ended up with this graph:

It shows the relationship between the change in the productivity spread (the gap in productivity between the best and worst firms), averaged from 2001-07 (we missed out the financial crisis years) and intangible intensity in 2001. Each country is a dot on the graph. So, for example, in manufacturing, Italy and Austria don’t invest very much in intangibles, and have had only a small rise in the manufacturing productivity spread. By contrast, the UK, Sweden and France do invest a lot in intaniglbes, and have had a much larger rise in the productivity spread. The same goes for services.

Together the graphs indicate that productivity spreads rose a lot in countries where industries invest a lot in intangibles. This is consistent with the idea that an industry becoming dominated by intangibles will be one in which the top-most firms will be able to achieve economies of scale and so the top-most firms will be able to break away from the laggards. This is consistent with the frontier firms growing productivity faster than the laggards.

This is a quick-and-dirty analysis. It would be good to test it with the OECD’s bigger dataset. But if the relationship between intangibles and productivity dispersion holds, it suggests that the productivity problem caused by the gap between leading and lagging firms may continue to get worse – because there is something defensible about leading firms’ combinations of intangibles even in relatively competitive markets.

This makes competition policy and access to finance even more important, but potentially less effective in closing the gap – and it means that policymakers may end up running just to keep still. If true, that’s a sobering thought for anyone who cares about the state of the economy.

(by Jonathan and Stian)

How should a business make the most of its intangible investments? Here’s an interesting lesson from history.

i. Good fences make…

Let’s step back to the American West in 1870, a place of cowboys, rugged homesteads and…fences. The humble fence was a big deal. Fencing represented a big chunk of the total capital stock of the Western states, as Richard Hornbeck, whose superb 2007 paper this example derives from, pointed out.

Why fencing? Imagine you’re a farmer in the Old West. You’ve got a big farm growing alfalfa. One thing you really don’t want to happen is for a large number of someone else’s cows to show up before harvest time and eat your alfalfa.

If you were back in the old country, you’d have some comeback: various European laws entitled landowners to compensation from the owner of marauding livestock. But American law didn’t. In the land of the free, it was your responsibility to keep the cows off your crops.

So if you didn’t want your alfalfa to fatten someone else’s cows, you needed to build a fence. And a lot of people did. In 1870, the US had over 2.3m miles of fences.

That was all well and good where fencing was cheap. In wooded areas a fence could be had with an axe, a saw and a few days’ work. But the American West isn’t known for its forests (indeed, so scarce were trees that the US government would make land grants to people who planted them). So to fence off your huge farm would be incredibly expensive. Chances are you couldn’t afford it. So you’d accept the risk that cattle might eat your crops, and manage your expectations accordingly – including not betting the farm (ho ho) on big investments in the next harvest, like clearing land, or buying better tools, seedstock or fertilisers.

But then two wonderful things happened. A man in Illinois invented barbed wire, which is very good at keeping cows out. Even better, the increase use of the Bessemer Process made steel very, very cheap.

 

In just 10 years, between 1880 and 1890 the price of barbed wire fell by more than 50%, and it fell by another 50% in the next 10 years. It was, in a way, the Moore’s Law of its time. People who hadn’t been able to afford fences now could.

The effect of this new source of fencing is, well, electric. Hornbeck’s research shows that it caused farmers to invest in their lands, causing productivity to increase between 1880 and 1890, when barbed wire was widely deployed.

The particularly clever thing about the research is it distinguishes between farms in wooded areas (where it was already cheap to fence in land) with less wooded areas, where the barbed wire made a real difference. And tellingly, it’s in the non-wooded areas where we see the productivity increases – of around 23% over the period.

From an economic point of view, two things were going on on these farms in the Old West.

• First of all, farmers who couldn’t appropriate the benefits of their investments in their farmland (because cattle might eat or trample the crops) invested less than they otherwise would have.
• Secondly, an exogenous shock that makes it easier to appropriate the benefits of investment (the invention of cheap barbed wire) increases investment and productivity.

We might also speculate a third phenomenon. Innovation Studies teaches us that demand is important to innovation. It wouldn’t be surprising if the invention and commercialization of barbed wire didn’t depend, at least a little bit, on the existence of lots of people for whom it would be very valuable.

ii. Investment, spillovers and appropriability in 2016

Now let’s forget about farms and the Wild West for a moment and think about the modern economy.

One of the foundational facts of the book we are working on is that the nature of investment has changed. A large body of research suggests that intangible investment has grown significantly and that in countries like the US and the UK, businesses invest more each year in intangibles (like R&D, organizational development, software or brands) than in tangible assets.

These intangibles have various interesting properties. One of them is that, on the whole, it is harder for a company to be sure it will get the benefits of intangible investments than tangible ones or that its competitors won’t. So EMI invents the CT scanner, but GE builds a rival scanning business and EMI is left with nothing. Apple undertakes breathtakingly original design work, backed up with good R&D and intense development of supply chains to transform the smartphone market with the iPhone, but within a year Samsung, HTC, Google and others have competitive (and superficially similar) products.

Investing in lots of intangibles and seeing another firm get the commercial benefits is a bit like clearing and planting a new field of alfalfa and seeing it disappear into the bellies of a cattle baron’s herd just before harvest time.

So if the economy has changed, in a long-term structural way so that a greater proportion of investment is intangible, and if intangible investment is on the whole inherently harder to appropriate, it’s a bit like what would happen if, hypothetically, one were to go back to 1890 and un-invent barbed wire. Appropriability of investment would go down, and, presumably, investment itself would fall as well.

We could expect tangible investment to fall too, to the extent that it is complementary to intangibles. If EMI had decided not to invent the CT scanner because it was worried a competitor would end up with the lion’s share of the business, it would also have not invested in the factories to produce the scanners or the offices to house the sales force.

iii. The dilemma of appropriability

If all that was going on was that the benefits of intangible investment were hard to appropriate, there’d be a fairly straightforward solution.

Just strengthen intangible property rights, and investment would pick up. If patent laws were wide-ranging and courts strongly favoured patent-holders, Apple could be confident that they could sue Google over Android and receive a crushing settlement. EMI could demand generous royalty payments from GE, easily repaying their outlay on R&D and business development. You’d allow all sorts of things to be patented or otherwise protected – software, business processes, organizational structure, you name it. The law would allow draconian non-compete clauses so companies could prevent employees taking their know-how to competitors. It’d intellectual property law as envisioned by the legal department of the Walt Disney Company or Intellectual Ventures.

But of course there is a problem with this solution.

The spillovers from intangible investment are not just a bug; they are also a feature. Cavity magnetrons were invented by a defence contractor to improve radar, but they turned out to cook food rapidly, and thus was born the microwave oven. When lasers were invented, it wasn’t clear what they would be used for (precision cutting? nuclear ignition?); its now-ubiquitous use in fibre optic cables, for example, was not obvious.

We know one of the properties of ideas is that they’re good when you bring them from one domain to another, and when you mix them together and build on them. Brian Arthur’s The Nature of Technology is to a great extent about the “combinatorial” nature of ideas and technologies. Science writer Matt Ridley enthuses about the wonders that arise “when ideas have sex”.

A more formal way of putting this is that intangible investments become more valuable when they’re merged with other intangible investments, but that working out the right combinations is a very difficult task. Indeed we could go as far as to say it is resistant to analysis – serendipity and trial and error are essential. Fostering these things is the point of open innovation and one of the reasons we see scientific knowledge as a public good.

If you lock down property rights over intangibles, you make serendipity and exaptation harder.

So there is a dilemma. Lock down ownership of intangibles and you solve the appropriability problem. It’s the equivalent of providing the Wild West farmer with a roll of barbed wire to fence off her farm. All other things being equal, firms will invest more and productivity will increase.

But there’s a serious side-effect. If you lock down the ownership of intangibles, you create a problem that doesn’t apply in the Wild West example: you make it harder to bring together unexpected combinations of intangibles, and so productivity goes down.

iv. So what? Some questions

It seems there is something of a tragic dilemma for businesses and governments when it comes to investing in intangibles.

Protecting intangible assets with laws and litigation makes it more likely that investors will get the benefits of their own intangible investments. This makes firms more likely to invest in intangibles. But too many laws makes it harder to realise the synergies between your own intangible investments and those of the rest of the world, which reduces the return on intangibles, and the incentives to invest.

Managing this trade-off strikes us as an important goal for managers, economic policy-makers and regulators, and it’s something we’re working on in the book.

One of the remarkable things about modern businesses and the modern economy is they invest more and more into things that aren’t there.

Traditionally the assets of businesses were things you could touch: machines, land, buildings; then vehicles, and later computers. But businesses have also invested in things that also provide long-term value, but which don’t have a physical presence: R&D, new product development, organizational design, branding.

For most of recent history, these intangible assets were something of a sideshow. Capitalism was basically about tangible capital.

But very gradually, this has been changing. And not so long ago, a milestone was reached. Since 2007, businesses in the US and the EU have invested more each year in intangible assets than in tangible ones. Investment, the pulse of the market economy, has materially (or should that be immaterially?) changed.

We – Jonathan Haskel and Stian Westlake – have been researching this curious story for some time now. And in the coming months, we’re going to be setting out our thinking and the work of ourselves and many others into a book that we hope will usefully advance the public debate on what’s going on in the modern economy. (We’re delighted that the book will be published by Princeton University Press, hopefully some time in 2017.)

We’ve set up this blog as a way to jot down occasional thoughts, fragments and ideas, and to engage with other people who are interested.

Our first starting point is that intangible investment has become more important than it used to be. Indeed, this chart shows neatly how intangible investment has come to exceed tangible investment in rich countries.

Our second starting point is that intangible investment seems, on the whole, to have different economic characteristics to traditional tangible investment. For example:

• They tend to produce lots of spillovers (if you invest in a new business process or a new product design – an intangible investment – it can be relatively easy for a competitor to copy you; if you build a new fleet of vans – a tangible investment – you get most of the benefit yourself).
• They involve high sunk costs (many physical assets are relatively easy to sell if your business fails; intangible assets like brands and IP are trickier to dispose of).
• They’re often highly scalable (if you acquire the rights to Star Wars, you can license them across the world and across a vast range of products; if you build a call centre, that call centre can only handle a certain volume of calls before you need to build another one).
• And they have a lot of synergies with particular skills (intangibles like brands and algorithms seem to be worth much more when combined with highly skilled workers).

This leads us to some interesting questions.

What effect does the rise of intangible investments have on the economy as a whole, on its sectoral structure, on total investment levels, on inequality and on growth? And how should we think about the value that intangible investment creates?

How should policymakers, managers and regulators respond to this change in the economy?

We also hope to touch on some questions of measurement and definition, explaining how intangibles have been calculated by economists and by accountants (and what might happen in the future), the development of the idea of the intangible economy (which in some senses is very old – writers were speculating about post-industrial society in the 1970s), and the relationship between intangible and technology.

We hope to use this blog to raise some of these questions as we write, and we look forward to your feedback.