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In a recent interview with the Canadian International Council, Tyler Cowen — the George Mason economics professor and influential blogger — noted that to an increasing extent, new technologies are originating from a small number of global clusters. “I think any location, not just Canada, has to ask itself ‘are we going to be one of those clusters or not?’ And the correct answer may be ‘no.’” His guess is that “Canada will not be a huge innovative part of the knowledge economy.”

Canadians’ reactions to talk of this sort typically fall into two categories. The first is to call for even stronger efforts to prove Cowen wrong. With more and better government support, it is argued, Canada can be home to a world-class research cluster. The other is resignation and pessimism: our collective failure has doomed us to mediocracy. But Cowen’s comments are cause for neither defiance nor despair.

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Research and development (R&D) activity is one of those cases where there is a strong case for government support. (Here I am referring to for-profit R&D undertaken in the private sector; publicly-funded, not-for-profit research is the topic for another discussion.) It is widely believed that R&D is more productive when it is done in close proximity with others: researchers benefit from interactions with their peers. So R&D generates “positive externalities” in the form of increased productivity for other researchers. Since firms must pay all the costs of R&D but do not receive all the benefits — they cannot force other researchers to pay for their increased effectiveness — too little R&D will be done. (In the case of negative externalities, such as pollution, you get the opposite result: if firms don’t have to pay for all the costs, then it will produce and pollute too much.) So it makes sense to have some level of government support for R&D.