Today, we are delighted to host a post from John Gustavsson, a Behavioral Economics student at Nottingham University and a prolific blogger, covering the political and economics’ sphere. John’s post focuses on the concept of Open Innovation, specifically applied to the co-operation between economists and the private sector. As Acabiz, we are of course very fond of the Open Innovation principle, which represents the very theory behind our academica-to-finance-knowledge-platform.

We would like to thank John for his time and contribution and to invite all of you to read his other (very interesting!) posts. John’s current coverage is very topical and it is centered on the European financial crisis and the upcoming US election. Enjoy the reading!

Open Innovation: How it can change economics

First of all, let me introduce myself: My name is John Gustavsson, I’m a master’s degree student at the University of Nottingham studying Behavioral Economics. I hold a BA in Finance and Economics with a minor in Business from the National University of Ireland, Maynooth. As part of my business studies, I’ve encountered the paradigm known as open innovation – a “type” of innovation if you like, excellently put into practice by among others Acabiz – and in this post, I’ll be explaining how I think open innovation can change economic research, and how this can benefit both academic economists and the private sector.

Like I mentioned, I’m studying for a Master’s degree in behavioral economics. There are several reasons why I’m interested in this subject, but one of the main reasons is because I think it’s time economic researchers start to look beyond economics. We seriously need to study adjacent fields, such as sociology, psychology, political science and management, and incorporate their findings into our models. But let’s not stop there: Let’s be open to ideas from the private sector as well.

In short: We need an open innovation approach. The main idea and motto behind open innovation is “Not all smart people work for us”, something that is true in any organization – including economics faculties. Certainly, there is already interdisciplinary research done involving economics – but that’s the exception, an exception that should be the rule. Also, very little economic research is done with the help of those in the private sector. Here below, I am going to list a number of benefits that private sector companies and economic researchers would gain from co-operating.

From a private sector point of view:

1)      A greater understanding of the economy has always aided the private sector. Had it not been for economics, we never would have understood that trade and innovation are as vital to the economy as they are. Economics taught us the value of free trade, which more or less enabled the industrial revolution (together with several other factors of course). There is no reason why the private sector would not like to support economic research, given how much they’ve gained from it so far.

2)      Economics requires a broader skill set than any other field. Every social science and humanities field requires critical thinking and the ability to make deductive/intuitive arguments, but in economics you also need math. Graduate level economics in particular is very mathematical, compared to other social sciences were you can get away with knowing some basic arithmetic and perhaps a little bit of regression. From a “skill set” point of view, economics is a hybrid between social and natural sciences: You have the advanced math from the natural sciences, and all the critical thinking skills etc from the social sciences. Collaborating with economic researchers will allow companies to benefit from this wide skill set.

3)      Understanding economics can help companies survive economic crises. It’s very easy to feel helpless in an economic crisis: All the problems are macro problems; hence all a company can do is praying that it’s over quick. Right? Not exactly. Sure it’s hard when credit drains up, consumer demand falls and everything seems to be out of your control. But this is the kind of situation when economics can come in handy: First of all, economists working with a company can explore specific solutions for that company on how they can survive the crisis. This could include anything from exploring alternative sources of credit to negotiating with unions and working out plans for how to attract workers without offering higher salaries (which usually isn’t an option during economic downturns). Economists tend to have a decent understanding of economic history, something that can come in useful in an economic crisis as an economist may know what has worked in the past and what mistakes not to repeat (“you have to learn from the mistakes of others, because you won’t have time to repeat them all yourself”).

Now, turning to academia: Why should intelligent, PhD-awarded economic researchers care about what private sector managers, consultants and even regular workers have to say? Here are three reasons:

1)      Many of the great mistakes in economic research have happened because of lack of outside input. Case in point: An overreliance on human rationality. Economics is funny in a way, because no other field assumes human rationality as much as economics does. Many economists claimed the housing boom was never going to go bust because “Surely, consumers are rational, and rational consumers wouldn’t buy houses they couldn’t afford, right?” If they had only talked to someone within marketing, or management, or indeed psychology, they could have set them straight on human rationality and its limitations: Yes, most decisions we make are (probably) rational, but humans can be really stupid too. More stupid than any economist ever thought, indeed. When it comes to the study of behavioral biases, other sciences (and indeed, companies) are way ahead of economics.

2)      Where can our research be of most use? An issue that isn’t really talked about a lot in the academic community is which research actually is useful. While many topics that are taboo in the real world are okay to discuss in academia, this is an example of a reverse case: Usability is perfectly fine to bring up in a company board meeting, but mention it during a faculty meeting and people will stare at you like you just said all the seven dirty words. Don’t get me wrong; I’m a big fan of theoretical research. I’ve written about this before. However, I believe that these times call for economists to maybe take a break studying online dating and pigeons (yes, we do that too – no, I’m not even going to try explain why). What do people want the most right now? Well, how about a solution to the unemployment crisis? What do companies want right now? Well, how about some extra demand or something? Long-term financial stability? I’m pretty sure the top priority of CEOs isn’t to find out whether the law of supply and demand holds for pigeons (though as an academician who’ve studied the topic, let me just point out that it does). Economics is the scientific study of the efficient use of limited resources (that’s the technical definition) – yet, ironically, we are not currently using our (limited) research funds in an efficient way. There is a time and place for pigeon economics, but we are experiencing the greatest economic crisis since the Great Depression. This just isn’t the time for that kind of research. We always talk about private companies giving back to their communities. Maybe academia should do the same? I am certain that the people in the private sector can give us ideas on what to focus on next. I think we should listen.

3)      Improving experimental economics. The newest thing in economic research is a methodology known as experimental economics. In short, we’re trying to copy psychology: Instead of just boring Excel sheets and regressions in Stata, we now use real people. Do economists interacting with actual real people sound like a paradox? Maybe it is, but relax, we’re just using undergraduate students. And that’s part of the problem. When doing experiments on undergrad students, you can’t be absolutely certain that your results are representative for the adult (no, having turned 18 and moving away from your mom doesn’t make you an adult) population. Just because bonuses don’t seem to be a great incentive for undergrad students, that doesn’t mean they can’t be a great incentive to a 55-year old CEO. Now I’m not saying that bonuses as an incentive are good or bad, I’m just saying we’ll never really know until we do an experimental study with real adults. This could really have been listed as a benefit for companies as well as they can take part of the experimental data which will come useful to them when they design their compensation system. By co-operating with the private sector (in other words; borrowing their staff for experiments for a few hours or so) we can improve the preciseness of our results as the sample group will resemble the population more.

These are just a few of the many benefits that the private sector and economists in academia would gain from co-operating more than they currently are.

Are there no drawbacks? Of course, academia in general has a much different work environment than the private sector. As a matter of fact, a lot of academicians are academicians precisely because they don’t want to work in a corporate environment. However, allowing companies to be a part of the idea generation process is not the same thing as “selling out” (which many researchers in academia consider private sector work to be). The innovation process as it is typically described consists of three steps: Idea generation is just the first step. Not everyone can do economic research – it’s a lot tougher than people think – but anyone can happen to have a good research idea, whether they are in academia or not. Economic researchers have every reason to feel proud of their occupation; but they shouldn’t be so proud they can’t admit when they need help. And one thing the past decade has taught us is; they do.

There are always issues when two organizations with different work environments and cultures try to co-operate – whether the co-operation is just for a project or whether we’re talking about a full merger. I still believe though that the benefits I outlined above justify almost any effort that is necessary to make the collaboration work.

Finally, I want to thank Acabiz for the opportunity to use their blog to share my views. And; if you’re interested in reading more articles on economics signed by yours truly, just follow this link.

Thank you for reading.