Finland – An ICT-Driven Knowledge Economy

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Helsinki, 18 April, 2005 — Finland – An ICT-Driven Knowledge Economy

The Finnish experience in the 1990s represents one of the few examples of how knowledge can become the driving force in economic growth and transformation. In a less than a decade the country became the most ICT (Information and Communication Technology) specialized economy in the world.

Structural Change of the 1990s – the Basis of the Knowledge Economy

In the beginning of the 21st century Finland has been ranked three times on the top in World Economic Forum’s (WEF) competitiveness studies, as one of the most developed IT economies, and also number one in OECD’s PISA (Programme for International Student Assessment) studies of youths’ learning skills and educational attainment. In addition, the country was able to produce success stories like Linux Operating System and Nokia that grew into global scale during the 1990s.

In the beginning of the 1990s, Finland’s prospects seemed much gloomier. The country was hit by the most severe economic downturn in any OECD country since the World War II. GDP fell by 10 % in just three years and unemployment rose from 3 to 17 %. The recovery was, however, fast and based on major industrial restructurings. The most important factor was the phenomenal growth of ICT production. But also the more traditional industries – like pulp and paper and engineering – renewed themselves by making their production processes more productive. The economy went through a between-industries and within-industry structural change. In between-industry transformation the immense growth of electronics – i.e. telecommunications equipment industry – was the key. Within-industry change was that of creative destruction – almost in all industrial sectors large part of low productivity plants was closed down.

As a consequence, by the end of the 1990s the productivity level of manufacturing was among the highest in the world, and the ICT sector played the major role in the economy. Finland went from being one of the least information and communication technology (ICT) specialized countries to becoming the single most specialized one. This is exceptional. In ICT laggards rarely catch up, let alone leapfrog, the leaders. Probably good luck and wise policies were needed.

Indeed, there were major changes in policy thinking. Today, acknowledging the underlying causes of the early 1990s recession, greater emphasis is put on longer term microeconomics as opposed to short-term macroeconomic policies – the foundations of sustained national competitiveness are largely created at micro level, i.e. in firms, financial institutions, and various innovation policy agencies.

Finnish Knowledge Economy in an International Perspective

Competitiveness indicators, like that of WEF, predict relatively poor future growth performance of economies, but they may give useful hindsight on the various factors that have contributed to the competitive edge and well-being of nations. Undoubtedly, the most important ones include strong commitment to education, high-level technological infrastructure, well-functioning public institutions, openness of the economy, and integration into the international trade blocs. But today also more importantly factors such as network readiness, research and creativity, strong social cohesion, and sustainability of environment. An important issue is also adaptability and common acceptance of change – often typical of small countries.

No doubt, high-level education system, developing information and communication infrastructure, and increasing public and private investment to R&D had their role in the industrial transformation of the country.

Education is the key, however. Educational attainment in Finland increased significantly throughout the 1990s. Enrollments in universities and other higher education rose significantly, and today younger generations are among the highest educated by any standards. The country was showing extraordinary dynamism and high social cohesion at the same time. By the beginning of the new millennium it was among the high performers by almost any economic and knowledge economy indicator.

The overall comparisons across various regions and countries ranks Finland on the top in knowledge economy development together with other Nordic countries and North America. It also tells that there is strong persistence – at least over the medium term – in the group of most developed countries. Taking a bit longer horizon Finland stands out, however, also as an example of structural change, transformation – and actually relatively quick turnaround – as discussed above.

The background of the major structural change lies in the economic and social system that has developed over decades. Smallness, homogeneous society, and ability to seek consensus when needed, might also be important explanations for knowledge economy developments.

Small Nordic Economy and Welfare State

Finland can be appropriately characterized as a Nordic welfare state: an egalitarian country with relatively even income distribution, low class distinctions, and relatively high social cohesion.

Smallness is both an advantage and a disadvantage. There is some evidence in the economic literature that smallness as such might retard economic growth. Small countries have less scope for utilizing scale economies in production and marketing. On the other hand, small home markets drive firms to specialize and seek foreign markets early on. Most small countries can be described as open economies with large exporting sector and high ratio of FDI to GDP. In Finland exports in relation to GDP is currently close to fifty percent.

Smallness and homogeneity of the society might also be beneficial for creation and diffusion of new knowledge in specific areas – like ICT. In the period of rapid technical change this could be a competitive advantage over larger countries.

Smallness and specialization increase a country’s sensitivity to external shocks. Small economies have developed various ways to cope with the problem including not only macroeconomic policy measures but also many kinds of formal and informal networks and social security systems. As argued by, e.g., Rodrik (2000), openness of the economy is often linked to social security systems designed to dampen down the risks arising from the high degree of exposure to the external environment.

The Finnish economy can be characterized as highly open, specialized, and networked. Networking and cooperation in society in general, as well as in the business sector and between industry and universities in particular, have proven to be important in developing new information and communication technologies in Finland (see Romanainen, 2001). Of course, social networks (or social capital more generally), can become too tight and finally an obstacle for social change and industrial transformation, but so far the benefits of networking and cooperation have been an advantage rather than a disadvantage (cf. Castells and Himanen, 2002; Rouvinen and Ylä-Anttila, 2003).


Finnish ICT Cluster – It Is Not Nokia Alone

The core of the Finnish knowledge economy is the Nokia-driven ICT cluster. The broadly understood cluster – from digital content provision and packing via network infrastructure, equipment manufacturing and operation to end-user terminals and portals – is comprised of about 6000 firms, including 300 first-tier subcontractors of Nokia.

The GDP share of ICT –cluster has increased from 4 per cent in 1990 to more than 10 percent today. Nokia’s share is a bit less than 4 percent. ICT cluster’s and Nokia’s role are even more important in strategic areas like R&D and globalization of business. ICT-related research accounts for more than 50 % of all industrial R&D.

Nokia’s share in Finland’s total exports is 20 %, i.e. as much as that of the total pulp and paper industry. Due to extensive exports of telecom equipments Finland’s trade surplus of high-tech goods is among the highest in Europe. Also, there are significant spillovers from ICT sector to other industries in their international business.

Finland is quite dependent on Nokia, however. But at least now the Finnish economy has another major pillar alongside the traditional forest-based industries. What is more important, the economy has proven its ability to adapt and transform from a resource-based economy to a knowledge-based one. As compared to dependence on natural resources like oil or minerals, it seems plausible to argue that the knowledge accumulated in ICT sector could be more easily applied elsewhere should anything go wrong.

Obviously, small economies have always to concentrate and specialize and can not a well-diversified portfolio of internationally competitive business activities. That, of course, includes major risks. These have to be responded by highly developed social security and flexible economic and social structures.

Challenges and Challengers

The wave of the information revolution coupled with the globalization process is posing serious challenges to both well-established knowledge-based economies as well as emerging countries who want to benefit from new technologies. Global production patterns are changing while leading producers of ICT goods and services are moving their production off-shore. China and East Asia are becoming the most important production bases for manufacturers, including ICT goods.

Recent research seems to show evidence that some Asian countries like China, South Korea, and Taiwan are specializing in their production and foreign trade to similar goods as Finland and other advanced ICT producers. That is mainly due to increasing foreign direct investment (FDI). Leading ICT multinationals have been growing their FDI in Asia and Central Eastern Europe. Consequently, some of these countries have become major players in global export market for ICT goods, and increasingly IT services too. Innovation is not a domain of advanced markets and developed countries either.

What’s Next?

Although the original ICT boom was over in the turn of the new millennium, the revolution is not over. Quite the contrary. We see shifts in the global division of labor as new producers take their place in world trade and global production networks. Advanced countries are put into a harder competition and are forced to seek new ways of creating value in the global digital economy.

The focus will be in new applications and opportunities given by digital convergence. Being a leading edge ICT producer is not any more a guarantee of future success. That is a major challenge to Finland, since the country has lagged somewhat behind the frontier of the most sophisticated users of ICT and benefited from ICT revolution mainly as an advanced producer. It is evident that the productivity gains from ICT will diminish substantially unless the usage of these technologies is intensified. Production advantages are moving off-shore, more efficient use of ICT has to take the key role in fostering and upgrading knowledge economy.

There are, however, several new routes opening in ICT applications. The sector specific effects of ICT use will gain more importance. Especially, in services sector the opportunities for productivity increasing solutions and applications are numerous. Another thing is the convergence of several historically distinct technologies, like ICT, bio and nanotechnologies. The next industrial revolution might well be based on combination of Nano-, Bio-, Information, and Cognitive technologies. Maybe the next wave of fast industrial development is called NBIC revolution, as has been envisioned. In that wave Finland will be well positioned due to strong ICT sector, and rapid advances in the other three.

References:

Castells, M – Himanen, P (2002), The Information Society and the Welfare State. The Finnish Model. Oxford University Press.

Koski, Heli, Petri Rouvinen and Pekka Ylä-Anttila (2002), ICT Clusters in Europe – The Great Central Banana and Small Nordic Potato in Information Economics and Policy, 14 (2002) 145 – 165.
Rodrik, Dani (2004), Industrial Policy for the Twenty-First Century. CEPR (Centre for Economic Policy Research) Discussion Papers No. 4767. www.cepr.org/pubs/dps/DP4767.asp

This article by CEO Pekka Ylä-Anttila from ETLA – The Research Institute of the Finnish Economy has bee published in the ICT Cluster Finland Review 2005, a semiannual publication by TIEKE Finnish Information Society Development Centre.

More information
www.tieke.fi/review2005.pdf