CDF Dialogue focuses on topics such as the global political and economic situation, business values, international cooperation, and human development, with the purpose of "Dialogue with the world, seek common development", aiming to promote rational and equal communication between China and the world.

Philip Aghion, a fellow of College De France is a leader in endogenous growth theory and one of the founders of Schumpeter’s growth model. Many people first heard about Aghion after reading his book The Power of Creative Destruction.Professor Aghion uses the Schumpeter’s growth paradigm to address big economic issues in the book, where many core issues in the current development of the world and China can be found.

Aghion describes himself as an "optimism of the will". He believed that the "golden triangle" of state, citizens and society, as long as it can achieve positive interaction, can generate the power to counter and avert Schumpeter's pessimistic predictions.

He is also optimistic about relations among China, the United States and Europe: there is no problem with competition, as long as this competition is frank and fair. The right way to compete is innovation.

Fang: Hello. Welcome to CDF Dialogue. I'm Fang Jin, Secretary General of the China Development Forum. And my guest today is Philip Aghion, professor of the London School of Economics and Political Science.

Professor Aghion, a fellow of College De France, is a leader in endogenous growth theory and one of the founders of Schumpeter’s growth model arguing that innovation is a double-edged sword. Professor Aghion uses the Schumpeter’s growth paradigm to address big economic issues, such as the roots of inequality, competition and globalization, determinants of health and well-being, the technological revolution, the middle-income trap, climate change and how to recover from shocks. His theory can inspire us to better understand the current economic environment and changes at home and abroad.

Today, we'll be talking with Professor Aghion about how to achieve more equitable and inclusive long-term growth and prosperity around above unfolding areas.

Fang: So Professor Aghion, you have been studying economic growth for more than 30 years, theorizing and modeling Schumpeter's concept of 'creative destruction' and deriving a series of related studies that form a new paradigm of economic growth. Now to mention your recently published book The Power of Creative Destruction, could you briefly describe the main reasons or motivations that drove you to engage in the research of economic growth and what are the main features of this new paradigm? Thank you.

Aghion: Thank so much for inviting me. It's a pleasure and honor to be with you today. When I studied growth in my young days, you would study the Solow Model. There's no classical growth model where growth is driven by capital accumulation. But the model would show that on the reasonable assumptions of decreasing returns to capital accumulation. Capital accumulation alone could not generate long-run growth. Long-run growth of per capita GDP should be zero. And the only way you could have long-run growth is technical progress. But the Solow model would not tell you where technical progress was coming from. So we needed to build a model that would endogenize technical progress.

Now, Schumpeter had talked about innovation and creative destruction. Creative destruction being this idea that new innovations displace all technologies. But there was no such thing as a Schumpeterian model when I studied growth. There was no such thing as empirical models based on Schumpeter's ideas. They didn't exist and we needed these models if we wanted to understand a theory of enigmas related to growth. For example, Why some nations grow faster than other nations? Why some nations converge to the standards of living of the developed world and others remain far behind? Why some nations start converging and then stall along the way the middle of income trap? Why you have secular stagnation in developed countries?

A whole set of enigmas that we could simply not just understand if we use the new classical growth model, so we had to build a new paradigm, and that's what we did with Peter Howitt in 1987. We build the Schumpeterian growth paradigm based on three main ideas. The first idea is that long-run growth is driven by cumulative innovation where each innovator builds upon previous innovation. The second idea is that innovation activities are the result of investments that are motivated by the prospect of innovation rents. You have entrepreneurs who invest in innovative activities, R&D and other type of investments, because they expect innovation rights if they innovate. The property right protection is very important.

And the third element is creative destruction. New innovations displace all technologies. And you see, right away there is a contradiction at the heart of the growth process. On the one hand, you need to give innovation rights to motivate innovation. But on the other hand, innovators attempted to use these rights to prevent subsequent innovations, because they don't want themselves to be victim of creative destruction. They don't want themselves to suffer from creative destruction to have new people replacing them and regulating capitalism or market economy.

All about how to manage this contradiction. You need to give innovation rights. But you want to make sure they won't be used to prevent subsequent innovator, and whether you talk about secular stagnation, inequality, middle income trap, green innovation, you come across this contradiction.

Fang: Yes, I think great. These new paradigms not only have better explanatory power of economic reality than a new classical model, but also give us a more optimistic view of economic growth in the future. I mean, it says that long-term continued growth is possible. So my next question is that innovation-led growth is the driving force for a country's long-term economic development, but what policy adjustments and institutional buildings are needed to achieve innovation-led growth, especially with regard to China? You know China is currently transitioning from investment-led growth model,a new classical one to an innovation-led growth model, so what should be the main focus on for China in terms of policy adjustment and institutional building? Thank you.

Aghion: You are right. There are various ways to grow. One way is to catch up. Get what they call accumulating capital. But we know from Solow that accumulating capital alone will not generate long-run growth. But there is another way to imitate more advanced technologies. We call that imitation.

But once you get close to the world technology frontier, you don't get much growth from imitation. You need to go into innovation and to innovate upon yourself. And the institutions that are good for catching-up growth are not the same institutions as those that are good for innovation-led growth. When you are in the business of imitating, it's okay not to have much competition. You need big firms,you need to have basic education, and to absorb more advanced technologies through foreign direct investment. So, education and foreign direct investment basically give you the catching-up growth.

But when you are in the business of frontier innovation, it's very important to have competition. We know that competition fosters innovation at the frontier. Because at the technological frontier, you innovate because you compete to escape competition in the right. Competition becomes a very strong engine of innovation-led growth at the frontier when you are frontier firm. Competition with your rivals induces you to innovate much more. So, I would say the paramount thing is competition.

Also, education. You need more graduate education, more beyond primary, secondary education if you're in the business of frontier innovation. Also you need more equity financing, not just bank finance. Because you need financiers that take a lot of risk, and you take a lot of risk when you innovate at the frontier, and you need more labor market flexibility.

So you see that when you want to be the business of innovation-led growth. You want much more competition, higher education and lots of equity financing and labor market flexibility. And I would also say academic freedom. When you know what to do and what to imitate, academic freedom is not so important. When you're in the business of experimenting things, you need to be totally free to experiment whatever you want without a clear guideline, because you are searching at the frontier. So those are elements that are very important for innovation-led growth. But paramount is competition. You need to create the conditions that really have product market competition that really is absolutely indispensable. And the big problem is that some countries, for example, South Korea or Japan, they have institutions for catching-up growth. But during the catching-up period, big conglomerates emerge and these conglomerates not only prevented entry by new innovative firms, but also put pressure on governments to prevent moving from imitation enhancing institutions to the innovation enhancing institutions. You see, and that's what created the middle-income trap syndrome in South Korea but also in Japan and in other countries that failed to make the transition from imitation-based growth to innovation-based growth.

Fang: Well, yes. The next question is about some global challenges are pertaining to both France and also China. The latest Macron report identified climate change, inequality, and aging as the three major economic challenges for France's future which are undoubtedly also global issues. Could you talk about the role of innovation in addressing all these three challenges? Thank you.

Aghion: The first, for example, climate change. Some people believe that negative growth would be the way to deal with climate change. But we know that negative growth is not the way with the lockdowns and COVID. We went through lockdowns and we still go through lockdowns. We know that we had to do it before the vaccine (arrives) in particular, but it has dramatic consequences on psychology and on the youth. It is not the way you want to go. So the only alternative is green innovation. To find new sources of energy which are cleaner, to find new way to produce which save on energy consumption, to find new way to organize firms and new ways to transport yourself, and that's green innovation.

But the problem is that innovation, is not spontaneously green firms that innovated in the past in dirty technologies. They keep innovative in the future in dirty technologies because you keep doing what you are good at. So you need, therefore, the state to redirect technical change, though on-screen technologies. And you do that with carbon price, carbon tax but also industrial policy to invest in green innovation.

Consumers also have a role to play there. The consumers put pressure on firms to innovate greener. So you see that there is a role of the state and of civil society to redirect technical change of firms towards green technologies.

But green innovation is the response is the way to reconcile growth and fighting climate change. There is no other way than green innovation. Now, on inequality, innovation, you see how is very interesting? Because when you innovate, you get rents from innovation. So innovation increases top income inequalities, the share of income of the top earners. But on the other hand, because of creative destruction, innovation generates social mobility. Because the new replace the old, and because the innovation has this positive effect on social mobility. When you look at the relationship between innovation and global measures of inequality like the GINI, you see no effect of innovation on the GINI.

But which generates growth increasing social mobility and therefore does not increase global inequality. Whereas lobbying and entry barriers, they generate top income inequality. They reduce social mobility, they reduce growth because they prevent new entry and they increase global in inequality. So you see, it's very interesting that innovation is a source of top income inequality, but very different from entry barriers and lobby, as another source of top income inequality. I say always that Steve Jobs is very different from Carlos Slim. Steve Jobs became rich because he created Apple. He is an innovator. Carlos Slim became rich in Mexico because that the head of non-regulated telecom monopoly.

Then you ask about aging. Aging it's very important, because now we live longer. If we want to finance innovation-led growth and we need state support to finance innovation, so I think it's very important to work longer. Because is the way to help the state finance, innovative investment, education, green innovation, industrialization, all that you can do. But you need to balance the pension system and adapted to the fact that we live longer. So we need to work longer.

Fang: Thank you. So the next question is about the role of government in this new paradigm. Why does the paradigm of creative destruction consider that investment prone government and social security prone government of great significance?  We simply cannot rely Laissez-faire market forces. But on the other hand, what are many mechanisms in place to ensure the government does not intervene too much in the market?

Aghion: What's very interesting is that there is a role of the state as an investor. Why?  Because you have knowledge spillovers. For example, when I innovate, I don't take into account the positive externality is that my innovation will have on subsequent innovator. So I tend to under invest in innovation and schooling. When I decide to go to school, I don't take into account the positive externalities that I will have knowledge externality that I will have on my people who work with me on my children on the economy as a whole.

So as a result, individuals or individual firms tend to under invest in education innovation and all that. Hence, the role of the state to invest in those things you see in education, in innovation, in knowledge production.

Even if individuals and firms wanted to invest, they may face credit constraints. So, knowledge externality and even more with credit constraints imply that there is a big role of the state doing as an investor in education, in industrial policy, in innovation, in health. So that's very important. And you need good health to have growth, you need good education to have growth, I mentioned that you don't have good growth without education without good health, but you also have a role of the state as an insurer. The state needs to insure against macro risk. For example, when you have Covid, make sure that people don't lose their job, or make sure that people are protected that they don't fall into poverty that they keep the health insurance. In the US they did very poorly on that. But in Europe, they did much better. So to insure against macro risk it's very important.

And also to ensure firms that they can maintain their innovative investment along the cycle or when they face a big problem like the pandemic. It's very important that the state be there to make sure that consumers can maintain consumption and that firms can maintain investments, because otherwise the economies break collapses.

But there is a role also the role of the state as an insurer against idiosyncratic risk, for example of losing your employment. But in Denmark, when you lose your employment for 3 years, you get 90 % of your salary, and the state helps you retrain and find a new job. That's why creative destruction works so well in Denmark. People don't suffer from being unemployed.

In the opposite, unlike in the US you have what we call death of despair. Many people go into depression and to death and suicide because they lose their job. Because losing your job in the US gets you into poverty and into losing health insurance and into a lot of stress. So I think it's very important to have the state as an investor and the state as an insurer.

And civil society is also very important to make sure that the state does what it has to do. Because for example, Colombia has the same constitution as France, but a real life is very different in Colombia from what it is in France. Because civil society is not there in Colombia to check on the state to make sure that the state is not captured by vested interest. So it's very important this triangle between firms, the state and civil society. I think this is absolutely crucial. And the US, you see what's very interesting. The US is a very good model for innovator and not for protection. Denmark and Europe are good at protecting, maybe less good at innovation, but I think you can become good at both innovative and protection.And so that I think education is important. Competition is important, and have a good labor market system like in Denmark. When you have those things, you can be much more innovative, but at the same time, much more inclusive and protective. So I don't think that you could oppose being innovative and being inclusive and protective. You can have the policies that enhance both innovation and being protective and inclusive.

Fang: Thank you. I actually have a related question on the balancing act between creation and destruction. When we talk about creative destruction, more often people focus on the creative side and overlooking the destructive side of innovation. That's understandable. Because for example, in the first and second industrial revolutions, massive new jobs and growth opportunities were created, and far out pacing the destruction of old jobs. People tend to look at the positive side of creative destruction. But a lot of people worry that in the current cycle of the economic, technological innovation especially featured by artificial intelligence and development of automation that we may actually have. We lose more jobs than those that are being created. So do you think under some circumstances, the create the destructive part of innovation can actually outweigh the innovative part?

Aghion: Yeah, I think you're absolutely right. There is always this danger, but it's very interesting that none of the big industrial revolutions be it. The steam engine revolution in the 19th century, the electricity revolution in the 20th century, and now the IT and artificial intelligence revolution, none of them have generated mass unemployment. Why? Because in fact, it's true that they lead to substitution of manpower by capital goods. But on the other hand, they increase productivity and they made economies more productive. And when economies become more productive, they increase the market size worldwide. And when you increase your market size worldwide, you have more demand for your products. And therefore, you hire most workers and the productivity effect, more than counteracts the substitution effect of manpower by capital. That was true for the steam engine in the 1903, true for electricity in the 20th century, and now true for automation and robots.

We talk about that in chapter three of the book. They create employment because they increase their sales, because they become more competitive. They are able to reduce their quality-adjusted prices and become much more competitive. So it's interesting that, in fact, people fear that each time you have a big revolution would lead to mass unemployment, but the mass unemployment ever occurred because the productivity affects more than outweighs the substitution effect.

Fang: It's very comforting to know. So I think the chapters of critical growth paradigm at least theoretically proves that long term continued growth is possible. But he himself is very pessimistic about the future of capitalism, because he believed that the existing big corporations would try to preserve their monopolistic power and stifle innovation.

You know the current innovation cycle dominated by ICT and digitalization. We have these so-called big platform economies. The ICT is featured by characterized by increasing returns to scale and also winner takes all. So many people worry that these platform economies, big platform corporations would stifle innovation. People are calling for stricter regulation and oversight over these big tax. What's your view on that?

Aghion: Yeah, you're absolutely right. The main reason why you have the secular stagnation and the decline in productivity growth in US developed countries and other places is the fact that with the IT revolution, you had the emergence of new superstar firms.

At first, the emergence of the superstar firms boosted growth. For example, you see that productivity growth in the US is boosted between 1995 and 2005. But since the early 2000, you have a decline in productivity growth in the US. 

Because these super star firms ended up stifling entry and innovation by new firms, by non-super star firms. And then the main reason was competition policy was not adapted to the digital era. They let these superstar firms expand without any limit through merger and acquisitions.

And that's why people like Richard Gilbert and others are proposing that we adapt competition policy to the digital era, by making sure when you before allowing for a new merger and acquisition to look at the effects. It will have on entry and innovation. If you see that the effects are negative, you should prevent the merger and acquisition, so you need to have a new way. Before we used to only consider market share and market definition, to decide whether or not we should allow for a M&A. We didn't look at the dynamic aspects, the dynamic effects that this merger could have on future innovation and future entry. And I think now we really need to renew the practice of competition policy this way. Also, we may have to break up some firms that are too big, and certainly regulate them to make sure that they don't stifle entry and innovation. So a mixture of a renewed competition policy and of appropriate regulation. It's a way to make sure that entry of new firms again.

By doing that you will boost innovation and growth, and you also make growth more inclusive. Because we know that creative destruction and the entry of new firms are also good for social mobility as I said before. So by doing that, if you promote renewed competition policy, you will both make the economy more innovative and also more inclusive, and that's what it would be done. But see the difference with Schumpeter is that he did not look at the role of the state and civil society. And I think both the state and civil society have a role to play, to make sure that these renewed competition policies are being promoted. And that's where the triangle that I was mentioning before is very important. Schumpeter did not consider that triangle.

But at least I am very much Gramsci, the Italian Marxist. But I really believe that it's optimism of the will. There are forces that can be mobilized to counter to avert the Schumpeter’s pessimistic prediction.

Fang: Last question. In today's world, exchanges and communication and consensus among different cultures and social systems are vital. What is the role cooperation in global innovation? Do you have any suggestions on how to form a synergy through exchanges and communication across borders and cultures? Thank you.

Aghion: Yeah. I believe very much in the concept of competition. We cooperate and we compete at the same time. I remember when I was in Cambridge, Massachusetts, when I was at Harvard. I had been at MIT for 2 years. Harvard and MIT are top two universities in worldwide, and they cooperate and compete. For example, you have lots of seminars that are joint between MIT and Harvard. Lots of papers are jointly written by researchers at MIT and Harvard. They collaborate in many things. But at the same time, they compete fiercely to attract good students and good professors. So it's very interesting this model of this picture of cooperation and competition.

I believe very much in the co-opetition both within the exchange and the competition.I believe competition has to be loyal.I believe it's very important to have competition. But competition has to be loyal, so that you can have also cooperation at the same time. And I know, for example, it's very interesting US benefited a lot from immigration. So it was good to welcome researchers from elsewhere. And for example, it's very interesting that 1/4 of the production of patents and 1/4 of entrepreneurs in the US are immigrants, but they represent only 10 % of the American population. And American born abroad are overrepresented among the most cited authors and among the Nobel prize law rates. So it's very interesting to attract people from abroad, because they bring new culture. Culture is extreme diversity. It is a big force to produce innovation.

By the way, I'm looking at China now. I'm doing a study where I look at the best papers in China. You see the most cited papers by Chinese researchers, and they tend to be a lot by people who go to the US or Europe or collaborate with US researchers and European researchers. It's very interesting. It's also for the European and American researchers. They benefit a lot from cooperating with Chinese researchers.

Fang: Professor, I need to trouble you with one more question inspired by your concept of co-opetition. Trade and investment across borders are important channels for innovation, diffusion, but also for competition. But with the increasing protection and deglobalization process, do you worry this will setback in innovation and global level?  What can we do to avoid this trend?

Aghion: I have that worry, and I think it's important to sit down together and say. What are the issues? What could we do? And so that we make sure that competition is loyal and fair. But I think there's been some distrust on all parts. And the distrust has to be dissipated. So I think it's very important that China, the US, Europeans sit down together, because we have much more to win to gain than to lose by cooperating. And I think it's very important that we distrust be dissipated, because we can do so great things together. I'm an optimist. I think this will happen.

Fang: Thank you, very optimistic, me too.

Aghion: Because we get so much from trade as you said. Why trade is important? Because when you have more trade, you have more rents for innovator. There is more innovation. And also, as you said, trade is a fantastic vehicle for knowledge transfers across countries. We benefit enormously from trade, and trade also may in uses more competition.

We compete by innovative. You see, we compete. We don't compete by doing social dumping or environmental dumping. That's not the right way to compete. The right way to compete is that I escape competition with you by innovating upon you. That's I think it's a good way to go. You see? And that's what we have to promote.

Fang: Thank you. I totally agree. Thank you, professor. I think that's the end of our dialogue. I hopefully we can see each other in a not too distant future. Thank you!

Aghion: I look forward to it. Thank you so much for inviting you. Bye.