Finland’s Transition to a Knowledge Economy

Pekka Ylä-Anttila

By Pekka Ylä-Anttila

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For anyone interested in economic change, Finland is an interesting case for two reasons. First, Finland has transformed itself in a relatively short period from a resource-intensive economy into a knowledge-based one. Second, the transformation coincided with major macro economic crisis in the early nineties – recovery from a deep recession and major structural transformation took place simultaneously. Among the OECD countries Finland is one of the late industrializing ones. Industrialization process really took off in the latter part of the nineteenth century, but the income per capita level remained roughly one half of that in the Great Britain – the leading economy at that time.

Still, during the post war decades, up the 1960s, Finland was in the catching–up phase of development — relying mainly on imported technologies and abundant forest resources. Physical investment intensity was among the highest in Europe, and foreign trade, financial markets and capital movements were heavily regulated.

Today, Finland is not only one of the most open economies in the world, but also one of the leading knowledge-based economies. Research and development expenditure in relation to GDP is one of the highest in the world – about 3,5 %. Higher education enrollment is well above the OECD average; number of researchers in relation to population is higher than in any other country. During the 1990s the economy oriented heavily towards ICT (information and communication technologies), and by the end of the decade the country was the most ICT specialized economy in the world.

Finland has been ranked top in virtually all international comparisons measuring competitiveness, or knowledge economy developments — including World Bank Knowledge Economy Index, and OECD’s Student Assessment tests (the so called PISA studies). This transition to knowledge economy is quite remarkable especially when considering Finland’s economic situation in the early 1990s. The country went through a severe economic recession characterized by a major banking crisis, unemployment rates rising over 15 percent, and the accumulation of government debt from modest levels to over 60 percent of GDP and approaching international lending limits. However, by the end of the decade the country’s macroeconomic performance was among the strongest in Europe. The rapid structural transformation coincided with fast improving of macro balances.

The Finnish experience shows that it is possible to make significant structural changes in a short time — as long as there is a real sense of urgency, supporting institutions, and political consensus of what needs to be done. What has actually happened in Finland between the early nineties and today? Can we explain it, are there any lessons to be learned?

Turning a crisis into an opportunity

The first basic lesson is – obviously – that it is possible to make a dramatic recovery in GDP, undertake a major restructuring, and turn a crisis into an opportunity. Finnish case is not unique in this respect. Korea turned its major 1997 financial crisis into an opportunity and undertook a major reform of its economic incentive and institutional regimes.

A second important observation from the Finnish case is that a knowledge economy is an ensemble of elements that must be at least roughly in balance. To put it in more general framework: It is not necessarily the lack of technological infrastructure or innovations that restrains economic growth. It might equally well be the lack of educated labor force, entrepreneurs, proper economic incentives and opportunities — or deficiencies in public policies. Recent economic research has convincingly shown that especially education is strongly complementary to technological advancement. It is not possible to introduce new technologies without investing sufficiently in education at the same time.

A third conclusion is that institutions and policies matter. The Finnish transformation to knowledge-based economy was, no doubt, to a large extent a business driven process, but policies and institutions played a role too. There was a clear shift in policy making in Finland in the 1990s.  High priority was given to sound macroeconomic policies to overcome the recession, but at the same time there was a gradual shift to microeconomic policies, i.e. innovation, technology and education policies. It was recognized that, after all, competitive edge of an economy is created at micro level: in firms, innovation and policy organizations, and educational institutions.

Finnish experience confirms what the recent economics literature emphasizes – institutions and organizations play even more important role in economic growth than we have thought so far. In the case of Finland two key elements are worth mentioning: education system and consensus building mechanisms.

Education is important, since it affects both supply of and demand for innovations. Human capital and skilled labor are instrumental in generation of new technologies, but demand side is equally important. New technologies are not demanded and adopted without sophisticated users. Finnish education system emphasizes egalitarian values: equality by gender, region, and socioeconomic background. Equal opportunities for all, is the guiding principle. Everyone receives the same basic education, and education is free all the way up to the university level.

Consensus building crucial for the change of policy regime

Economic policy and national strategy programs organized for key decision makers in Finland have contributed in an important way to its knowledge economy by building consensus in domestic economic and social policies and in wider international arenas. The change in policy regime in the 1990s would probably not have possible without preceding consensus building efforts.

There is a growing interest by development practitioners in sharing these experiences with many other countries. In this connection I would also like to mention the Committee for the Future of the Finnish Parliament as one example of an institutional innovation for creating consensus. The Committee has focused especially on information society issues and assessing social impacts of technological development and needs for future social reforms. To best of my knowledge, the committee is one of the kind in the world. Of course, reaching consensus in economic and social policies is neither easy nor desirable at the expense of open debates.

A final implication from the Finnish experiences relates to the importance of focusing not only on what can be learned from the past, but on anticipating and preparing for the future. This is one of the key lessons of the Finnish example and explains to some extent why Finland not only was able to make such a dramatic transformation to a knowledge-based economy, but also why it has been able to remain so competitive for a relatively long time.

Many reports and working groups in this country have addressed the challenges of globalization and determinants of future competitive edge. It seems that the geography of information and communication technologies is changing in the similar way as that of other break trough technologies before. Production is moving offshore and division of labor between different regions in the world is changing.

Knowledge has become the major source of economic growth and social development all around the world. As a consequence of globalization, dissemination and utilization of knowledge and information has accelerated significantly – new ideas and innovations spread throughout the world economy faster than ever.

Knowledge based growth and development can offer new opportunities for both developed and developing economies. In particular, information and communication technologies can provide new means for developing countries to speed up, or even jump over, certain phases of development. Adoption of ICT can also enhance integration into the global economy. For developed countries knowledge-based economy provides new opportunities for further specialization, improving productivity and achieving sustainable growth.

Knowledge capital is the only asset that can grow without limits. Sharing knowledge with other person does not diminish the knowledge of the original owner. Knowledge is a non-rivalrous good that can be used at same time all over the world. We all, including even the biggest countries, are dependent on global knowledge diffusion, that is, on knowledge produced outside our own national economies. This is the basic economic motivation for more intense international communication and collaboration.

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Pekka Ylä-Anttila is one of ETLA’s research directors and the managing director of Etlatieto Ltd.
The text is based on a speech given at Annual Conference of the Parliamentary Network on the World Bank, Helsinki October 22, 2005