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Forget Subsidies, Try Prizes:

Historically, governments sought to spur innovation and the development of solutions to important social problems by offering prizes (including large sums of money) to the first person to solve the problem. As noted in this Daniel Drezner post (and in more detail here and here), this is an effectgive way to spur innovation, but not nearly so effective at meeting political demands. Subsidies and grants are far more popular for politicians, but it's not so clear they produce the same social benefits. Among other things, they encourage the politicization of science, require expenditures irrespective of whether a problem is solved, exclude potential sources of innovation, and fail to take advantage of dispersed knowledge. The problem, however, is that government subsidies and grants are easier to administer and in the interest of the political class.

Related Posts (on one page):

  1. Branson's Climate Prize:
  2. Forget Subsidies, Try Prizes:
SJE:
Spot on. For some reason, governments seem to think that they are better at predicting winners, despite evidence to the contrary. See success in Ansari X prize for manned spaceflight, various DARPA competitions (eg autonomous vehicles), and the private sector all around.

There is excellent work on this regarding vaccines, how the government insists on "push" mechanisms (offering grants etc), rather than "pull" mechanisms (rewarding success.
2.1.2007 10:59am
SJE:
Spot on. For some reason, governments seem to think that they are better at predicting winners, despite evidence to the contrary. See success in Ansari X prize for manned spaceflight, various DARPA competitions (eg autonomous vehicles), and the private sector all around.

There is excellent work on this regarding vaccines, how the government insists on "push" mechanisms (offering grants etc), rather than "pull" mechanisms (rewarding success.
2.1.2007 10:59am
Ragerz (mail):
I think, Mr. Adler, has seriously erred in discussing only the benefits of prizes and the costs of subsidies. That is a totally and fatally incomplete argument. If you want to make a complete argument you must discuss:

(1) The benefits of prizes.
(2) The costs of prizes.
(3) The benefits of subsidies.
(4) The costs of subsidies.

Instead of just the benefits of prizes and the costs of subsidies, which will obviously make prizes look good and subsidies look bad, but is no way to make a decision.

We already have prizes. They are called patents. What are some costs?

First, they give innovators a large incentive to not cooperate and share data and research results. After all, there is only one winner. Too bad for you if the other guy uses your necessary and brilliant early work to bring the project to completion, and as a result gets the prize why you get nothing.

Second, the incentive here would be to create innovation eligible for a prize. But what about basic research??

There are more costs... but you get the point. To be respectable, you have to talk about the costs of prizes, not just the benefits.

What are some benefits to subsidies?

Well, there is actually value in trying things that don't work. This is due to the difference in our ex ante versus ex post state of knowledge. It maybe that approach x1, x2, x3 ... x20 are all equally promising ex ante. But, it turns out that only x12 works ex post. It might be tempting to only reward the person who works on x12, but in my hypothetical, since all of these ideas are equally promising, that x12 worked was only a matter of luck.

Oh, by the way, if I am a researcher going for a prize, and I have tried x6, x8, x11 and x14 and found they did not work, do you think I am going to tell my competitor? No way! Unfortunately for society, all this duplicative research is socially wasteful and will increase the amount of time it takes the invention to happen and will increase the size of the prize needed to spur all this duplicative research.

There may be other benefits of subsidies, depending on how they are structured. But you get the point. To be respectable, you have to talk about the benefits of subsidies, not just the costs.

I am not going to even pretend that this is a complete analysis of the full costs and benefits of the two approaches. But even so, it is a lot more complete than Adler's superficial one-sided analysis. Between alternative approaches, X and Y, if you talk about the benefits of X and that costs of Y, X will always seem superior. But without a more full analysis, this may be nothing more than a rhetorical illusion.

In this particular case, my tentative view is that we probably should combine prizes with subsidies. Receipt of a subsidy could be conditioned on sharing data and research results.

But I will give Alder this. Monetary prizes versus patent prizes. Monetary prizes probably win. Less deadweight costs. But don't forget to do a complete cost/benefit analysis! Don't even bother talking about costs and benefits superficially unless you talk a little bit about both.
2.1.2007 11:24am
J. F. Thomas (mail):
For some reason, governments seem to think that they are better at predicting winners, despite evidence to the contrary. See success in Ansari X prize for manned spaceflight

Oh yeah, the X prize is a brilliant example! Three teams with more money than sense spent about two to three times the value of the prize each and one of them achieved something that the Air Force and NASA was doing regularly forty-five years ago. And how are all those private launch companies doing anyhow.

Remember, if we were awarding prizes rather than subsidizing, we wouldn't have a transportation system in this country. No roads, no railroads, certainly no commercial aviation (after 80 years of commercial aviation it still hasn't shown a net profit).
2.1.2007 11:29am
Adeez (mail):
I am genuinely interested in the libertarian ideology, so I'm really not trying to be cute:

Aren't patents and general government investment in science anti-libertarian per se because they interfere with the free market?
2.1.2007 11:41am
Andy Freeman (mail):
> Among other things, they encourage the politicization of science, require expenditures irrespective of whether a problem is solved, exclude potential sources of innovation, and fail to take advantage of dispersed knowledge.

What makes you think that the folks pushing govt spending view any of those things as problems? From their point of view, they're all features (except for the last, which is arguably irrelevant to them).
2.1.2007 12:02pm
SJE:
Re: Costs v benefits.
Good point. However, I do not agree that a patent is the best way to create an incentive "prize" in all cases. A lot of things are not patentable, and you must look also at the transaction costs in getting and enforcing the patent. Besides, getting the patent and the monetary incentive are not exclusive.

Re: Ansari X prize.
Sure, government was getting people into space, but at what cost? I seem to recall that each shuttle flight costs many multiples of the amount that all teams (in total) spent on trying to get into space. You can get a on the Virgin spaceship for about 250K, versus 20 million to go into the shuttle. I do concede that the shuttle gets you out a lot further, so its not entirely apples to apples, but I would be interested in seeing what the private sector can offer.

Second, the Ansari X is an example of good incentives. You cannot look only at the value of the prize, but in the expected benefit to the winner, including other commercial benefits. Hence, the winning team are now part of the Virgin empire.

Where government prizes are important is in areas where there is market failure (even if it is due to other government interference). One of the problems in vaccine research is that governments (who are the largest purchasers of vaccines) have a monopsony, and force down the return to the inventors. The end result is less commercially sponsored vaccine research.
2.1.2007 12:06pm
byomtov (mail):
Ragerz is certainly correct that if you want to analyze this you need to weigh the costs and benefits of each approach, not just the costs of one and thebenfits of the other.

One obvious benefit of the subsidy approach is that research projects are often expensive, so require substantial financing. A prize may induce private investment, but remember that opponents of grants argue that the government will do an inefficient job of distributing grant money. Why do they think it will do a good job of setting the level of prizes so as to induce optimal investment?

More important, why do these need to be competing approaches at all? Could it be that some things are best handled through prizes, others through grants? For example, in basic science it may not even be possible to specify precisely what the objective is. How could a prize system possibly work? OTOH, for well-defined engineering problems prizes might work quite well.
2.1.2007 12:12pm
Roy Haddad (mail):
Ragerz:

You are entirely correct about what a true cost-benefit analysis entails, but I think the cost you suggest is not an issue. It is specifically a problem with patents (and also copyrights - any granting of monopoly power) and not prizes in general.

You are also right that it is unfair to reward teams that got lucky selecting the correct research trail out of the many plausible ones, but markets already have a way of addressing this: insurance, and, what amounts to the same thing, large R&D companies following multiple leads at the same time.

As for basic research, if it is necessary to win the prize then it will be funded (assuming the incentives are large enough). That's what the term "pull" means; the goal is set, and whatever is necessary to reach that goal is incentivized through that goal.
2.1.2007 12:16pm
SJE:
Re:No roads, no railroads, certainly no commercial aviation.


What about all the private railroads, private toll roads, commercial shipping etc that developed prior to the 20th century. In the early 1800s the B&O railroad was partly funded by British entrepreneurs and raced against another syndicate who were building the C&O canal.

Sure, government has a role in delivering public goods, but it often goes to far. Good example: bridges to no where.
2.1.2007 12:17pm
KeithK (mail):

Oh yeah, the X prize is a brilliant example! Three teams with more money than sense spent about two to three times the value of the prize each and one of them achieved something that the Air Force and NASA was doing regularly forty-five years ago. And how are all those private launch companies doing anyhow.

The Air Force and NASA were most certainly not doing what the X prize winner accomplished. The point of the X prize was to develop a reusable sub-orbital vehicle that could fly twice within two weeks. The government has never accomplished this - almost everything developed by NASA or the Air Force has been expendable and the Space Shuttle doesn't even approach a two week turn around.

I suspect from your comment that you don't appreciate the value of fast turn around reuasability. If we're ever to develop cost-effective space transportation it's likely to be through reusability.
2.1.2007 12:27pm
KeithK (mail):
Also, the fact that several teams spent more money than the value of the prize itself is a feature, not a bug. The prize served to spur private investment. This is a good thing. If the teams can't turn their investment into a marketable product they will have lost money. Sucks for them, but people lose money all the time in a market environment. If Rutan and Branson can turn SS1 into a profitable sub-orbital tourism vehicle the millions of dollars they dumped into development will look like a good investment.
2.1.2007 12:33pm
PersonFromPorlock:

Aren't patents and general government investment in science anti-libertarian per se because they interfere with the free market?

The patent system's greatest effect on the free market is to reduce the supply of innovation, since patents are priced out of reach for most individuals and amount to little more than a license to try to outspend, say, GM on lawyers.
2.1.2007 12:39pm
Fub:
Ragerz wrote:
We already have prizes. They are called patents. What are some costs?
I must respectfully disagree that patents are prizes in the sense of the prizes Prof. Adler wrote.

Decades ago I witnessed both the invention and patent process engaged by a colleague. His invention was a technology still in use and sold today, though the patent has expired. As far as I know, no subsequent invention has superseded the technology, which is fairly complicated.

He ultimately patented his invention, and he was able to make many years good income from licensing it. But the patent, for which he saved costs by doing much of the paperwork himself under guidance of a first rate patent attorney, still required more time and money than the original invention. His sunk costs in the patent exceeded the costs of his R&D.

Furthermore government subsidies, the alternative Prof. Adler describes, may come with strings attached which limit the patent rights of the subsidized inventor.

So, yes, there is some reward for inventions through patents. But no, patents don't offer the equivalent incentive to focus on invention as prizes do. With patents, the invention R&D effort is too often secondary to the patent cost in terms of expended effort and money, at least for the less than sumptuously funded inventor. This is even more likely to be true if the invention is technologically complicated.
2.1.2007 12:55pm
Rattan (mail):
KeithK said:

The Air Force and NASA were most certainly not doing what the X prize winner accomplished. The point of the X prize was to develop a reusable sub-orbital vehicle that could fly twice within two weeks. The government has never accomplished this - almost everything developed by NASA or the Air Force has been expendable and the Space Shuttle doesn't even approach a two week turn around.


This actually demonstrates this discussion for wht it is-- a tempest in a teapot comprising much about nothing.
One person's prize is another person's subsidy. The overhead for a prize is much higher as it requires at least knowing that a problem needs to be solved. For decision makers trying to come to terms with a round earth and evolution, we will have to use the National Academy of Sciences instead of the House to make appropriation decisions.

With the Congress managing the pursestrings, you can bet you will see competitions for prizes to be given for growing the best daffodil in Montana or concept bridges in Northern lattutudes above the lower 48 states.

Congress is best left to make macro decisions that can tolerate ignorance and stupidity.

Still, this may be the time for a competition for the best way to get out of Iraq with the prize being a fraction of the contract(s) to be given (why fight the losing fight) for doing so. A blure ribbon panel can judge to decide the best 100 entries that are to be made available to the general public for voting on a television show. The winner also gets a medal from the President at a glittering ceremony with food being served by the famed White House Chefs and a night in the Bedrooom of his choice for the family of the winner (no more than ten people). The troops will be encouraged to write thank you letters to competitors of their choice for their help in rescuing them.

I have a feeling, depending on the strategy, the governments of Iraq, Iran and Syria may also chip in with accolades and money or free gasoline for life or something like that.
2.1.2007 1:01pm
J. F. Thomas (mail):
The Air Force and NASA were most certainly not doing what the X prize winner accomplished.

Sheesh, they most certainly were. The Air Force and NASA had numerous suborbital reusable aircraft in the early sixties that achieved exactly what the X-prize winners did. Didn't you guys see or read The Right Stuff. A couple of the planes are hanging from the rafters of the Air and Space Museum. The programs lost funding because of the race for the moon.

What about all the private railroads, private toll roads, commercial shipping etc that developed prior to the 20th century.

What about them? Commercial shipping (and only trans oceanic at that--certainly not inland) might be the exception. But the national rail network certainly wouldn't have developed without government subsidies.

You can get a on the Virgin spaceship for about 250K

Really, when is the next flight? Where does it go?
2.1.2007 1:10pm
Ragerz (mail):
Roy Haddad,

Interesting points. I do agree with you that prizes would establish an incentive for some basic research. I question whether it would establish incentives for enough basic research.

Before a prize is offered, it has to be offered for some sort of obtaining some sort of objective. But, of course, any objective is likely going to be made with respect to what is thought possible. And what is thought possible is itself a function of basic research.

One supposes that one could have "pie-in-sky" prizes for truly extraordinairy accomplishments without reference to what we think is possible. Then, supposedly, basic research would be done to make this happen. But, likely, this sort of research is just too speculative to be undertaken by companies with short-term time horizons. You may be rich when you make that big breakthrough, but in the meantime, you have to eat. This applies to big companies as well. Pfizer just laid of 10,000 workers. Intelligent in the short-term? Yes. Optimal in the long-term?... It depends on exactly what those 10,000 workers would have produced in the long-term...

Investors demand more certain returns. Basic research focused on the long-term thus may be neglected if we went to a pure prize system.

I don't understand why you think that companies not sharing their results would not be a problem with monetary prizes? Why should they share their results, if it makes it more likely that the other company will get the prize first?

I am skeptical of "pull" being able to solve all of these problems optimally. Insurance for research that doesn't work out? Since this is likely the case with most research, it seems that insurance would be paying out most of the time. Given that, obviously insurance companies would have to be entitled to part of the prize when things do work out. Which means that the prize would have to be bigger to give the same incentive to the researchers. Then insurance companies will have to be looking at the merits of the research, something that they may not be particularly good at doing. At the end of the day, since insurance would be paying out whether the research works or not, that sounds a lot like a subsidy... In essence, what this would be subsidies administered by insurance companies.

As far as large R&D companies following multiple leads, this doesn't leave room for smaller start ups with the truly innovative ideas. If you actually look at the structure of pharm companies or biomedical engineering companies, you will see that a lot of the big R&D firms basically make a business out of acquiring smaller and more innovative firms. But without some sort of subsidy to get going, perhaps the smaller more innovative firm would not have been started in the first place. Not to bash on large R&D firms, but they may not be the best incubators of innovation in all circumstances.

All this said. I think there is probably a lot of merit in "pull." But, ex ante, my prediction would be this. Pure pull (prize) is going to have a set of advantages and disadvantages. Pure push (subsidy) is going to have a set of advantages and disadvantages. It is likely that some of the disadvantages of pull can be lessened at low cost by including some push. It is likely that some of the disadvantages of push can be lessened by including some pull. That, seems to me, probabilistically and from an ex ante perspective before I engage in the analysis that this issue truly deserves, to be most likely.

One thing to consider is to perhaps start offering monetary prizes as an alternative to patent prizes for certain innovations. Rewarding a company by giving it market power introduces quite a bit of deadweight loss, as prices end up much higher than marginal cost. If we gave companies a reward equivalent to the profits they would gain as a monopoly user of their patent, but then released their intellectual property rights immediately, a lot of deadweight loss could be avoided. Also, that invention would be available for other researchers to build on without the transaction costs of licensing right away.

Overall, I think there is a lot of merit to the idea of monetary prizes. But I would be wary of looking at it as the solution, as opposed to part of the solution.
2.1.2007 1:13pm
J. F. Thomas (mail):
BTW, the X-15 flew 199 missions (three were built) between 1959 and 1968 and achieved an altitude of 108 Km in 1963. I guess that is why the X-prize founders had to throw in the part about "privately funded". Otherwise they would have had to immediately give the $10 million to the U.S. government.
2.1.2007 1:23pm
Ragerz (mail):
Fub,

I agree with you that patent prizes and monetary prizes are not equivalent. However, they are both prizes, and should be expected to have certain similar features (i.e. an incentive to hide research results necessary to achieve the patent prize or monetary prize in question). But, as I made clear above, patent prizes do have significant differences. One of them, as you suggest, is that the cost of obtaining a patent might be more expensive than the cost of obtaining a prize, once the innovation in question is complete. A much more significant difference is that monetary prizes would allow us to avoid deadweight costs due to prices for goods using patented technology being much higher than marginal cost and lower transaction costs that come from licesning.

So, I entirely agree with your respectful disagreement (which, as it turns out, isn't actually a disagreement). Patent prizes and monetary prizes are by no means equivalent. However, they do have certain similarities. And my point was not to go into this in depth, but simply point out that monetary prizes do have costs associated with them (some of which happen to be the same as patent prizes, due to the fact that they are both a form of prize) and that we need to look at those costs very carefully when making these policy decisions.
2.1.2007 1:27pm
J. F. Thomas (mail):
Also, the fact that several teams spent more money than the value of the prize itself is a feature, not a bug.

Actually it is a bug. I assume the purpose of the prize was to demonstrate that sub-orbital flight could be achieved cheaply. Otherwise what was the point of the prize. The U.S. government (and I presume the Soviets) had demonstrated that you could fly above 100 Km and with reusable airplanes way back in the early sixties. So it's not like we needed to prove it was possible. All the winners proved that it could be done if price was not an object. We already knew that. Had known it for forty years.

By ignoring the implicit rules of any game (don't spend more than you are going to win), the winners of the X-prize cheated.
2.1.2007 1:58pm
AnonPerson (mail):

Also, the fact that several teams spent more money than the value of the prize itself is a feature, not a bug.


Actually it is a bug. I assume the purpose of the prize was to demonstrate that sub-orbital flight could be achieved cheaply.


I think whether or not this is a bug depends on a lot on the funding model that is being envisioned.

If we are proposing to still keep in place the concept of government funding of long-term and basic research, but simply replace prizes with grants, then the prize money would definitely have to go up. It presumably would not have to go up all the way to the amount of current grants, due to prizes being more efficient.

If we are proposing to get the government mostly out of the funding of research, basic or otherwise, then presumably then presumably the prizes would not need to cover all research costs.

I am PI or co-PI on three NSF-grants, and 1 DOE grant. I do think there is a lot of wastage, due to the way grants work. I am receptive to prizes replacing grants, but I think that a lot of the discussions so far have been somewhat superficial, and missing a lot of important issues from people in the trenches.
2.1.2007 5:33pm
Cornellian (mail):
I'll be impressed when we have an "American Idol" for math students, instead of just for singers.
2.1.2007 7:25pm