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Second International Workshop of the BRICS Project “Comparative Study of the National Innovation Systems of Brazil, Russia, India,

China and South Africa”Hotel Glória, Rio de Janeiro, Brazil

April, 25, 26 and 27, 2007

Section 4 - Financing of Innovation SystemsFinancing and Innovation: An Analysis of the System of Innovation Financing in Brazil

Luiz Martins de Melo - IE/UFRJ e MADE/UNESA

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The Structure of the Paper

1. Introduction

2. The Innovation Financing System in Brazil Evolution

2.1 The Former System of Innovation Financing in Brazil: 1967-1997

2.2 The Current Sistem of Innovation Financing in Brazil through the Sectoral Funds since 1998.

2.3 New Programs and Venture Capital

2.4 Summary of the Section

3. The Financing of Small Firms in Local Systems of Production

4. Conclusion

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Introduction

Banks finance firms and firms finance projects. The main task of the financial system is not the initiation of projects but the built up of corporations. Innovation is at the center of the growth of firms. Government has a crucial role in the development of innovation. Government shape the economic and financial environment through industrial and monetary policies. Monetary policies through the interest rates directly affects portfolio options as well as asset wealth allocations. Different firms have different performances regarding innovation. Innovation and growth ride together. So, financial systems constraints the development of innovation by firms through portfolio investment options.

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Introduction

National Innovation System: Freeman (1985)- the role of state intervention: macroeconomic policies and the international insertion of the Brazilian economy

- the role of domestic company’s innovation strategy in relation to MNCs and imported technology

- the role of education and training and related social innovations

- the conglomerate structure of industry

Melo (1994 and 1996): added a fifth characteristic:

- the institutional organization and the structure of the financial sector

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Economic Cicles and Globalization:

At every technological and social boom, the world “shrank” a little more.

It was very important was the attitude of investors who insisted in assuming the risks and benefits related to building and exploring new and admirable technological changes.

Introduction

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Introduction

- The analysis of the relation between finance and innovation hasn’t been main issue in the neoschumpeterian stream Freeman (1994). In Brazil the situation is very similar (Melo, 1994).

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The Innovation Financing System in Brazil Evolution

Brazilian financial system does not fund long term investment. Only public funds are available for investment funding through BNDES and FINEP.

Brazilian capital markets are very small.

But: We have very modern and sophisticated financial services sector.

Challenge:How to transform this system to the supplying of equity investment which is the most adequate way to give financial support to technology-based companies.

One of the main characteristics of a deep financial system is the evaluation of intangible assets (Mayer, 1991).

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The Former Innovation Financing System in Brazil: 1967-1997

Main characteristics:

-The creation of the National Fund for the Scientific and Technological Development - FNDCT in 1969.

-Finep becomes the general-secretary of the FNDCT

- Fiscal budget resources to FNDCT and operated by FINEP.

- Those resources were given as collateral to loans from the BID and BIRD to S&T.

-The set up of the Program for the Support of the Technological Development of the National Enterprise – ADTEN

-Subsidised loans were the main instrument up to the beggining of the 80s. (External crisis 1982).

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The Former Innovation Financing System in Brazil: 1967-1997

Outlays FINEP/FNDCT-1967-1997-R$ milhões/dez/2006.

0

500

1000

1500

2000

2500

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67

19

70

19

73

19

76

19

79

19

82

19

85

19

88

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91

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94

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97

FNDCT FINEP FINEP+FNDCT

Fonte: Finep. Elaboração do autor.

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The Current Innovation Financing System in Brazil through the Sectoral Funds since 1998

Brazilian external crisis of 1998/1999 and the change of macroeconomic policy: inflation target fiscal surplus and very restrictive monetary policy, took to the end of the former innovation financing pattern.

To solve that problem the Minisistry of Science and Technology set up a strategy of overcoming the fiscal restriction by the creation of fiscal contributions. That solution had been implemented succesfully before swith the establishment of the Provisory Contribution over Financial Movement – CPMF ( 1993).

In 1997 the first sectoral fund, the oil fund, was created through a contribution over the oil sales. It began its operation in 1998. Since then 15 sectoral funds and one specific (Telecommunications) have been created.

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Aeronautics

Agrobusiness

Amazon

Biotechnology

Energy

Airspace

Water Hídrico

IT

S&T Infrastructure (not sectoral)

Mineral

Oil

Transport

Health

Green and Yellow (not sectoral)

Aquaviário

Current Sectoral FundsCurrent Sectoral Funds

The Present Innovation Financing System in Brazil through the Sectoral Funds since 1998

FUNTTEL(Minicom) Telecommunications

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The Current System of Innovation Financing in Brazil through the Sectoral Funds since 1998

Main Characterisitics;-Cooperative projects between research institutions and firms operating through calls;

-Each fund has an managerial committe

Objectives:- To modernize and enlarge S&T infra-structure; -To foster a greater sinergy between reserch institutions and firms;-To create new incentives to the private investment in S&T; -To promote the knowledge creation and innovations that contribute to solve the national problems - to stimulate the cooperation between technological development and science to reduce regional inequalities and the interaction between research institutions and firms.[

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The Current System of Innovation Financing in Brazil through the Sectoral Funds since 1998

Main Instruments (Only allowed in the Green and Yellow Fund):

-Subvention;

-Equalization of the loans’ intererest rate

-Venture Capital

-No special treatment to national firms.

Aproved Budget for the instruments of the Yellow and Green – current thousands R$ – 2002-2005 Instrumentos - FVA 2002 2003 2004 2005 Total Equalização 8.400,00 35.064,94 29.330,00 40.900,00 113.694,94 Participação no Capital 5.000,00 21.038,96 17.600,00 17.588,00 61.226,96 Garantia de Liquidez 0,00 0,00 5.300,00 2.000,00 7.300,00

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Outlays FINEP/FNDCT- 1998-2006- R$ millions Constants Annual Average (IPC-Dez/2006)

0,0200,0400,0600,0800,0

1.000,01.200,01.400,0

1998 1999 2000 2001 2002 2003 2004 2005 2006

FNDCT FINEP FINEP+FNDCT

Fonte: Finep. Elaboração do autor

The Current System of Innovation Financing in Brazil through the Sectoral Funds since 1998

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The Current System of Innovation Financing in Brazil through the Sectoral Funds since 1998

FNDCT – Financial Retention - 1998-2006- Constants Reais December de 2006 - IPCA – Annual Average

Year

Outlays

Tax Income Retentions

1998 165,7 165,7 0,0 1999 192,2 224,8 32,6 2000 263,9 453,8 189,9 2001 590,3 773,4 183,1 2002 528,5 1.358,1 829,6 2003 617,5 1.550,6 933,1 2004 716,3 1.551,7 835,4 2005 797,9 1.743,8 945,9 2006 787,3 1.850,4 1.063,1

TOTAL 4.659,5 9.672,2 5.012,7 Source: FINEP. Elaboração do autor.

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Tax Income of Telecommucations Funds - 2001-2005-R$ currents billions

Fundo/Ano 2001 2002 2003 2004 2005 TOTAL INVESTIMENTO % INVESTIDO

FUST 1,0 1,1 0,5 0,7 0,6 3,9 0 0% FUNTTEL 0,1 0,2 0,2 0,2 0,3 1,0 0,5 50% FISTEL 4,4 2,7 1,3 2,0 2,1 12,5 1,3 10% TOTAL 5,5 4,0 2,0 2,9 3,0 17,4 1,8 10,06% Fonte: Anatel e Tesouro Nacional

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New Programs and Venture Capital

FINEP set up in 2000 the INOVAR program. It is composed of a series of activities aimed at the development of small innovating firms which intend to receive equity investment

The INOVAR Funds Incubator has the participation of BID, Sebrae, and some financial institutions.

Perhaps this is the most important institutional innovation of that period.

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New Programs and Venture Capital

- Finep: The interest rate zero program.

- The regulamentation of the subvention instrument.

-BNDES – Criatec: financial support to small firms in IT, biotechnology, advanced materials, nanotechnolgy, agribusiness and fine mechanicals.

-BNDES – Two programmes to support innovation in firms trough loans with very low interest rates and good amortization conditions.

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New Programs and Venture Capital

Funds from Capital Markets

Ano Valor R$ bilhões 1996 17,7 1997 11,8 1998 29,7 1999 19,8 2000 31,2 2001 27,8 2002 26,4 2003 12,9 2004 29,2 2005 71,4 2006 124,5

Fonte: Comissão de Vaores Mobiliários – CVM e BOVESPA. Elaboração do autor.

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Short Sum-Up

The first period had a higher average value of outlay than the second one.

Comparison between the two periods R$ millions

Média 1967-1997 (FINEP) e 1970/1997

(FNDCT) Média 1998-2006 1967-1997/1998-2006 FNDCT 586,4 517,7 13,27% FINEP 357,4 328,6 8,76%

Fonte: Finep. Elaboração do autor.

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- Higher compatibility between macroeconomic policy and innovation in the first period. This result is the direct consequence of the restrictive monetary policy and fiscal surplus pursuit.

- Financial Instruments: First period was dominated by subsidized loans. Second period provided a modernizartion of the financial instruments, but the performance was restricted by the macoeconomic policy.

- Despite all that, what remains constant is the incapacity of the private financial sistem to provide long term loans.

Comparison between the two periods

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- In the first period there was an explicit priority to finance Brazilian national innovating firms. In the second period there is not such priority. It seems that it is assumed that there is no difference between Brazilian national firms and multinationals.

Comparison between the two periods

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The Financing of Small Firms in Local Production Systems

The central problem is that small firms in local systems of production in Brazil are characterized by low innovation expenditures.

This is a feature that makes the relation among the variuos parts of the local inovation sistem, to work in a very restricted way.

The weak interaction among the parts of the system – firms, research institutions and financial organizations – does not allow the sinergy effects to come out. The low technological intensity of such interactions makes research institutions work in the same way, even when they have more scientific capacity. So, the set up of a portfolio of intangible assets becomes very restricted.

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The Financing of Small Firms in Local Production Systems

One of the failures of the Innovation Financing Brazilian System is the lack of a program aimed to support small innovating firms in local production systems, whrere they are the majority.

The financing of small firms in such local systems requires a greater partnership and cooperation between the investor and investee. The difficult part in this problem is the creation of a collective intangible asset that could be used as a basis for the evalution of the innovation activities and the risks associated to them.

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Conclusion

The general conclusion is that the central problem that must be faced is the understanding of the two dimensions of the national innovation sistem: the sistemic and the national.

Integrating them, is a central feature for a good performance of the innovation financing in a very consistent way.

In order to make that possible, it is necessary to mention that it is important to know:

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Conclusion

► How national firms started up and have developed; ► How they have articulated themselves with foreign firms;

► How the state and the private sector have interacted to consolidate or not the capital accumulation and centralization of assets which are essential for the dynamics of national innovation in large national conglomerates. Besides, that movement must be done articulated with the overcome of regional inequalities through the development of local production systems

and the small innovating firms.

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Conclusion

In the lack of those basic characterisitics, whicht are the result of the State and private sector acting together, it is very difficult to set up a friendly macroeconomic policy and an innovation and industrial policy aimed to defend the national interests.

This is where the systemic and national features are acting together.

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ConclusionA more friendly macroeconomic policy, could and would put more available resources in the sectoral funds.

BNDES entry in the financing of innovation activities and the INOVAR programme could be a source of inducing the investment in innovation.

FINEP must have a more agressive strategy with INOVAR program in order to make it, its main program and mix it with the others instruments: subvention and equalizaton.

It will be necessary some control over the selling of Brazilian small innovating firms which are in the private equity funds portfolio that the INOVAR program has funded, to foreign investors .This is necessary to avoid the subsidy of foreign investors which might is going buy these firms and avoid the payment, of dividends, technological licences, royalties, and all kind of intelectual property rights over a capital that had been developed by Brazilian tax allowances and fiscal resources.

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Thanks for your attention.

luizmelo@ie.ufrj.br luizmelo@fujb.ufrj.br