Letter IEDI n. 1227—State Procurement as an Instrument to Promote Innovation
In Brazil, total government purchases, including acquisitions made by state-owned companies, correspond to about 10% of national GDP. As the economy's main buyer, the state can use its purchasing power to stimulate private sector innovation activities and solve significant social challenges.
The role of public procurement in industrial strategies has been reinforced in contemporary international experiences, with research, development and innovation as one of the main policy axes. This is shown by global surveys, such as those summarized in Letters IEDI n. 823 “Industry 4.0: National policies and strategies under the new productive revolution” and n. 1159 “OECD Recommendations for Industrial Strategies”.
The IEDI has been addressing this topic from Brazil's perspective for some time, as in the case of Letter n. 1121 “Public Procurement of Innovation in Brazil: IDB's recommendations”. In today's edition, we resume this discussion using as a basis a recently-published study by IPEA researcher André Rauen entitled “Strengthening Brazil's innovation policy through public procurement”.
The main objective of the work is to identify and systematize all existing public procurement instruments for innovation (PPI) in Brazil and characterize them according to the economic and legal logic behind them.
The essence of PPI is to leverage public demand for existing or to-be-developed solutions, in order to establish a market of innovative suppliers that, through a contract, become partners of the State. This has resulted, as the author points out, in a new application of PPI in many countries: mission-oriented innovation policies.
According to the author, public procurement can ensure a stable and robust demand for private supply, promoting numerous socioeconomic objectives, including innovation. Potential government procurement objects include: i) common goods or services; ii) complex goods or services requiring system interaction; iii) goods or services new to the government; iv) R&D, prototyping or scaling services; and v) embedded technology.
Through PPI, the public sector can meet its needs at a lower cost while promoting and stimulating private innovation. The government strategically uses its demand to establish consumer markets for specific innovations and technologies, effectively driving innovation.
According to the study, since the approval of the Innovation Law (Law No. 10.973) in Dec'04, the Brazilian State has undergone a deep institutional learning in formal public support for innovation. This process culminated, in the recent period, in a series of modifications to the original Innovation Law (Law No. 13.243/2016 and Decree No. 9.283/2018) and the establishment of new legal regulations, with the New Law of Bidding and Contracts—NLBC (Law No. 14.133/2021) and the new Legal Framework for Startups (Complementary Law No. 182/2021), as well as other rules.
These legal changes have resulted in substantial advances in the PPI and bidding processes. For example, greater tolerance for government risk-taking, abolition of penalties for failure due to technological uncertainty, greater process flexibility, introduction of new tools, and ability to negotiate Intellectual Property Rights (IPR) when innovation is involved.
However, according to the author of the IPEA study, the full and successful use of the new legal possibilities will require a significant effort from the Brazilian government to train and qualify public servants.
This new legal framework enabled new uses for traditional government purchasing instruments as well as the creation of new PPI instruments, while allowing the proper treatment of uncertainty and risk inherent in the innovation process.
As a result, Brazil currently has ten public procurement instruments that can be used to foster private innovation. Among these, three are not innovation-specific, whereas the remaining seven are.
Among the traditional public procurement instruments that have gained possible new uses, the following stand out:
• Hybrid Electronic Auction, which includes sealed and open bids. Although this tool presents a certain rigidity, given its logic in terms of the acquisition of homogeneous goods at the lowest cost, the author considers that it can be included in an innovation strategy, especially if it is used with the objective of stimulating the diffusion of innovations.
• More flexible evaluation criteria, based on the Best Price-Quality Ratio, can foster incremental innovations in the Brazilian economy. This instrument allows the integration of traditional pricing criteria with sophisticated technological performance criteria, enabling the selection of innovative suppliers.
• Expression of Interest Procedure: although not a procurement instrument per se but an administrative tool that assists in public procurement processes and reduces information asymmetries between buyers and suppliers, it can serve in PPI strategies as a mechanism for the private sector to introduce innovations that were previously unknown to the government.
With regard to the seven legal instruments directly associated with public procurement for innovation, the author points out that three of them are already well established:
• Margin of Preference, an instrument created in 2010 and reintroduced in 2021, which gives preference to products or services manufactured or assembled in Brazil, even if they are up to 20% more expensive than those imported, provided that they are linked to national R&D or innovation projects;
• Technological Offset in Defense, a tool used in international public purchases of defense-related products and services in which the contracting entity may request various forms of compensation, including the transfer of incorporated technology;
• Partnerships for Productive Development (PPDs) in the Health Industry, a federal strategy that aims to reduce the trade deficit in the pharmaceutical sector caused by the lack of national suppliers for the Unified Health System (SUS). Like the Technological Offset in Defense, PPDs support the development of endogenous technology through technology transfer in exchange for an exclusive multi-year supply contract for strategic drugs at a reduced cost.
The other four existing instruments, however, are new and therefore less usual:
• Pre-Commercial Procurement (PCP) stands out as the most disruptive among the seven specific PPI instruments, by allowing direct R&D contracting, dispensing with the traditional bidding process. This instrument is suitable for purchases involving technological uncertainty and projects with lower technological maturity. In addition, the PCP includes a call option that can be exercised, without the need for a new selection process, when R&D efforts are successful, resulting in production on a commercial scale (TRL 9).
• Public Contract for Innovative Solutions is a new instrument designed to facilitate collaborations between startups (Govtechs) and the government, although it is not exclusively restricted to this type of company. This unique bidding modality was established in the Startups Bill (Complementary Law No. 182/21) and its main objective is to reduce the asymmetry of information between the buyer and potential suppliers through real tests.
• Innovation Awards are an instrument widely used as ex-ante inducement strategies in major developed economies. Its use in Brazil, allowing negotiations on intellectual property rights, has become possible after the recent changes in the legal system with the NLBC.
• Competitive Dialogue (CD), which is a novelty in the Brazilian legal system, represents a specific type of bidding process used in situations in which the most appropriate innovative solutions to solve a complex problem are unknown. The main utility of CD lies in promoting the introduction and diffusion of innovations, rather than their development.
In summary, the IPEA study argues that Brazil currently has a powerful and diversified set of innovation policy instruments, equivalent to those existing in the United States or in European countries.
This set covers demand-side and supply-side mechanisms, which provide support from early-stage technology development with low levels of technological maturity to market diffusion of incremental innovations.
André Rauen emphasizes that when demand-side instruments are combined with supply-side instruments, the policy mix to support innovation becomes even more robust.