Table of Contents
Summary
The Chancellor has rightly identified that low investment is a major weakness of Britain’s economy, and there is broad consensus that R&D is key to long-run economic growth. Government investment in R&D has a significant social rate of return and “crowds-in” additional private R&D investment.
Currently, the UK government primarily supports business R&D through “push” mechanisms like tax credits and grants, which provide direct support to businesses to fund their R&D activities.
“Pull” mechanisms, such as “innovation inducement prizes” and “advance market commitments” are rarely used. These mechanisms increase incentives for R&D by rewarding companies if they successfully develop key technologies. Under certain conditions, “pull” mechanisms can be preferable to “push” mechanisms, offering key advantages by:
Reducing fraud risk and shifting the risk of R&D failure onto private firms instead of the taxpayer, since payments are made only once a product meets a “target product profile”.
More precisely directing R&D towards social priorities, crowding-in greater private investment into these areas.
Accelerating market adoption of the products of R&D, by involving end-users in mechanism design.
In the case of “advance market commitments”, stimulating private investment in production and manufacturing to reduce prices and promote equitable access to technologies once they exist.
Innovate UK has committed to trialling advance market commitments and has commissioned a review of innovation inducement prizes. The Department of Science, Innovation and Technology (DSIT) already runs an innovation prize. However, Innovate UK lacks a clear mandate to trial new funding mechanisms, which limits the use of pull mechanisms in practice.
Promised ten-year funding cycles for R&D bodies will facilitate the use of pull mechanisms over extended periods and enhance their viability.
Adopting innovation inducement prizes and advance market commitments could crowd-in more private R&D investment, shape markets towards solving critical societal challenges, and fast-track technology adoption—thereby driving productivity growth. To enable this shift:
The Minister for Science, Research and Innovation should issue a “policy statement” reforming Innovate UK’s mandate, explicitly directing it to trial and evaluate new R&D funding mechanisms, including innovation inducement prizes and advance market commitments.
If the Chancellor reduces R&D tax credits in the Autumn Statement, savings should be allocated to Innovate UK and used to fund pull mechanisms to support private sector innovation.
The Challenge & Opportunity
Achieving the highest growth in the G7 is a central mission of the new government. To meet this goal, the Chancellor of the Exchequer has pinpointed chronically low investment as a critical weakness in Britain’s economy—one that continues to hold back growth. The Institute for Fiscal Studies (IFS) has further underscored the need for significantly increased R&D investment as a cornerstone for driving long-term economic expansion.
Economist John Van Reenen estimates that the social return on R&D is roughly four times higher than the private return due to the “technology spillovers” that benefit other firms and industries. Private companies therefore have limited incentives to invest in R&D, as they cannot capture the full value their innovations generate for society. This leads to underinvestment in R&D, particularly for areas where the benefits to wider society are the largest. The IFS argues that government intervention is necessary to elevate R&D investment to an optimal level, where both the economy and society can reap maximum benefits.
The effectiveness of government support for R&D can vary based on several key factors, including:
The ability of public R&D investment to crowd-in additional private R&D investment.
The extent to which the risk of R&D failure is borne by private firms versus the taxpayer.
How effectively private R&D investment can be directed towards addressing pressing societal challenges, to maximise social value.
The pace at which innovations resulting from R&D are adopted in the marketplace, translating into productivity growth.
The UK government currently supports business R&D primarily through two "push" mechanisms: R&D tax credits administered by HMRC and grants issued by Innovate UK. These approaches are valuable and necessary but have limitations, and may not be the best solution for every challenge.
Push Mechanisms such as tax credits and grants are designed to directly increase the supply of R&D by subsidising research activities. However, they can fall short in several ways:
R&D tax credits, for instance, do not necessarily direct private investment towards projects of the highest social value. Companies may focus on incremental improvements rather than transformative innovations that solve critical societal challenges.
R&D is inherently risky. When push mechanisms fund projects that fail, it is the taxpayer who ultimately bears the cost. The government lacks the necessary information about firms to determine the likelihood of successful R&D, and firms have incentives to accept grants even when they think the projects are likely to fail.
In some cases, grants may not crowd-in as much private investment as other R&D policy instruments, limiting the scale of innovation.
Pull Mechanisms such as innovation inducement prizes and advance market commitments (AMCs) can be more effective in specific contexts. Innovation inducement prizes are financial incentives offered to organisations as a reward for solving a pre-defined technological challenge. AMCs are agreements for funders to subsidise the purchase of a certain quantity of a product at a certain price once it is developed, to incentivise R&D and manufacturing.
Pull mechanisms offer several advantages:
They can shape markets, directing R&D towards socially beneficial outcomes.
Since payments are only made when a solution is successfully developed, the financial risk is shifted to private firms rather than the taxpayer. This incentivises firms to work on projects which they believe are more likely to be successful.
By involving end-users and customers early in the process, pull mechanisms can accelerate the uptake of new innovations in the market.
Pull mechanisms could stimulate greater private investment in both R&D and manufacturing, driving faster growth.
The new government’s commitment to ten-year funding cycles for UK Research and Innovation (UKRI) presents a major opportunity to reshape the landscape of R&D funding. This shift will allow bodies under UKRI, including Innovate UK, to adopt longer-term funding strategies. Importantly, it opens the door to expanding the use of "pull" mechanisms—such as innovation inducement prizes and AMCs—which can remain active over multiple years.
Pull mechanisms offer a distinct way of crowding-in private R&D investment compared to traditional "push" mechanisms like tax credits or grants. Push mechanisms primarily reduce risk to firms, encouraging them to invest in R&D. In contrast, pull mechanisms work by increasing the rewards to successfully developing a new technology and, in the case of AMCs, reducing demand uncertainty. This makes them highly effective at crowding-in private investment.
Pull mechanisms also offer greater precision in directing private R&D investment towards solving societal challenges. Through the use of "target product profiles"—predefined specifications that products must meet—pull mechanisms can ensure that funding is only awarded to firms once they meet these criteria. This precision minimises the risk of fraud and ensures that the risk of R&D failure falls on private firms, not taxpayers. Furthermore, by involving potential customers and end-users in developing these target profiles, pull mechanisms can accelerate the market adoption of innovations.
Empirical data demonstrates that pull mechanisms, particularly innovation inducement prizes, effectively attract new private R&D investment rather than merely reallocating existing funds. The UK government estimates that for every £1 of direct public R&D spending (largely via push mechanisms), between £1.96 and £2.34 of private R&D investment is generated in the long run. By contrast, a DARPA-led innovation inducement prize in the USA generated an astounding £50 of additional private R&D investment for every £1 of public funding.
While the scale of this effect may vary, careful design of innovation inducement prizes can maximise the return on public investment. Additionally, these prizes often foster interdisciplinary collaboration, an effect that can persist long after the prize is awarded, creating lasting innovation ecosystems.
The government has already taken initial steps to explore the use of innovation prizes. In 2023, Innovate UK commissioned the Innovation Caucus—a UKRI-funded group leveraging social sciences to strengthen the innovation ecosystem—to review the potential of innovation inducement prizes. DSIT has now launched the Manchester Prize, a £1 million award for socially beneficial applications of AI.
AMCs, while also driving innovation, have the added benefit of encouraging production scale-up and stimulating private investment in manufacturing. In 2009, the UK launched an AMC for a pneumococcal vaccine in partnership with four other countries. Subsequently, not only were three vaccine candidates approved, but they were also rolled out substantially faster than comparable vaccines developed without an AMC. Innovate UK has already committed to trialling AMCs as part of a programme to incentivise low-carbon concrete development, running from late 2023 to mid-2025.
However, despite these promising developments, Innovate UK lacks an explicit mandate to innovate with funding mechanisms on a larger scale. This gap in its mandate limits the frequency and scope of new funding approaches, which means that in practice, innovation with funding mechanisms is rare.
The promised long-term funding cycles provide a unique chance to expand the use of pull mechanisms which could remain active across multiple years, dramatically increasing private R&D investment and accelerating solutions to key societal challenges. To realise this potential, Innovate UK needs an explicit mandate to innovate with funding mechanisms like innovation inducement prizes and AMCs.
Plan of Action
To fully unlock the potential of new R&D funding mechanisms, the following steps should be taken:
The Minister for Science, Research and Innovation should issue a formal policy statement reforming Innovate UK’s mandate. This directive should explicitly require Innovate UK to trial and evaluate new R&D funding mechanisms, including innovation inducement prizes and advance market commitments. Innovate UK should work closely with the Innovation Caucus research group, building on their work reviewing innovation prizes for Innovate UK.
If the Chancellor reduces R&D tax credits in the upcoming Autumn Statement, a portion of the savings should be reinvested into Innovate UK. These funds should be specifically earmarked for the implementation of innovation inducement prizes and advance market commitments. By redirecting these resources, the government can continue to support R&D in the private sector while enhancing the effectiveness of public investment.
FAQs
How much private R&D investment will prizes and advance market commitments crowd-in?
The amount of private R&D investment crowded-in depends on the specific design of the prize or AMC. Optimal outcomes can be achieved through careful design, industry engagement, and a focus on areas with the most severe market failures.
UK government estimates indicate that, on average, £1 of public R&D spending (primarily in the form of grants) generates between £1.96 and £2.34 of additional private R&D investment over time. Innovation inducement prizes have demonstrated much higher returns, with case studies showing far greater crowding-in effects. Estimates for AMCs are still emerging but are expected to show significant results as well.
Table 1: Estimated sizes of “crowding-in” effects for a sample of innovation inducement prizes
How do pull mechanisms reduce fraud risk?
Pull mechanisms minimise the risk of fraud by only disbursing funds once a product meets specific criteria—known as a “target product profile”—set by the funder. No payments are made unless the product satisfies these predefined standards, which ensures that taxpayers’ money is spent only on successful, high-quality innovations and greatly reduces the risk of fraud or misuse.
Have other countries done something similar?
Yes, several countries are already adopting pull mechanisms. In July 2024, the Biden Administration in the USA announced plans to implement a pull mechanism, potentially through an AMC, to support the development and scale-up of clean hydrogen. The USA also passed the America COMPETES Act in 2010, under the Obama Administration, which empowered every government department to run its own innovation inducement prizes.
The UK, with four other countries, launched an AMC for a pneumococcal vaccine in 2009. Three vaccines have since been developed, approved, and purchased through the AMC.
Additionally, the European Innovation Council has piloted EIC Horizon Prizes in areas such as electric vehicle batteries, epidemic early warning systems, low-cost satellite launches, and artificial photosynthesis.
How would Innovate UK implement advance market commitments?
Funding for AMCs can be thought of as innovation funding coupled to a portion of procurement funding. Innovate UK’s budget is intended to act as innovation funding only, and is not of the scale necessary to provide procurement funding.
Instead of directly funding AMCs, Innovate UK should primarily play a leadership, operational and convening role. Innovate UK should identify AMC opportunities with the greatest potential social benefits, work with stakeholders to develop the “target product profile” which R&D products would have to meet, and obtain funding commitments from businesses, government departments and public sector bodies (eg - NHS, GB Energy, UK Atomic Energy Authority, UK Health Security Agency, Network Rail, Highways England, and Homes England). These commitments would enable the government to work in partnership with the private sector to establish a powerful incentive for investment in R&D and manufacturing.
This would be similar to the role played by Stripe Climate in the development of the Frontier AMC for carbon removal, with funding commitments from a number of businesses other than Stripe, including Alphabet, Shopify, McKinsey, Autodesk, H&M, JPMorganChase, Workday and Salesforce.
What problems are pull mechanisms better suited to?
While our understanding of pull mechanisms is still evolving, there are clear guidelines based on economic theory and practice. Collaboration between Innovate UK and the Innovation Caucus could lead to more precise, data-driven guidance.
Push mechanisms (grants, tax credits) are generally better for:
Basic research in academia with uncertain short-term applications (because basic research has, by definition, unclear direction).
Situations where the ideal R&D performer can be easily identified.
Scenarios where the desired end product is still unknown.
Pull mechanisms (innovation inducement prizes, AMCs) are more effective for:
Situations where the nature of the desired product is known, but the path to its development is uncertain.
Problem for which the best placed actor to perform the R&D is uncertain.
Problems where we need “many shots on goal”, where it is beneficial for many actors to look for innovative solutions.
When are innovation inducement prizes and AMCs most effective?
Innovation inducement prizes are best suited to R&D problems where:
Demand uncertainty for the final product is low.
Technical risk in development is relatively high.
Large scale production is not important, or where the product can be easily copied by other producers once developed.
The “target product profile” is easy to define, such that an additional “market test” after development is not necessary.
Up-front R&D costs are manageable, making it feasible for small start-ups to compete.
Examples of innovation inducement prizes include the DARPA Autonomous Vehicles Challenge, NASA’s Centennial Challenge program, and the longitude rewards – prizes offered by the British Parliament early in the 18th century for methods to accurately determine longitude at sea.
AMCs are better suited to R&D problems where:
Demand uncertainty for the final product is high.
The price of the final product will significantly influence its adoption.
Large-scale production and manufacturing are important, as the desired product will require scaling up.
The Pneumococcal AMC for the development of a vaccine was launched by the UK with four other countries in 2009. Three vaccines have since been developed, approved, and purchased through the AMC. Other examples include the Covax AMC for Covid vaccines, and the Frontier AMC for carbon removal technologies.
What are some specific innovation inducement prizes and AMCs which DSIT and Innovate UK should consider?
The Market Shaping Accelerator at the University of Chicago has identified areas with severe market failures where pull mechanisms could crowd-in significant private R&D investment. Potential areas for innovation inducement prizes and AMCs include:
Green cement
Green steel
Carbon removal
Diagnostics for antimicrobial resistance
Drug repurposing for generic drugs
Indoor air quality
Wastewater monitoring of viruses
Broad-spectrum antivirals for pandemic preparedness
Sanjush Dalmia is the Science Policy Lead at UK Day One. Previously, he was a Policy Advisor to the Shadow Minister for Science, Research and Innovation. He holds a Master of Research in Medicine degree and is in the process of completing his medical training.
Arthur Baker is a Director at the Development Innovation Lab at the University of Chicago, and Chief of Staff for Professor Michael Kremer. He is a member of the Accelerating Health Technologies group, which published research and advised policymakers on Market Shaping for COVID-19 vaccines.
Andrew Graves
Andrew Graves is a Director at Ortus Economic Research, a firm providing analysis, research and consultancy advice to economic development and policy clients. With over 30 years’ experience, he has particular interest in innovation, cluster development and local inclusive growth. He co-authored the Innovation Caucus’s “Review of Innovation Prizes”, commissioned by Innovate UK.