The Atlantic Century II: Benchmarking Asian, EU, and U.S. Innovation and Competitiveness

bridges, vol. 32, December 2011 / Feature Articles

By Stephen Ezell

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The Atlantic Century II Report, by the Information Technology and Innovation Foundation, benchmarks Asian, EU, and US Innovation and Competitiveness. Click here to download the full report.

The last decade has seen an increasing realization by economists and policy makers alike that it is not so much the accumulation of more savings or capital but rather it is innovation - the improvement of existing or the creation of entirely new products, processes, services, and business or organizational models - that drives countries' long-run economic growth and improvements in standards of living. As a result, a fierce race for global innovation advantage has emerged, as countries compete intensely to realize the highest levels of innovation-based economic growth. To advance their competitiveness in this race, many countries have implemented thoughtful and constructive national innovation policies aimed at boosting the ability of companies and organizations in their economy to become more productive and innovative. Other countries are trying to win the race by deploying innovation mercantilist practices that distort global trade by trying to redirect the location of innovation (e.g., research and development) and production (e.g., manufacturing) activity to their shores at the expense of other countries. Many countries deploy a mix of both these "good" and "ugly" innovation policies, as the Information Technology and Innovation Foundation (ITIF) explained in The Good, Bad, and Ugly of Innovation Policy article for the December 2010 issue of bridges. But in light of this increased global focus on innovation, how are nations actually faring in the race for innovation advantage? In July 2011, ITIF, in conjunction with the European-American Business Council, released a report, The Atlantic Century II: Benchmarking EU & U.S. Innovation and Competitiveness, which provides a scorecard.

The report benchmarks 40 countries and four regions on 16 key indicators of innovation competitiveness. The countries assessed include all 27 European Union (EU) nations; the North American Free Trade Area (NAFTA) countries of Canada, Mexico, and the United States; Australia, China, Indonesia, Japan, Korea, Malaysia, and Singapore from East Asia; and leading developing countries including Argentina, Brazil, Chile, India, Russia, and South Africa. The 16 indicators are grouped into six categories: human capital, innovation capacity, entrepreneurship, information technology (IT) infrastructure, economic policy factors, and economic performance. Among the indicators evaluated (using primarily 2009 data) are core innovation inputs such as levels of higher education attainment, science and technology researchers per capita, government and corporate investments in R&D, new firm creation, venture capital as a share of GDP, corporate tax rates, and deployment and use of key information technologies such as broadband Internet and e-government. However, in addition to considering just inputs to the innovation process, the report measures four indicators of innovation output, including changes in countries' levels of: per capita GDP growth, foreign direct investment (FDI), labor productivity, and trade balances. Countries receive a score for their performance on each indicator, based on the standard deviation of their data point from the mean value of each indicator. Countries' scores on each indicator are then multiplied by a weighted value for the relative importance of each of the 16 indicators to produce a normalized, comparable, overall score.
So what has the Atlantic Century II study found? It reveals that a coterie of hard-charging East Asian and Northern European countries, along with the United States, are leading the world in the race for global innovation advantage. Singapore places first, followed by Finland in second place, and Sweden in third, trailed by the United States in fourth, and Korea in fifth. Rounding out the top ten countries are the United Kingdom, Canada, Denmark, the Netherlands, and Japan. Austria places sixteenth, one spot behind Germany at fifteenth and one ahead of the Czech Republic. In terms of its performance on individual indicators, Austria ranks first overall for government R&D investment as a share of GDP, seventh in GDP per adult, eighth in labor productivity, ninth in science and technology researchers per capita, and tenth in business R&D investment. Austria's weakest performances are in new firm creation (the number of new firms per 1,000 employed workers), where it ranked thirty-eighth, followed by higher education attainment (thirty-third), levels of inbound foreign direct investment (twenty-ninth), and venture capital as a share of GDP and e-government deployment (both ranking twenty-seventh).

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In terms of regions rather than individual countries, the three NAFTA countries place highest, with an aggregate score 15 percent higher than that of the original EU-15 countries - which, as a group, place eighteenth out of the 44 countries and regions. Indeed, the report shows that the United States continues to lead Europe in innovation capacity. The overall score of the EU-15 is just 80 percent of the US score. And the score of the EU-10 countries (mainly Baltic and Eastern European nations recently joining the EU) is even lower, at just 60 percent of the US level. These findings are consonant with the European Union's own 2010 Innovation Union Scoreboard , released in February 2011, which found that "the relative US innovation performance in 2010 was 49 percent better than the EU-27 countries'." In the Atlantic Century II study, the United States leads Europe on 12 of the 16 indicators, including knowledge (higher education and number of researchers); innovation capacity (corporate and government R&D);  IT (IT investments, e-government, and broadband); overall business climate; entrepreneurship (new firms and venture capital), and productivity. The EU-15 outperforms the United States on four indicators: academic publications, a lower effective corporate tax, trade performance, and FDI inflows.

But the leading Asian nations outperform both the United States and the EU-15 countries. Singapore retains the first place position it held in ITIF's original Atlantic Century report, released in February 2009. In fact, Singapore - which has made technological innovation almost a national obsession and has put in place a robust set of policies to lead in the knowledge economy - scores 14 percent higher than the United States and 40 percent higher than the EU-15. Korea, ranking fifth, scores only 4 percent lower than the United States, and 17 percent higher than the EU-15. Like Singapore, it has also made technological innovation and economic competitiveness a national priority. And even Japan, which many economic pundits have written off as a "has-been" due to its so-called "Lost Decade " of apparent stagnating economic performance, scores at 83 percent of the US level and 7 percent ahead of the EU-15. Indeed, Japan remains a fierce innovation competitor and Japanese firms hold more than 70 percent of the world market share in 30 industries worth more than $1 billion each. Japan has actually outperformed the United States and the Euro area in per capita-income growth over the last decade. Despite its rapid growth, China ranks thirty-fourth overall in the study, weighed down by relatively low levels of per capita scientific publications, researchers, broadband quality, and e-government penetration.

Returning to Europe, the study found widespread variability between the innovation performance of European countries, with Northern and Western European countries scoring substantially higher than Southern and Eastern European countries. For example, while Finland and Sweden rank second and third, Spain, Italy, and Greece rank twenty-third, thirtieth, and thirty-seventh, respectively. Likewise, there is considerable variability in the innovation performance of individual US states. To compare this, The Atlantic Century II report also scores the 50 US states against these 44 countries and regions on seven of the 16 indicators of innovation capacity for which sufficiently comparable data exists. This analysis finds that, if they were countries, nine US states, led by Massachusetts, California, Connecticut, New Jersey, and Washington, would rank ahead of the first foreign country. In fact, if they were countries, 16 US states would rank in the top 20 of the world's most innovative countries. And even the worst-performing US state, Mississippi, would score ahead of 24 of the 44 countries assessed in the study.

While the United States' overall fourth place rank and the strong performances of its individual states might make one feel rather sanguine about US innovation performance, the news is not all good for the United States, and in reality the Atlantic Century II study finds quite disturbing trends for the country. For, in addition to assessing the current state of countries' innovation competitiveness, the report also looks backwards, assessing the rate of change in countries' innovation capacity between 2000 and 2009. In other words, it assesses the level of change in countries' performance on these 16 indicators over the past decade - and here the news is quite disconcerting for the United States. First, using year 2000 data for these same 16 indicators, the United States ranks first, by a substantial margin, over then-number two Sweden. But now it has slipped to fourth place. Yet worse, the United States ranked second-to-last, forty-third, out of the forty-four countries and regions on improving its innovation capacity over the past decade, ahead of only Italy (though this is actually slightly better than in the original 2009 Atlantic Century report, which found the United States to rank dead last in terms of improving its innovation capacity over the past decade).
In contrast, China, as in the 2009 study, ranks first in improving its innovation capacity over the preceding decade. This is testament to the aggressive set of innovation-promoting policies China has implemented in recent years, including raising its national R&D intensity (that is, annual R&D investment as a share of GDP) by 170 percent from 1995 to 2008, and launching a national intellectual property strategy. Nor is China stopping there; its China Innovation 2020 strategy, released on February 9, 2011, calls for the country to invest $1.5 trillion on seven "strategic" sectors - nuclear fusion and nuclear-waste management, stem cells and regenerative medicine, clean energy, materials science, IT, public health, and the environment - over the coming decade. The strategy further calls for China to become by 2020 an "innovation-oriented society" that has "developed indigenous innovation capabilities and leapfrogged into leading positions in new science-based industries." When this study is done again in 2020, China won't rank thirty-fourth in innovation.

But unfortunately, like the United States, many large European nations have also languished in bolstering their innovation competitiveness over the past decade, with Germany and Sweden placing thirty-eighth and thirty-ninth respectively, and the EU-15 countries scoring thirty-sixth. In contrast, Austria scores quite well, at fourteenth, in terms of improving its innovation capacity over the past decade. Austria saw the greatest improvement in increasing its levels of business R&D and government R&D (ranking seventh and eighth, respectively). However, the data show that Austria has made less progress than its peers in increasing its rates of venture capital (which actually fell as a percentage of GDP over this period, as did its rates of new firm development and corporate investment in IT). On the change scores, the Baltic and Eastern European countries also score quite well, with seven of the 12 countries demonstrating the highest rates of improvement in innovation capacity coming from those two regions.

While some might argue that these change scores largely reflect a catch-up process as countries that started from a lower base "catch up" on these measures, the reality is that several nations that had already scored quite high on these indicators in 2000 have continued to make strides in enhancing their innovation competitiveness over the past decade. Notably, Korea had the second highest change score and Singapore the eighth highest. Considering that Singapore and Korea rank number one and number five, respectively, in current innovation capacity, the message is clear: These countries are fierce innovation competitors - and are getting stronger.

In contrast, the findings for the developing nations included in this study are worrisome. On overall score, Brazil, Turkey, Mexico, South Africa, Argentina, India, and Indonesia rank at the bottom, occupying spots 38 to 44 consecutively. It would be one thing if these countries were displaying above-average rates of improvement over the past decade, but by and large they are not. South Africa ranks forty-second on change score, while Brazil, Argentina, and Mexico all score below average, placing twenty-fifth, twenty-sixth, and thirty-second, respectively. Russia lags as well, placing twenty-ninth overall and thirty-third on change score. On the bright side, India scores better, at thirteenth, on change score. Yet, again, the message is clear: Developing countries are not doing enough, not implementing enough good policies, to catch up to the world leaders in innovation.

Latin America has also made much less progress than Southeast Asia. Of the four South American countries studied, only Chile scores above average (that is, better than twenty-second) on its change score. This reflects the challenges faced by Latin American nations in general. Stuck between the rich and knowledge-intensive economies of Europe, Japan, and the United States and the rapidly modernizing Asian nations, including low-wage nations like China and India, most Latin American countries have not been able to develop and execute the policies that would enable them to get on the high-growth, innovation-based path.

Lessons from The Atlantic Century II

Countries that implement effective, well-constructed innovation stratagies are successfully able to influence and to increase their innovation capacity.

So what lessons should policy makers draw from these findings? Three in particular stand out. The first is to recognize that countries that implement effective, well-constructed innovation strategies are successfully able to influence and to increase their innovation capacity and competitiveness. Second, because of this, policy makers must understand that the countries at the frontiers of innovation shift dynamically - and have, in fact, changed considerably over the past quarter century. Certainly, two decades ago, no one would have expected countries such as Singapore or Finland to top such a list of the world's most innovative countries. But this dynamic process is exactly what professors Jeffrey Furman and Richard Hayes find in a wonderful paper called "Catching up or standing still? National innovative productivity among ‘follower' countries, 1978-1999 " which assesses changes in the national innovation capacity of 23 countries from 1978 to 1999. Starting in 1979, they classify countries as either "world-leading innovators" (such as Germany, Japan, and the United States), "middle-tier innovators" (like Austria, Britain, and France), "third-tier innovators" (like Spain and Italy), or "emerging" innovators (like Ireland and Taiwan), based on countries' patenting activity per capita (a proxy for commercialized innovations). Their analysis then correlates changes in countries' national innovation policies with their innovative productivity over the ensuing two-decade period.

The authors found that, though a gap in innovative activity remains between the world's most innovative economies and other innovator countries, it has decreased substantially. Moreover, the set of countries that generate numerous new-to-the-world innovations has expanded significantly, as a number of formerly industrializing countries dramatically increased their levels of innovative productivity. A number of these "emerging innovators" - notably Denmark, Finland, Ireland, Korea, Singapore, and Taiwan - achieved remarkable increases in innovative output per capita, moving to the world's technological frontier and overtaking the innovative capacities of many mid- and third-tier countries - notably Britain, France, and Italy - whose economic conditions started off much more favorably in the early 1980s.
These late-innovating countries accelerated their growth rates both by adopting technologies from leader countries and by leapfrogging them by developing institutions that dealt with emerging challenges more effectively than did the nations bogged down in an older economic order. Furman and Hayes conclude that innovation leadership among countries requires not only the development of innovation-enhancing policies and infrastructure (including strong intellectual property protections, openness to trade, highly competitive markets, and strong industry clusters), but also a commitment to maintaining substantial financial and human capital investments in innovation. They observe that these "once-follower" countries now lead the world in developing - and funding - integrated national innovation policies that seek to tip the global economic playing field in favor of their domestic industries and corporations. In other words, countries' innovation policies can and do have a significant impact on their standing in the race for global innovation advantage.

There are three lessons policy makers should learn so that their countries do not lose ground in the race for global innovation.

But the third lesson for policy makers to recognize is that, despite their relatively high overall scores, their lagging change scores signal that both the United States and Europe continue to lose ground in the race for global innovation advantage. CNN's Fareed Zakaria recently discussed the implications of The Atlantic Century report on his show Global Public Square : "Like a star that still looks bright in the farthest reaches of the universe but has burned out at the core, America's [innovation] reputation is stronger than the hard data warrant." The simple reality is that - unless they change course - the United States and Europe are on a downward economic path.

Policy Implications

If economic history teaches us anything, it's that regions and, indeed, entire nations can and do decline economically, at least relative to others. A century ago, one of the fastest-growing metropolitan areas in America was Buffalo, New York. As historian Mark Goldman writes: "In 1901, the year Buffalo hosted the Pan-American Exposition, the city was buoyant and rapidly expanding ... the development of heavy industry, particularly of steel, pointed to still more growth and greatness. Buffalo's growth had already been remarkable and its future seemed filled with promise." Likewise, a half century ago, Italy was one of Europe's success stories. While the UK was losing its industrial advantage in the 1950s and 1960s, Italy was gaining, enjoying the Italian economic miracle - what many in Italy called "il boom."
But greatness lapsed for both. Today, Buffalo is a shell of its former self. By the 2000s, its population was half of what it was at mid-century; its once monumental steel mills are largely shuttered. Likewise, Italian economic vitality seems like a long-ago dream, so much so that "a fairly large amount of Italy's economic literature has recently focused on the country's stagnation." As Marco Annunziata, the chief economic analyst at Unicredit, states: "The country has stagnated for at least the last ten years. We have an enormous public debt with no room for maneuvering in the budget. We have low productivity, and growth probably the lowest in Europe. And because of global competition, the system is only going to get worse." The story is no better in Greece or Spain.

In contrast, other parts of America and Europe have been able to transform, restructure, and thrive. Take Boston, for example. After WWII, many of its textile and shoe firms fled the region for cheaper labor in the South. Boston looked like it was on the same path to decline as Buffalo, but it subsequently reinvented its economy and today boasts a diverse innovation-based economy with thriving biotechnology, IT, and financial services sectors. As noted, if Massachusetts were a country, it would be the most innovative in the world. In Europe, Finland was likewise able to transform itself. When the Soviet Union broke up in 1991, the collapse sent Finland, its largest trading partner, into an economic tailspin. GDP plummeted 9 percent, unemployment rocketed to 20 percent, and exports fell by 13 percent (by comparison, in the most recent recession, the US GDP shrank by 2.6 percent and unemployment peaked at 10 percent). In response, Finland made a massive bet on competitiveness, innovation, and productivity, while at the same time cutting spending that did not contribute to that goal. The Finnish government significantly expanded its support for technological innovation through direct funding and innovation-based tax incentives and slashed its corporate income tax rate from 33 percent to 19 percent. Those bets paid off, and today Finland is an innovation leader.

These examples show that some places have been able to rebound from competitiveness challenges and transform themselves. But others have not. The key question, therefore, is whether over the course of the next decade or two the United States and Europe will be like Buffalo and Italy, or like Boston and Finland, rising again through innovation and economic transformation.

"Cheating" is now a core part of many nations' game plan in the new global competition.

The answer is not preordained or dependent on serendipity. Success will be the result of hard work and bold policy choices. And the work gets harder as global competition intensifies, for the struggle for innovation advantage is being fought with all the tools at nations' disposal. Nations around the world are establishing national innovation strategies, restructuring their tax and regulatory systems to become more competitive, expanding support for science and technology, improving their education systems, spurring investments in broadband and other IT areas, and taking a myriad of other pro-innovation steps. And unlike the old competition between US states, where all states generally played by certain national rules, "cheating" is a core part of many nations' game plan in the new global competition. Indeed, "innovation mercantilism" - whether stealing intellectual property, discriminating against foreign firms, or manipulating currency - is at the center of many nations' strategies, not just China's.

So where does that leave the United States and Europe? Taking a page from the Boston and Finnish playbooks, the path forward is actually quite clear. Becoming "Boston" or "Finland" means moving aggressively into next-generation industries, including advanced IT, robotics, nanotechnology, biotechnology, and high-level business services, while at the same time maintaining output in highly efficient and competitive traditional industries, and continually raising productivity in local non-traded sectors such as retail and health care, particularly through the widespread application of IT. Becoming Buffalo or Italy implies losing out in the competition for new, globally traded industries, continuing to lose output in existing manufacturing industries, and accepting slow productivity growth in non-traded sectors.

There are two key steps that Europe and the United States must take to increase the chances of a "Boston" or "Finland" outcome. First, they need to join together in a robust free trade alliance - in part to increase commercial linkages, but also to put real pressure on innovation mercantilists, particularly in Asia.

While global trade and investment have expanded dramatically over the last two decades, tariff barriers have come down, and the new institutions created by the Uruguay Round have contributed significantly to global economic governance. At a practical level, many US and European competitors responded by increasing, not reducing, an array of non-tariff barriers (NTBs) as part of concerted mercantilist strategies. Mercantilism refers to a systematic approach on the part of certain nations to manipulate globalization and trade to their unilateral advantage, often by using practices such as currency and standards manipulation, intellectual property theft, extensive erection of NTBs, abuse of antitrust, regulatory, and competition policies, or many others that violate the letter or the spirit of the World Trade Organization (WTO), in an effort to unfairly grow high-wage, innovation-based jobs and industries.

Unless the practice of innovation mercantilism is significantly constrained, the result will be continued loss of US and European competitiveness. Unfortunately, the members of the WTO have demonstrated that they are unwilling and/or incapable of addressing these corrosive practices. Moreover, too many policy makers and pundits in Europe largely turn a blind eye to innovation mercantilism, particularly from China, in part because they mistakenly believe that the United States, and not Europe, will suffer most from it. Once the US loses its innovation leadership, this line of thinking goes, Europe gets to be the "top innovation dog." Unfortunately, the blunt reality is that innovation mercantilism hurts both the United States and Europe, and unless they band together to take a much tougher stance against it, both will continue lose innovation-based competitiveness.
Thus, the United States and Europe must engage in a strategic partnership to push back against innovation mercantilism. A key step should be the establishment of a Trans-Atlantic Partnership, modeled after the Trans-Pacific Partnership. While Europe and the United States certainly engage in occasional disputes over trade, by and large they both respect intellectual property rights, the rule of law, the primacy of markets in setting currency prices, the primacy of private investors in determining the location and nature of their investments, and other free trade practices. Over 60 years ago when the first General Agreement on Tariffs and Trade (GATT) was signed, most of the 23 original signatories were either European or Commonwealth nations that more or less played by these kinds of rules. But as the GATT expanded and evolved into the WTO, it encompassed a wider range of nations, including many who design their trade policies not to maximize allocative efficiency from trade (e.g., to trade wine for textiles, in the Ricardian sense) but to drive exports and to favor domestic firms. As a result, the United States and Europe need once again to take the lead in designing a new gold-standard trade agreement, but this time for the Ricardians, not for the mercantilists.

While pushing back against innovation mercantilism will be an important step, it will not be enough. Europe and the United States also need to ensure that their domestic policies do a much better job of supporting innovation, productivity, and competitiveness. Becoming Boston or Finland means putting in place an aggressive national innovation-based economic strategy, which includes both increased government investment in innovation and lower taxes on corporate investment in innovation.

Joseph Schumpeter, above, coined the term "creative destruction.”

But each region has special challenges. For Europe, the challenge is to fully embrace innovation. As much as European leaders proclaim their support for innovation, many have a decidedly schizophrenic view of it. When they refer to innovation, they usually mean science- and technology-based jobs, not innovation. For innovation is the constant transformation of an economy and its institutions - and if there is one thing Europe does not want it is constant transformation, because it threatens to disrupt the social stability the continent so values. Thus, even though noted economist Joseph Schumpeter (who coined the term "creative destruction") was a European (Austrian, no less!), Europeans as a whole are not Schumpeterians. Instead, they want the benefits of a knowledge-based technology economy, but without the creative destruction that not only accompanies it but is necessary to achieve it.

For example, a fascinating 2004 OECD report prepared by Eric Bartelsman found that the "rates of innovation" of US and EU enterprises are actually the same. However, Bartelsman found that the United States did a much better job than Europe of more quickly allocating capital and labor to the most promising innovative concepts and start-up businesses. So the United States was spawning more "winners," even though the underlying rates of innovation were analogous. This points to the weaknesses many European countries face with regard to bureaucratic regulatory environments that impede capital and labor movement and place unnecessary burdens on firm creation and dissolution. Moreover, with a regulatory system that embraces the precautionary principle - which holds that if an action or policy has a suspected risk of causing harm to the public or to the environment, in the absence of scientific consensus that the action or policy is harmful, the burden of proof that it is not harmful falls on those taking the action - European regulatory approaches more often appear to inhibit rather than to facilitate innovation.

Some in Europe grasp this, but they are fighting an uphill battle to convince fellow Europeans. As Paul Giacobbi, a member of the French Assembly, states: "The idea that nothing will change, no factory will ever close, and restructuring will not be a permanent feature is contrary to everything that the direction of the world tells us every day." Unless Europe can accept that innovation entails plant closures and job losses, new technologies with uncertain social or environmental impacts, and new kinds of business models and organizations that may challenge traditional assumptions about matters like privacy, it is unlikely that Europe will be able to keep up in the race for global innovation advantage.

America's challenge is different. While America, too, suffers from many advocates who would like to slow innovation, its major challenge is not timidity but torpidity. Far too many in America believe that the United States has been number one for so long it will continue to be number one, regardless of whether it acts decisively. Given this situation, the thinking goes, there is no real need for the United States to develop and implement a national innovation-based competitiveness strategy. After all, the United States didn't have a strategy before and it did just fine.
Moreover, skeptics would argue that, to the extent that there is any strategy in the United States, it should be to ensure that market forces are allowed to work (e.g., support free trade, restrict market power, and deregulate market entry). This ties into America's other big challenge: overthrowing the stale straitjacket of neoclassical economics, which holds that countries don't compete, that innovation is manna from heaven, and that government action to spur innovation only makes things worse. Instead, the US needs to embrace a new "innovation economics" that places advancing innovation at the forefront of economic policy.

Even the most market-oriented state governors know that, while effective markets may be key engines of growth, without proactive economic development policies, the prosperity produced by markets may not necessarily accrue within the borders of their state. Indeed, governors see their states as being in intense competition for internationally mobile talent, technology, and investment. That's why all 50 US states have proactive economic development strategies. In contrast, because too few Washington policy makers and economists have grasped this new fundamental competitive reality, similar efforts at the federal level are viewed as inappropriate intervention into the workings of the market. It's time for US federal policy makers to realize that the US economy now competes with other nations around the world and, like states after WWII, the federal government needs to institute robust national economic development policies.

So the answer as to whether the twenty-first century will remain the Atlantic Century remains to be seen. But we can be sure of two things: First, the race for global innovation advantage will only continue to intensify, with rapid and dynamic shifts among nations in terms of innovation position. Second, it will not be another "Atlantic Century" if Europe and America continue to follow the policy path they are on now.


Stephen Ezell (sezell [at] itif . org) is a senior analyst at the Information Technology & Innovation Foundation (ITIF), in Washington, DC. ITIF, in collaboration with the European-American Business Council, published the report, The Atlantic Century II: Benchmarking EU & U.S. Innovation and Competitiveness, in July 2011.