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When writing, at the Groping towards Bethlehem blog, about how to make government more innovative Bill Kaye-Blake says that private business has a pretty clear goal - make money - and this forces them to be innovative. But he says,
Government, on the other hand, doesn’t necessarily have clear goals. It’s a bit about keeping people happy, keeping things ticking over, improving the living standards of some people while not harming others too much, responding to pressures from all sides. The goals are fuzzy and changing. The bureaucracy compensates by creating clear processes. When things go wrong, bureaucracies often defend their actions by saying, ‘we followed the correct procedures.’

The push for innovation puts government in a new quadrant. Now, bureaucrats are asked to challenge their own processes, to think continuously about how they can do better. The goals are still fuzzy — that’s the nature of governing — but now the process is, too. This quadrant creates a quandary: how are they to know what ‘better’ is?
We may be able to get a handle on how to make government more innovative by asking what could seem an odd question in this context: Which goods or services the government should provide? This question has addressed in a paper by Oliver D. Hart, Andrei Shleifer and Robert W. Vishny, 'The Proper Scope of Government: Theory and an Application to Prisons'. "Quarterly Journal of Economics", 112(4) November 1997: 1127-61.

Why the scope of government question may help us with the innovative question is the answer that HSV come up with when they examined the conditions which determine the relative efficiency of in-house provision versus outside contracting of government services. Their arguments suggest that the case for in-house provision is generally stronger when noncontractible cost reductions have large deleterious effects on quality, when quality innovations are unimportant, and when corruption in government procurement is a severe problem. In contrast, the case for privatisation is stronger when quality reducing cost reductions can be controlled through contract or competition, when quality innovations are important, and when patronage and powerful unions are a severe problem inside the government.

The bits in bold can help us think about the question of how to make government more innovative, let the private sector do it!

The incentives faced by the public sector just aren't those you want if you want innovation. The private sector lives or dies by how well they innovate. How well they improve the goods and services they provide to customers. How well they can reduce costs while improving quality. It is the high-powered incentives of the market, a bottom line that matters, that drives innovation. Governments use softer incentives because they have different aims, they have goals which are "fuzzy and changing", for which lower-powered incentives are appropriate. But this does mean that government, because of its very nature, is unlikely to be hugely innovative.