Transforming China into an innovation-driven economy has been one of the top priorities of the Chinese Government.This paper examines the policy choices involved in the extended national innovation performance framework for creating an open innovation system.Innovation capabilities,incentives and institutional frameworks are examined.The paper argues that China should continue to increase its investment in R&D and in education,and that there should also be an attempt to strengthen the incentive system at the macro,meso and micro levels.This strengthening may include reforms to:release the power of competition and guide resources towards innovative sectors;adopt appropriate human resource management,such as appraisal and remuneration systems;create effective policies for research funding management;and evaluate the efficiency of research to encourage the creativity of researchers,managers and employees.The paper also discusses the space for industrial policy in the 21 st century. Transforming China into an innovation-driven economy has been one of the top priorities of the Chinese Government. This paper examines the policy choices involved in the extended national innovation performance framework for creating an open innovation system. Innovation capabilities, incentives and institutional frameworks That paper argues that China should continue to increase its investment in R & D and in education, and that there should also be an attempt to strengthen the incentive system at the macro, meso and micro levels. This strengthening may include reforms to: release the power of competition and guide resources towards innovative sectors; adopt appropriate human resource management, such as appraisal and remuneration systems; create effective policies for research funding management; and evaluate the efficiency of research to encourage the creativity of researchers, managers and employees. The paper also discusses the space for industrial policy in the 21st st century.