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Growth and Welfare Implications of Sector-Specific Innovations

Ilhan Guner

Review of Economic Dynamics, 2023, vol. 47, 204-245

Abstract: I examine the optimal government subsidy of R&D activities when sectors are heterogeneous. To this end, I build an endogenous growth model where R&D drives macroeconomic growth and firm dynamics in two sectors with different characteristics: a consumption-goods sector and an investment-goods sector. I highlight how various externalities in the innovation process affect the allocation of innovative resources across industries. I calibrate the model to U.S. data and study the quantitative properties of the model. By explicitly examining the transition path after the change in subsidy, I highlight the tradeoff between the short-run level of consumption and long-run growth. I find that the optimal combination of the subsidy rates, as a fraction of firm R&D expenditures, is 84 percent in consumption sector and 88 percent in investment sector. By moving from the baseline subsidy rates (10 percent in both sectors), society can achieve a 20 percent welfare gain in consumption equivalent terms. The annual GDP growth rate increases from 1.5 percent to 3.2 percent by this change in subsidy. Finally, I show that it is always optimal to subsidize R&D spending in investment sector at a higher rate than that in the consumption sector when the government's subsidy budget is limited. (Copyright: Elsevier)

Keywords: Endogenous growth; Innovation; Research and development; Investment specific technological change (search for similar items in EconPapers)
JEL-codes: L16 O31 O38 O41 (search for similar items in EconPapers)
Date: 2023
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https://dx.doi.org/10.1016/j.red.2021.11.005
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DOI: 10.1016/j.red.2021.11.005

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