Financial Risks and Research Contracts in a Model of Endogenous Growth

Colin Davis and Laixun Zhao

No DP2010-08, Discussion Paper Series from Research Institute for Economics & Business Administration, Kobe University

Abstract: This paper examines researchers' choices between either collaborating with venture capitalists (Regime C) or going independently (Regime I), and how their interaction affects long-run endogenous growth, in an economy characterized by incomplete contracts and financial market imperfections. Both research and production require labor and physical capital. We find that an improvement in financial regulation leads to a higher rate of innovation under Regime I. In contrast, an improvement in R&D incentives for researchers in Regime C can coincide with either an increase or a decrease in the long-run rate of innovation, due to the holdup problem in post bargaining over created value. We also rank the growth rates in the two regimes under different contractual and financial environments. Finally, we find that conflicts can arise when entrepreneurs choose one regime based on investment incentives but the other regime provides a higher growth rate.

Keywords: Firm-asymmetry; Endogenous Growth, R&D, Incomplete Contracts, Financial Imperfection (search for similar items in EconPapers)
JEL-codes: O16 (search for similar items in EconPapers)
Date: 2010-03
New Economics Papers: this item is included in nep-ino
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