Capital, Ideas, and the Costs of Financial Frictions

Pablo Ottonello and Thomas Winberry

No 32056, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: We study the role of financial frictions in determining the allocation of investment and innovation among established U.S. firms. Empirically, we find that firms are investment-intensive when they have low net worth but become innovation-intensive as they accumulate net worth. To interpret these findings, we develop an endogenous growth model with heterogeneous firms and financial frictions. In our model, firms are investment-intensive when they have low net worth because they face a steep return schedule for capital. Financial frictions determine how quickly firms can accumulate capital, reduce its return, and shift toward innovation. This reduction in innovation generates large losses in aggregate productivity, even though the losses from capital misallocation are comparatively small. Hence, the main aggregate cost of financial frictions is that fewer new ideas are discovered, not that existing ideas go underfunded.

JEL-codes: E22 E23 G3 O30 O4 (search for similar items in EconPapers)
Date: 2024-01
New Economics Papers: this item is included in nep-cfn, nep-fdg, nep-mac and nep-sbm
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