Demand Drops and Innovation Investments: Evidence from the Great Recession in Spain

Alex Armand and Pedro Mendi

No 02/2017, NCID Working Papers from Navarra Center for International Development, University of Navarra

Abstract: Decreases in aggregate demand can influence the decision to invest in innovation. This paper focuses on this choice when reductions are heterogeneous across productive strata of the economy. To guide the empirical analysis, we model heterogeneous firmsÕ decisions to invest in innovation. In our framework, firms are heterogeneous and demand shocks are exogenous. We show that drops in aggregate expenditure reduce the proportion of firms investing in innovation. We then study investment behaviour in a panel of Spanish innovative manufacturing firms. These firms are all investing in internal R&D in 2004 and are yearly surveyed until 2013. During the Great Recession, firms experienced large contractions in aggregate consumption, up to 10% of its pre-crisis trend. We proxy heterogeneous variation in demand with entry and exit rates in the productive stratum of each firm. Rates incorporate all firms in the stratum, including non-innovative firms. To support our identification strategy, we show that these rates are not capturing idiosyncratic unobservable characteristics among innovative firms. Higher exit rates are associated with reductions of 2 to 3% in the share of firms investing in innovation. The drop is larger for smaller firms, which also experience larger decreases in sales. These results are in line with our theoretical predictions. Our estimates are robust to the inclusion of indicators of time-varying credit constraints. For these constraints, we observe a marginal role among innovative firms.

Keywords: R&D; Innovation; Firm entry; Great Recession (search for similar items in EconPapers)
JEL-codes: L22 O31 O32 (search for similar items in EconPapers)
Pages: 40 pages
Date: 2017-07
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Journal Article: Demand drops and innovation investments: Evidence from the Great Recession in Spain (2018)
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