Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/307728 
Year of Publication: 
2024
Series/Report no.: 
Center for Mathematical Economics Working Papers No. 699
Publisher: 
Bielefeld University, Center for Mathematical Economics (IMW), Bielefeld
Abstract: 
We study endogenous, credit-financed innovation under uncertainty in dynamic contexts. In our model, a firm with limited cash reserves decides how much to invest in an R&D project, potentially using external financing. Investing more increases the probability of a sooner innovation, but higher repayment obligations also increase bankruptcy risk if the innovation takes longer. We show that the firm reduces its investment discontinuously if the financing cost is not favorable enough, in order to avoid the need for external financing. This insight implies that policies reducing financing costs can have discontinuous positive effects on investment, innovation rate and welfare. However, policy measures increasing the effectiveness of R&D might reduce the innovation rate and welfare due to a discontinuous reduction of R&D investment. Furthermore, we find that low financing costs can lead to over-investment. The welfare loss from cash constraints is more severe for radical innovations compared to incremental ones.
Subjects: 
Innovation
R&D investment
Cash constraints
Bankruptcy risk
Persistent Identifier of the first edition: 
Creative Commons License: 
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Document Type: 
Working Paper

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