Determinants of Innovation Activities and Their Impact on the Entrepreneurial Businesses Performance: Empirical Evidence from Central and South Eastern Europe

Abstract

Innovation is a driving force for enhancing firms’ efficiency and productivity. The importance of innovation is also recognized at economy level, namely increase in R&D and innovation activities will help the creation of new jobs, prosperity and improvement of the standards of living. In order to increase the innovation activities undertaken by firms in the EU the Lisbon Strategy set a goal for Europe to become “the world’s most competitive and dynamic knowledge-based economy in the world, capable of sustaining growth with more and better jobs and greater social cohesion” by 2010. The aim of this paper is to investigate the determinants of innovation activities and their impact on firm performance. For the empirical analysis of the study we employ Business Environment Enterprise Performance Surveys (BEEPS) firm-level data conducted by the World Bank and the European Bank for Reconstruction and Development (EBRD) in 2002, 2005 and 2009. We utilize the advantage of a larger number of observations of the data by pooling the observations in years and thus generating a sample of 9,300 companies.

To examine the relationship between innovation activities (measured as introduction of new product and/or process), ownership structure and firm performance (measured as labor productivity and net profit margin) we apply instrumental variable (IV) technique, which enables us to control for the endogeneity between innovation activities undertaken by entrepreneurial businesses and their performance. Our findings suggest that firms’ size, R&D intensity, foreign ownership, competition, skilled workers and export activity have positive and significant impact on their incentive to undertake innovation activities. Considering the determinants of productivity, we find evidence that firms that have undertaken innovation activities (instrumented variable) and owned by foreign ownership, having higher degree of skilled workers and that are European Union member country firms perform better.

Keywords: Innovation Activities, Ownership Change, Productivity, Instrumental Variables Technique