Regulatory Growth Theory

52 Pages Posted: 5 Sep 2018

See all articles by Danxia Xie

Danxia Xie

Tsinghua University - Institute of Economics

Date Written: December 31, 2017


This research explores and quantifies the downside of technological innovations, especially the negative externality of an innovation interacting with the stock of existing innovations. Using two novel datasets, we make a novel empirical finding that the varieties of innovation-induced risks (e.g. varieties of side effects caused by FDA-approved new drugs) is quadratic in the number of innovations (e.g. number of FDA-approved new drugs) that caused these risks. Based on this new empirical finding, we further develop a Regulatory Growth Theory: a new endogenous growth model with increasing varieties of innovation-induced risks and with a regulator. I model both the innovation-induced risk generating structure and the regulator's endogenous response.

This new theory can help to interpret several empirical puzzles beyond the explanatory power of existing models of innovation and growth:

(1) skyrocketing expected R&D cost per innovation;

(2) decreasing ratio of Qualified Innovations (i.e. Regulator-approved innovations) to the number of total patents and

(3) exponentially increasing regulation over time.

Greater expenditures on regulation and corporate R&D are required to assess the net benefit of innovation because of "Risk Externality": negative interaction effects between innovations. Theoretically, this new "Risk Externality" effect we propose counteracts the crucial "Knowledge Spillover" effect in the Endogenous Growth models. The rise of regulation versus litigation, and broader implications for regulatory reform are also discussed.

Keywords: Innovation, Regulation, Risk externality, Interaction effect

JEL Classification: O40, O30, K20

Suggested Citation

Xie, Danxia, Regulatory Growth Theory (December 31, 2017). Available at SSRN: or

Danxia Xie (Contact Author)

Tsinghua University - Institute of Economics ( email )

MingZhai Building
Beijing, 100084


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