Are Complementary Policies Substitutes? Evidence from R&D Subsidies in the UK

Abstract

Governments often subsidize private R&D using both grants and tax incentives. This paper studies whether they are complements or substitutes. I take a difference-in-discontinuities approach to examine small firms in the United Kingdom and find that increasing tax credit generosity enhances the effect of grant funding on R&D, suggesting that they are complements. Financing constraints are likely at play. The effects are most substantial for firms that appear constrained, and by implementing another quasi-experimental research design, I find that the instruments are substitutes for larger firms, which are usually less constrained. Some alternative explanations can be ruled out.

Keywords: R&D, innovation, policy interactions, difference-in-discontinuities

JEL Classification: D22, H0, H25, L53, O31, O32, O38