Debt, Innovation, and Growth
70 Pages Posted: 13 Jul 2019 Last revised: 9 Apr 2020
Date Written: April 7, 2020
Recent empirical studies show that innovative firms heavily rely on debt financing. We build a Schumpeterian growth model in which firms' dynamic R&D and financing choices are endogenously determined and show that debt fosters innovation and growth at the aggregate level. This is the result of two opposing forces. First, debt hampers innovation by incumbents due to debt overhang. Second, debt increases the surplus from entering the industry, thereby stimulating entry, innovation, and growth. The paper predicts substantial intra-industry variation in leverage and innovation and demonstrates that debt financing has large effects on firm turnover and industry structure.
Keywords: debt, innovation, industry dynamics, growth
JEL Classification: G32, O30
Suggested Citation: Suggested Citation