Working Paper: NBER ID: w15325
Authors: Bronwyn H. Hall; Josh Lerner
Abstract: Evidence on the "funding gap" for investment innovation is surveyed. The focus is on financial market reasons for underinvestment that exist even when externality-induced underinvestment is absent. We conclude that while small and new innovative firms experience high costs of capital that are only partly mitigated by the presence of venture capital, the evidence for high costs of R&D capital for large firms is mixed. Nevertheless, large established firms do appear to prefer internal funds for financing such investments and they manage their cash flow to ensure this. Evidence shows that there are limits to venture capital as a solution to the funding gap, especially in countries where public equity markets for VC exit are not highly developed. We conclude by suggesting areas for further research.
Keywords: R&D; Innovation; Venture Capital; Financial Constraints
JEL Codes: G24; G32; O32; O38
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Firm size (L25) | Cost of capital (G31) |
| Venture capital (G24) | Cost of capital (G31) |
| Firm size (L25) | Financing preference (G32) |
| Asymmetric information and moral hazard (D82) | Cost of external capital (G31) |
| Cost of external capital (G31) | Underinvestment in R&D (O39) |
| Internal financing availability (D25) | R&D investment (O32) |
| Agency costs (G39) | Underinvestment in R&D (O39) |
| R&D investment sensitivity to cash flow shocks (G31) | R&D expenditures (O32) |