Contractionary monetary policy and innovation

An empirical study

In this paper, Ma and Zimmermann perform an extensive empirical investigation of the effects of monetary policy on innovation activities. As innovation metrics, they are using U.S. data on aggregate investment in intellectual property (including R&D) from the national accounts and the R&D spending of public companies, as well as measures based on venture capital investment and patent filings. Assuming a 100 basis point tightening shock they find:

• Investment in intellectual property products in the national accounts (NIPA) declines by about 1 percent.
• Venture capital investment is more volatile, and declines by as much as 25 percent at a horizon of 1 to 3 years after the monetary policy shock as risk-taking appetite declines.
• Patenting in important technologies declines by up to 9 percent 2 to 4 years after the shock.
• Decreasing demand due to tighter monetary policy reduces the profitability of developing new products and the incentives to innovate. In the data, this shows as a stronger decline in both R&D and patenting in more cyclical industries.

Monetary Policy and Innovation
Authors: Yueran Ma, Kaspar Zimmermann
From: University of Chicago, Leibniz Institute for Financial Research SAFE

A theoretical study

Beqiraj et al. develop a New Keynesian DSGE model which includes nominal rigidities, growth dynamics, and financial frictions to study the impact of a monetary policy shock on innovation. In their model innovation is modeled as a two-step process, creation and adoption of new technologies, which is characterized by uncertainty. The authors use this framework to explain the long-lasting slump that follows a contractionary monetary shock. They find that:
A negative monetary shock by worsening credit conditions leads to a reduction in R&D investments, a deterioration of the innovative process and  a persistent slowdown of Total Factor Productivity and output.

Persistent Slumps: Innovation & the Credit Channel of Monetary Policy
Authors: Elton Beqiraj, Qingqing Cao, Raoul Minetti, Giulio Tarquini
From: Sapienza University of Rome, Michigan State University