Innovation and growth with financial, and other, frictions

Abstract

The generation and implementation of ideas are crucial for economic performance. We study this in a model of endogenous growth, where productivity increases with innovation, and where the exchange of ideas (technology transfer) allows those with comparative advantage implement them. Search, bargaining, and commitment frictions impede the idea market, however, reducing efficiency and growth. We characterize optimal policies involving subsidies to innovative and entrepreneurial activity, given both knowledge and search externalities. The role of liquidity is discussed. We show intermediation helps by financing more transactions with fewer assets, and, more subtly, by ameliorating holdup problems. We also discuss some evidence.