Cross-country Knowledge Spillovers and Innovations in Less Developed Countries in the Context of the Schumpeterian Growth Model

We develop a theoretical model that focuses on the effects of international knowledge spillovers on the country’s horizontal (variety expansion) and vertical (quality-improving) R&D efforts in less developed countries (LDC). The novelty of the approach is that it studies the effect of cross-country knowledge spillovers in the framework of a second-generation endogenous growth model without scale effect. The structure of the market, the level of R&D expenditures, and the rate of economic growth are endogenously determined by the level of knowledge spillovers. The effect of cross-country knowledge spillovers on the return to R&D is ambiguous. It depends on the relative dominance of market interaction versus technological interaction among firms in LDC. The R&D expenditures by the firms in the developed countries may reduce incentives to vertical innovations in LDC; however, our results emphasize the importance of developing domestic R&D projects and improving the efficiency of those projects for LDC rather than relying on foreign knowledge spillovers. In the presence of sunk costs, nonetheless, running efficient R&D projects is justified only when the country is relatively large in size.