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Optimal Policy and Non-Scale Growth with R&D Externalities

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An established result of the endogenous growth literature is that competitive equilibria in expanding-varieties models are suboptimal due to the rent-effect: monopolistic pricing drives the equilibrium quantity of each intermediate below the efficient level, implying that it is optimal to subsidize final producers. This paper shows that, if scale effects are eliminated by including R&D spillovers in the model, normative prescriptions change. Since the laissez-faire economy under-invests into R&D activity, the share of resources devoted to intermediates' production increases, and this reallocation effect contrasts the rent-effect. In many scenarios, including the polar case of logarithmic preferences, the reallocation effect surely dominates: the equilibrium quantity of each intermediate exceeds the optimal one, and the optimal policy consists of taxing final producers because fiscal authorities must internalize the overshooting mechanism generated by under-investment in R&D.

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Paper provided by CER-ETH - Center of Economic Research (CER-ETH) at ETH Zurich in its series CER-ETH Economics working paper series with number 09/116.

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Length: 26 pages
Date of creation: Aug 2009
Date of revision:
Handle: RePEc:eth:wpswif:09-116

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Keywords: Endogenous Growth; Scale Effects; R&D Externalities; Optimal Policy;

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  1. Peretto, Pietro F., 1996. "Technological Change and Population Growth," Working Papers 96-28, Duke University, Department of Economics.
  2. David K. Backus & Patrick J. Kehoe & Timothy J. Kehoe, 1992. "In search of scale effects in trade and growth," Staff Report 152, Federal Reserve Bank of Minneapolis.
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  4. Dinopoulos, Elias & Thompson, Peter, 1998. " Schumpeterian Growth without Scale Effects," Journal of Economic Growth, Springer, vol. 3(4), pages 313-35, December.
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  6. Doi, Junko & Mino, Kazuo, 2004. "Technological Spillovers and Patterns of Growth with Sector-Specific R&D," MPRA Paper 16995, University Library of Munich, Germany.
  7. Romer, Paul M, 1990. "Endogenous Technological Change," Journal of Political Economy, University of Chicago Press, vol. 98(5), pages S71-102, October.
  8. Pietro Peretto & Sjak Smulders, 2002. "Technological Distance, Growth And Scale Effects," Economic Journal, Royal Economic Society, vol. 112(481), pages 603-624, July.
  9. Romer, Paul M, 1987. "Growth Based on Increasing Returns Due to Specialization," American Economic Review, American Economic Association, vol. 77(2), pages 56-62, May.
  10. Jones, Charles I, 1995. "R&D-Based Models of Economic Growth," Journal of Political Economy, University of Chicago Press, vol. 103(4), pages 759-84, August.
  11. Ben Gardiner & Ron Martin & Tyler Peter, 2004. "Competitiveness, Productivity and Economic Growth across the European Regions," ERSA conference papers ersa04p333, European Regional Science Association.
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  13. Lucas, Robert Jr., 1988. "On the mechanics of economic development," Journal of Monetary Economics, Elsevier, vol. 22(1), pages 3-42, July.
  14. Segerstrom, Paul S, 1998. "Endogenous Growth without Scale Effects," American Economic Review, American Economic Association, vol. 88(5), pages 1290-1310, December.
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Cited by:
  1. Steliana SANDU, 2010. "The Optimal Rate of R&D Expenditures in GDP – Between Theory and Practice," Annals - Economy Series, Constantin Brancusi University, Faculty of Economics, vol. 4, pages 28-42, December.

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