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Government Debt and the Returns to Innovation

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  • Croce, Mariano Massimiliano
  • Nguyen, Thiên Tung
  • Raymond, Steve
  • Schmid, Lukas

Abstract

Elevated levels of government debt raise concerns about their effects on long-term growth prospects. Using the cross section of US stock returns, we show that (i) high-R&D firms are more exposed to government debt and pay higher expected returns than low-R&D firms; and (ii) higher levels of the debt-to-GDP ratio predict higher risk premia for high-R&D firms. Furthermore, rises in the cost of capital for innovation-intensive firms predict declines in subsequent productivity and economic growth. We propose a production-based asset pricing model with endogenous innovation and fiscal policy shocks that can rationalize key aspects of the empirical evidence. Our study highlights a novel and distinct risk channel shaping the link between government debt and future growth.

Suggested Citation

  • Croce, Mariano Massimiliano & Nguyen, Thiên Tung & Raymond, Steve & Schmid, Lukas, 2018. "Government Debt and the Returns to Innovation," CEPR Discussion Papers 12617, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:12617
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    Keywords

    Cross Section of Stock Returns; Fiscal Uncertainty; Government Debt; Government Debt; growth; predictability; R&D;

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