Delegation and R&D Incentives: Theory and Evidence from Italy
We study the relationship between delegation within organizations and innovation incentives. When a firm owner deals with a privately informed manager who undertakes an unverifiable R&D decision, we show that an organizational mode awarding autonomy to the manager spurs innovation incentives relative to arrangements based on vertical control. The idea is that delegation increases the manager's ex-post information rent and thus encourages his R&D effort relative to instances where contractual rules excessively limit his autonomy. This R&D-enhancing effect also increases (ex-ante) gains from trade and makes both contractual parties better off. However, we also show that because of asymmetric information, more intensive R&D investments have a negative impact on ex-post efficiency: By inducing a better distribution of R&D outcomes, arrangements awarding more autonomy to the privately informed manager strengthen the rent-extraction efficiency trade-off and thus exacerbate the underproduction result typically obtained in adverse selection environments. This unveils an inconsistency between ex-ante and ex-post efficiency which has been overlooked in previous work. Using data from the Italian manufacturing industry we test the theoretical model. The empirical results provide support for our predictions.
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