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How to select Instruments supporting R&D and Innovation by Industry

Author

Listed:
  • Marcel J.L. de Heide

    (Erasmus University Rotterdam)

  • Amit Kothiyal

    (Erasmus University Rotterdam)

Abstract

We present a theoretical framework which allows for the comparison of the effectiveness of tax measures, loans and funding, in supporting industry-oriented research. We estimate for each of the instruments the exact contribution required by a firm to decide on investing in R&D, given the costs and probability of success of the project, and the foreseen change in profit following successful implementation of the research results. We apply Prospect Theory to analyse the risk attitude of the firm. By comparing the contribution required, we identify the instrument which is most effective, and therefore preferred by a government. Our analysis indicates that there exists a critical value for the probability of success of the project for which the modality of the most effective instruments changes. For a probability of success smaller than the critical value, a tax measures offering support only in case of successful completion of the project is preferred. For a probability higher than the critical value, a loan is most effective. The value of the critical probability depends on the perception of risk and loss aversion of the firm involved in the research.

Suggested Citation

  • Marcel J.L. de Heide & Amit Kothiyal, 2011. "How to select Instruments supporting R&D and Innovation by Industry," Tinbergen Institute Discussion Papers 11-021/2, Tinbergen Institute, revised 07 Feb 2011.
    • Handle: RePEc:tin:wpaper:20110021
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    References listed on IDEAS

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    Keywords

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    JEL classification:

    • D04 - Microeconomics - - General - - - Microeconomic Policy: Formulation; Implementation; Evaluation
    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • O38 - Economic Development, Innovation, Technological Change, and Growth - - Innovation; Research and Development; Technological Change; Intellectual Property Rights - - - Government Policy

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