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R&D and Economic Growth in a Cash-in-Advance Economy

  • Chu, Angus C.

    ()

  • Cozzi, Guido

    ()

R&D investment has well-known liquidity problems, with potentially important consequences. In this paper, we analyze the effects of monetary policy on economic growth and social welfare in a Schumpeterian model with cash-in-advance (CIA) constraints on consumption, R&D investment, and manufacturing. Our results are as follows. Under the CIA constraints on consumption and R&D (manufacturing), an increase in the nominal interest rate would decrease (increase) R&D and economic growth. So long as the effect of cash requirements in R&D is relatively more important than in manufacturing, the nominal interest rate would have an overall negative effect on R&D and economic growth as documented in recent empirical studies. We also analyze the optimality of Friedman rule and find that Friedman rule can be suboptimal due to a unique feature of the Schumpeterian model. Specifically, we find that the suboptimality or optimality of Friedman rule is closely related to a seemingly unrelated issue that is the overinvestment versus underinvestment of R&D in the market economy, and this result is robust to alternative versions of the Schumpeterian model.

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Paper provided by University of St. Gallen, School of Economics and Political Science in its series Economics Working Paper Series with number 1308.

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Length: 25 pages
Date of creation: Mar 2013
Date of revision:
Handle: RePEc:usg:econwp:2013:08
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