The Impact of Regulation on Innovation-Peking University HSBC Business School(PHBS)

The Impact of Regulation on Innovation

2020-09-16 14:07:00

by John Van Reenen, MIT

Wednesday, November 25, 2020 | 4:00pm - 5:30pm | ZOOM, Room 335

Abstract

Does regulation inhibit innovation and if so, by how much? We build a tractable and quantifiable endogenous growth model with size-contingent regulations. We apply this to population administrative firm panel data from France where many labor regulations apply to firms with 50 or more employees. Nonparametrically, we find that there is a sharp fall in the fraction of innovating firms just to the left of the regulatory threshold. Further, a dynamic analysis show a sharp reduction in the firm’s innovation response to exogenous demand shocks for firms just below the regulatory threshold. Since both these findings are consistent with the model’s qualitative predictions, we structurally fit the parameters of the model to the data. Our baseline estimates imply that aggregate equilibrium innovation is about 5.4% lower due to the regulation which translates into lower bound of a 2.2% consumption equivalent welfare loss. This is mainly due to lower innovation intensity for firm’s given their size, rather than just a leftward shift in the firm size distribution and a fall in entry rates. Consistent with a generalization of the theory to two forms of R&D investment, we find that both in the cross section and panel, regulation’s negative effects are only significant for incremental innovation (as measured by future citations). A more regulated economy may have less innovation, but when firms do innovate they “swing for the fence” with more radical breakthroughs.

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