Finance, Investment and Innovation

Theory and Empirical Evidence

Michele Bagella

• Publisher: Routledge
• Year: 2018
• Print ISBN: 9781138478527
• eBook ISBN: 9781351068260
• Topic: Business
• Subtopic: Business General
• Index: Business

This book provides a critical evaluation of the literature on finance, investment and innovation and proposes new research methods for evaluating the comparative performance of financial systems in supporting innovation. The comparative advantage of this book is that of being directly focused on one of the main unsolved issues in monetary and financial economics: the relative effectiveness of national financial systems in supporting innovation. It proposes various theoretical and empirical contributions that, taken together, allow to evaluate the relative effectiveness of some of the most important country systems such as Japan, and the UK and Italy.

1 Relative effectiveness of national systems of finance, investment and innovation: a review of the literature and a proposal for a comparative approach

Michele Bagella and Leonardo Becchetti^*

1. Introduction

An analysis of the relationship between finance, investment and innovation is of great relevance in a non neoclassical world, where the performance of high-tech sectors is crucially influenced by the institutional organization and the effective functioning of the interaction between financial and innovative sectors. In times of innovation and integration of financial systems, a clear-cut prescription of the direction to take in the institutional reform of financial markets and institutions is urgently needed. What can help policy makers in decisions over financial institution reform is the evaluation of the performance of four major financial systems in supporting investment and innovation: i) the “German system” in which major banks, directly or through administrating portfolios of individual savers, have a large share participation in innovating industries¹; ii) the Anglo-Saxon “atomistic” system in which the role of financing innovation is played, in the presence of a relatively lower bank-firm participation, by closed-ended funds and venture capitalists in a fully developed financial market (Edwards-Fisher, 1993); iii) the “Japanese” system in which large conglomerates determine a high degree of concentration and integration between financial and innovating sectors²; iv) the “bank-dependent” Italian system: a) where a “liquidity-volatility” dilemma and costs of information disclosure prevent small and medium firms from being listed on the domestic exchange and determine an abnormally small stock market capitalisation over GDP and where b) bond financing is crowded out by public debt and is therefore not a substitute for bank financing. A short description of these systems is provided by Tables 1.1a–1.1c. Table 1.1a provides an overall picture of corporate governance and industrial structure of these systems showing that the United States is nearer to the “abstract” model of a “market oriented” system (strong separation between firm ownership and control, low ownership concentration, high independence of management, low role of financial intermediaries and high role of financial markets). The German system is nearer to the “abstract” model of a “bank oriented” system (weak separation between firm ownership and control, high ownership concentration, low independence of management, high role of financial intermediaries and low role of financial markets in corporate monitoring, very weak constraints on bank ownership of firm equity). The Japanese system is close to the German “bank oriented” model but with some crucial distinctions on cross-shareholding which are larger and intra-group relationship which are stronger. The Italian system has something in common with the US (strong constraints on bank ownership of firm equity) and much more in common with the German system even though the role of financial intermediaries in corporate monitoring is much lower and the system of cross-shareholdings, inter and intra group participation is much more widespread for large firms listed in the stock exchange.

Table 1.1b clearly shows how financial markets are more developed in “market oriented” systems such as the United Kingdom and the US than in “bank oriented” systems where stock market capitalisation and internationalisation are relatively low and firm access to direct market financing through equity or bond issues is relatively lower.

Table 1.1c shows instead the different cultures of national financial systems in supporting innovation. On one side, Italy and France have a strong tradition of state subsidies although France puts much more emphasis than Italy on advisory and consultancy services. On the other side is the United States where state support is clearly accompanied by advisory and consultancy activities and where attention is paid to programme monitoring and evaluation, and to the creation of closer links between universities and the private sector. The extreme case here is that of the United Kingdom’s experience which is similar to that of the United States in the above described features, with the exception that the role of the state is not that of providing direct financial support but just that of promoting the diffusion of technological information, improving links between innovators and private consultants.

These four models of interaction between financiers and investors originated as endogenous responses to “country fundamentals” (national, social and legal norms) and are now evolving to face new challenges.

One of the primary benchmarks that may be considered as a reference for a comparative evaluation of their evolution is the “short termist” hypothesis which assumes that “equity oriented” systems provide less support to innovation than “bank oriented” ones (Cosh-Hughes-Singh, 1990; Hamid-Sing, 1992) because of their lower relative capacity of reducing agency costs between investors and financiers (“arm’s length relation between financier and investor”; Mayer, 1985). This view is partially confirmed by recent empirical studies, showing that the Japanese stock market incorporates information earlier than the US stock market (Aaker-Jacobson, 1993).

A huge branch of literature on financial and monetary economics is now interested in testing this working theory in order to provide an evaluation of the comparative effectiveness of financial systems in supporting the real side of the economy.

In an attempt to follow a comparative evaluation approach, this chapter intends: i) to present the puzzle of descriptive statistics on a firm’s internal and external financing choices in six different countries; ii) to highlight and to comment on the main empirical and theoretical results obtained so far in analysing finance and innovation interaction; iii) to describe the methodological problems arising from this comparative research; iv) to propose a theoretical framework – which will be the reference for theoretical and empirical analyses presented in the following chapters – that may explain why different financial systems have originated in different countries, and how these systems are actually evolving. The chapter is divided into two parts.

In the first (and introductory) section, descriptive statistics and a survey of recent contributions constituting the basis of the present research are provided. Four sub-branches of analysis have been pinpointed: micro-theoretical, micro-empirical, macro-theoretical (intended as a theoretical analysis which, even being microfounded, pays particular attention to the aggregate consequences of its models and in particular to business cycle movements and growth effects) and macro-empirical (see Table 1.2). The first sub-branch presents a vast number of contributions. These contributions investigate the effects of informational asymmetries in the relationship between finance, investment and innovation and highlight the actual and potential roles of national financial systems in the reduction of such informational asymmetries. The second sub-branch examines the most recent micro-empirical results as tests of the relative effectiveness of national financial systems in dealing with investments and innovation. The section also presents a critical evaluation of the methodological issues involved in comparative empirical analyses. The remaining sub-branches show how the macro-theoretical approach is made up, to a large extent, by endogenous growth models, and the fourth macro-empirical branch by attempts to estimate macro-theoretical hypotheses through cross-country analyses.

The brief survey on the existing literature highlights the need for a comprehensive microfounded approach which is outlined in the second section. By this approach it is possible to compare the different “archetypes” of national systems of innovation financing. Its final aim is that of showing how these systems represent endogenously developed optimal responses to the same problem, according to differences in “country fundamentals”.

The second section surveys models which may provide a framework for this comparative microfoundation (Becchetti 1993; Aghion-Tirole, 1994), by describing the interaction between financial and innovative units in a technological area with a coordination failure model.

In the conclusion of the chapter, preliminary policy suggestions are advanced based on the current state of research. The main conclusion is that nationa...

Table of contents

• Cover
• Half Title
• Title Page
• Copyright Page
• Table of Contents
• Acknowledgements
• Introduction
• 1. Relative effectiveness of national systems of finance, investment and innovation: a review of the literature and a proposal for a comparative approach
• 2. Equity dilution, small ticket problem and coordination inefficiency in venture capital financing of innovation
• 3. Venture capital and innovation in Europe
• 4. The optimal financing strategy of Japanese high-tech firms: the role of warrants
• 5. Effects of options introduction on stock price volatility: an empirical testing on high-tech firm equities based on SSC-GARCH models
• 6. Finance, investment and innovation: a theoretical and empirical comparative analysis in Japan and the UK
• 7. High-tech firms, asymmetric information and credit rationing
• 8. New technology investment and financial development: crosscountry evidence
• 9. Financing technological innovation in Italy: sources, governmental support and productivity growth
• 10. The structure of financing and intellectual property rights