Out of Equilibrium Profit and Innovation

Innovation is the result of intentional decision-making that takes place in out-of-equilibrium conditions. The farther is profitability from the average and the deeper the out-of-equilibrium conditions. The farther away is the firm from equilibrium and the stronger the likelihood for innovation to take place. The hypothesis of a U-relationship between levels of profitability and innovative activity, as measured by the rates of increase of total factor productivity, is articulated and tested. The evidence of a large sample of 7000 Italian firms in the years 1996-2005 confirms that a strong causal relation holds between the quadratic specification of profitability and the growth rates of total factor productivity. The results are robust to different approaches to evaluate productivity growth rates