Research and Development, Profits and Firm Value: A Stuctural Estimation

A model characterizes the optimal r&d policy in a setting where innovations lead to an increase in profits and the probability of innovation increases with the knowledge stock. Simulated method of moments estimation identifies the structural parameters using data on profits, firm values and r&d expenditures for firms that engage in r&d and those who do not. The results reveal a robust rate of innovation, an economically and statistically significant impact of a successful innovation on profits and a rapid obsolescence rate for accumulated knowledge. Counterfactual experiments demonstrate that the steady state level of innovation decreases as the discount rate decreases and quantify the impact of subsidies to r&d and strengthening of patent rights on the rate of innovation.