When do thick venture capital markets foster innovation? An evolutionary analysis

• Published in: Journal of evolutionary economics Vol. 22; no. 1; pp. 79 - 108
• Main Authors: Colombo, Luca, Dawid, Herbert, Kabus, Kordian
• Format: Journal Article
• Language: English
• Published: Berlin/Heidelberg Springer-Verlag 2012; Springer Nature B.V
• Subjects: Capital markets; Economic Growth; Economic models; Economic theory; Economic Theory/Quantitative Economics/Mathematical Methods; Economics; Economics and Finance; Employees; Entrepreneurship; Evolutionary economics; Externality; Incentives; Incumbency; Innovation; Innovations; Institutional/Evolutionary Economics; Knowledge; Market efficiency; Microeconomics; R & D/Technology Policy; R&D; Regular Article; Research & development; Research and development; Spillovers; Spinoffs; Startups; Studies; Technological change; Venture capital; R&D effort; Spinoff; Industry evolution; Technological progress; Venture capital
• ISSN: 0936-9937; 1432-1386
• DOI: 10.1007/s00191-010-0206-0

In this paper, we examine the trade off between different effects of the availability of venture capital on the speed of technological progress in an industry. We consider an evolutionary industry simulation model based on Nelson and Winter ( 1982 ), in which R&D efforts of an incumbent firm generate technological know-how embodied in key R&D employees, who might use this know-how to found a spinoff of the incumbent. Venture capital is needed to finance a spinoff, so that the expected profits from founding a spinoff depend on how easily venture capital can be acquired. Accordingly, thick venture capital markets might have two opposing effects. First, incentives of firms to invest in R&D might be reduced and, second, if spinoff formation results in technological spillovers between the parent firm and the spinoffs, the generation of spinoff firms might positively influence the future efficiency of the incumbent’s innovation efforts. We study the manner in which this tradeoff influences the effect of venture capital on innovation expenditures, speed of technological change and evolution of industry concentration in several scenarios with different industry characteristics.