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Innovation and trade policy in a globalized world

Akcigit, Ufuk, Ates, Sina T. and Impullitti, Giammario (2018) Innovation and trade policy in a globalized world. CEP Discussion Papers (CEPDP1589). Centre for Economic Performance, London School of Economics and Political Science, London, UK.

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Abstract

How do import tariffs and R&D subsidies help domestic firms compete globally? How do these policies affect aggregate growth and economic welfare? To answer these questions, we build a dynamic general equilibrium growth model where firm innovation endogenously determines the dynamics of technology, market leadership, and trade flows, in a world with two large open economies at different stages of development. Firms’ R&D decisions are driven by (i) the defensive innovation motive, (ii) the expansionary innovation motive, and (iii) technology spillovers. The theoretical investigation illustrates that, statically, globalization (defined as reduced trade barriers) has ambiguous effects on welfare, while, dynamically, intensified globalization boosts domestic innovation through induced international competition. Accounting for transitional dynamics, we use our model for policy evaluation and compute optimal policies over different time horizons. The model suggests that the introduction of the Research and Experimentation Tax Credit in 1981 proves to be an effective policy response to foreign competition, generating substantial welfare gains in the long run. A counterfactual exercise shows that increasing tariffs as an alternative policy response improves domestic welfare only when the policymaker cares about the very short run, and only when introduced unilaterally. Tariffs generate large welfare losses in the medium and long run, or when there is retaliation by the foreign economy. Protectionist measures generate large dynamic losses by distorting the impact of openness on innovation incentives and productivity growth. Finally, our model predicts that a more globalized world entails less government intervention, thanks to innovation-stimulating effects of intensified international competition.

Item Type: Monograph (Discussion Paper)
Official URL: http://cep.lse.ac.uk/
Additional Information: © 2018 The Authors
Divisions: Centre for Economic Performance
Subjects: H Social Sciences > HB Economic Theory
H Social Sciences > HF Commerce
JEL classification: F - International Economics > F1 - Trade > F13 - Commercial Policy; Protection; Promotion; Trade Negotiations; International Trade Organizations
F - International Economics > F4 - Macroeconomic Aspects of International Trade and Finance > F43 - Economic Growth of Open Economies
O - Economic Development, Technological Change, and Growth > O4 - Economic Growth and Aggregate Productivity > O40 - General
Sets: Research centres and groups > Centre for Economic Performance (CEP)
Date Deposited: 11 Jan 2019 14:48
Last Modified: 20 Feb 2019 04:09
Funders: Economic and Social Research Council
URI: http://eprints.lse.ac.uk/id/eprint/91712

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