Government Financing of R&D: A Mechanism Design Approach
American Economic Journal: Microeconomics
vol. 13,
no. 3, August 2021
(pp. 238-72)
Abstract
We study how to design an optimal government loan program for risky R&D projects with positive externalities. With adverse selection, the optimal government contract involves a high interest rate but nearly zero cofinancing by the entrepreneur. This contrasts sharply with observed loan schemes. With adverse selection and moral hazard, allowing for two levels of effort by the entrepreneur, the optimal policy consists of a menu of at most two contracts, one with high interest and zero self-financing and a second with a lower interest plus cofinancing. Calibrated simulations assess welfare gains from the optimal policy, observed loan programs, and a direct subsidy to private venture capital firms. The gains vary with the size of the externalities, the cost of public funds, and the effectiveness of the private venture capital industry.Citation
Lach, Saul, Zvika Neeman, and Mark Schankerman. 2021. "Government Financing of R&D: A Mechanism Design Approach." American Economic Journal: Microeconomics, 13 (3): 238-72. DOI: 10.1257/mic.20190053Additional Materials
JEL Classification
- D82 Asymmetric and Private Information; Mechanism Design
- D86 Economics of Contract: Theory
- G24 Investment Banking; Venture Capital; Brokerage; Ratings and Ratings Agencies
- G32 Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
- H81 Governmental Loans; Loan Guarantees; Credits; Grants; Bailouts
- L26 Entrepreneurship
- O31 Innovation and Invention: Processes and Incentives
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