BIS research shows investor sentiment and informational externalities boost low-tech firm R&D

Following periods of intense technological progress, firms engage in small-scale experimentation to understand how to best use a new technology. This activity, which is booked as R&D, is an important element of the technology diffusion process. However, certain frictions can reduce it to below the level that firms would normally undertake.

In this paper, researchers investigate whether investor sentiment can offset these frictions, at least partially. They find that, for low-tech firms, which represent the main conduit for technology diffusion, investor sentiment reinforces the effect of aggregate technological innovation on two-year-ahead firm-level R&D. The effect is stronger for companies subject to informational externalities — that is when the results of experimentation funded by a company are observable by competitors — and whose shareholders have short investment horizons.

Unlike in the literature on investor sentiment and investment, the results are not driven by binding financing constraints that become looser when investor sentiment is more buoyant (the effect is weaker for financially constrained firms) indicating that R&D is subject to a distinct set of frictions than investment.

The findings are robust to a variety of controls and specifications that address the possibility that investor sentiment might proxy for growth expectations and for credit availability. The results are also robust to alternative measures of investor sentiment and of technological innovation.

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