Innovation and economic performance: The role of financial development

Abstract

This study empirically explores the influence of financial development (FD) in an innovation-growth nexus. Specifically, the study considers how, through FD, innovation impacts countries' export products, export values and national incomes. The system Generalized Method of Moments technique and the dynamic common correlated effect estimator are used on data of 57 economies covering the period 2000 to 2019. First, the findings reveal that, on the full sample, FD and its interaction with R&D expenditure have both short- and long-run effects on economic performance, as they both cause increases in export product, export value and national income. However, within the full sample study, the direct impact of FD is more favorable than the indirect effect. Second, within the developed and the developing economies, the study reveals that FD indirectly influences economic performance by improving the relationship between R&D expenditures and export products, export values and the national incomes of these groups of economies, both in the short- and the long-run. However, considering the developing economies, the findings show that the indirect influence of FD is more favorable than the direct effect. As a result, this study argues that FD is relevant for improving the relationship between innovation and economic performance, for both developed and developing economies. Policymakers should, therefore, ensure efficiency and stability in their financial sector as they engage in R&D activities in order to be able to harness the export-growth benefits of innovation fully. Moreover, policies that ensure sustainable money supply should be encouraged, especially within the developing economies.