Information-theoretic model of induced technical change: Theory and empirics

The paper develops an information-theoretic model of induced technical change where payoff-maximizing agents are exposed to a positive degree of uncertainty when adopting new technology due to unobserved cost factors. The derived equilibrium of the model comes in the form of a non-degenerate probability distribution that defines the distance of productivity growth from the potential maximum growth on the innovation possibilities frontier, often called the technical inefficiency function (TIF) in the frontier estimation literature. Many forms of the TIF are shown to be derived by specifying a particular functional form of the payoff function in our model. The paper estimates the innovation possibilities frontier and the TIF using the KLEMS data for 1995–2015 and documents the time evolution and sectoral heterogeneity of the innovation possibilities frontier.