The purpose of this paper is to investigate the effect subsidies have on firm-level innovation across Eastern European and Central Asian countries and to assess if these effects move to increase firm-level capability. Specifically, we investigate the extent subsidy programs act to shape and guide firm-level innovative capabilities and how the presence of such capabilities affect operational performance. We employ a Probit model to investigate firm-level innovation and OLS regression to assess how subsidies, in association with the decision to adopt foreign technology and in-house research and development (R&D) affect firm productive capacity. Results suggest subsidies promote innovation and that when these subsidies are contemporaneously considered in the face of the decision to adopt foreign technologies and employ in-house R&D, firm-level capacity increases.

Innovation Capacity: A Firm Level Response to Subsidy Activity in a National Setting

A key prediction of transaction cost economics (TCE) is that the presence of relationship-specific assets increases the likelihood of vertical integration whenever contracts are incomplete. I explore a firm-level data set on Eastern European and Central Asian firms, the BEEPS 2005 Survey provided by the EBRD and World Bank, to test this prediction. I measure lock-in by supplier substitution, and find the TCE prediction confirmed in the data. Testing whether the determinants of vertical integration also drive investment decisions, I find that lock-in raises the probability to engage in R&D, but has no robust effect on investment in physical assets. JEL classification: L14, L23, L25.

Liliane Giardino-Karlinger

Papers

Lock-In, Vertical Integration, and Investment: The Case of Eastern European Firms ∗