Endogenous dynamics between innovation, financial markets, venture capital and economic growth: Evidence from Europe

Abstract

Much of the literature on venture capital (VC) investment focuses on the impact of such investment on firm performance. Although some studies consider the link between VC investment, innovation, and economic growth (usually in a pair), the role of financial development in these relationships is often considered only in the periphery, if it is considered at all. The present study uses a panel vector error-correction model to study the Granger causality among VC investment, innovation, per capita economic growth, and financial development. We study 23 European countries over the period of 1989–2015 and consider several different measures of innovation based on indicators such as patenting, trademarks, research and development, and researcher activities. The empirical results indicate that all three variables (VC investment, financial development, and innovation) contribute to long-term economic growth. The results also show strong endogenous relationships among the four variables in the short run based on the types of innovation indicators and venture capital measures used in the empirical model. The short-run and long-run analysis between the variables provides important policy implications for securing sustained economic growth in Europe.