Innovative or complacent: The impact of financial conditions on firms’ strategic innovation activities—A game-theoretical approach

Abstract

This study investigates the influence of Research and Development (R&D) program conditions on strategic project selection within firms, employing a game-theoretic approach. It hypothesizes that firms align their optimal project choices with the broader objectives akin to a social planner’s perspective. The developed theoretical model forecasts behavioral patterns of firms under varied R&D program conditions, which is substantiated by empirical analysis within the unique quasi-experimental policy environment of South Korea. According to the model, firms facing higher financial costs are inclined to select projects with lower probabilities of success but potentially higher returns (high risk-high reward), in contrast to those with lower costs, which prefer projects with higher success probabilities but lower returns (low risk-modest reward). The findings from both theoretical projections and empirical validation suggest that the financial circumstances significantly shape the innovation dynamics within firms’ R&D activities. These results underscore the need for careful consideration of these factors in the design and implementation of R&D financing policies.