Policy Uncertainty, Technological Competition, and Industry Dynamism

Abstract

We highlight a firm’s relative performance position as a critical determinant of firm incentives to innovate under uncertainty. The upside potential from increasing uncertainty (or the “growth-options” effect) asymmetrically benefits laggards with more to gain and little to lose relative to leaders. As a result, uncertainty increases the rate of innovation by laggards relative to leaders and decreases the leader-laggard gap. The asymmetric upside can explain why uncertainty has highly heterogeneous effects both within industries based on a firm’s relative performance position as well as across industries based on their technological and competitive features. At the industry level, our findings suggest that high uncertainty provides a period of intensifying neck-and-neck competition and a reshuffling among leaders and laggards, rather than a stagnant period of status-quo.