International R&D spillovers, innovation by learning from abroad and medium-run fluctuations

Many developed economies have experienced large and correlated fluctuations in the medium run over the postwar period. A good number of industrialized countries experienced high productivity growth during the 1960’s and low growth between the early 1970’s and the early 1980’s.

This paper asks whether technology diffusion from abroad has quantitatively important effects on the medium-run fluctuations. To do this, the paper builds a two-country and two-sector version of a real business cycle model extended to incorporate research and development (R&D)-based endogenous technological change and international R&D spillovers. Assuming that one country is a technological leader and the other is a follower, the model shows that the leader country’s R&D has an effect on the follower country. This is because the leader’s innovations generated by its R&D diffuse to the follower. The effect on the follower economy due to R&D spillovers from the leader, however, does not emerge automatically nor exogenously. It depends on R&D by the follower. The follower’s R&D plays an absorptive role in learning frontier technologies: technology absorptive creation. The follower country learns from the leader to produce technologies (i.e., new types of goods) that are suitable for use in its own environment. The technology absorptive creation is assumed to be a key role of the follower country’s R&D and is called "innovation by learning (IBL) from abroad" in this paper. The IBL from abroad makes the cost of R&D in the follower country dependent on a technology gap between the leader and the follower (the cost decreases with the gap). This leads to a close connection between the leader’s R&D and the follower’s R&D. As a result, changes in the leader’s R&D cause fluctuations in the follower’s technology level and other variables.

Assuming that the U.S. is a technological leader and Japan is a technological follower, the paper assesses how well the present model can generate Japanese medium-run macroeconomic fluctuations. Calibrating the model to U.S. and Japanese data, the paper shows that changes in U.S. R&D expenditure alone can greatly explain Japan’s medium-run fluctuations. The primary data sources are the Penn World Table, FRED Economic Data, and Social Research Institute, Cabinet Office "SNA (National Accounts of Japan)". The sample period is 1963-2010. With exogenous U.S. R&D, the model was successful in reproducing medium-run fluctuations in Japanese TFP, output, R&D, consumption, investment, and labor.