Monetary Policy, Economic Uncertainty, and Firms R&D Expenditure

This paper studies the state-dependent effect of monetary policy shocks on firms research and development (R&D) expenditure in the US economy. Empirical results suggest that a 20 basis point increase in the interest rate decreases the aggregate R&D expenditure by 0.6 percent. Furthermore, using Compustat firm-level data, I show a persistent decline in US firms’ R&D expenditure in response to contractionary monetary policy shocks. The effect on R&D expenditure is stronger for interest rate hikes and when firms face higher uncertainty. Economic uncertainty decreases firms’ leverage ratio and makes them more financially constrained. As a result, firms become more responsive in their R&D investment following a contractionary monetary policy shock. I use a medium-scale DSGE model with endogenous output growth and financial frictions to interpret the empirical results. The theoretical model highlights the importance of the credit channel for altering the effects of monetary policy on firms’ investment in R&D in the presence of economic uncertainty.