Unintended policy consequences in financing industry emergence - the case of US and German cleantech markets
This paper investigates direct and indirect policy effects that affect actors not targeted by policy makers in the finance-innovation-policy relationship. First, we confirm prior research that market pull policies, especially feed-in tariffs (Mary Jean Burer & Wustenhagen, 2009; Criscuolo & Menon, 2015; Hoppmann et al., 2013) attract VC/PE investors into certain industries. This view is also shared by institutional investors, as critical actors supplying funds to VC/PE investors. Going beyond the R&D stage with subsidies or even equity investments, as highlighted by Olmos et al. (2012) is generally seen as critical throughout our study. Especially investors perceive the policy risk as high and they do not understand the behavior of public sector agents as coinvestors. Regarding the general VC/Policy linkage we can confirm that, exit opportunities, favorable treatment of initial losses in the tax regime and capital market development (Bottazzi & Da Rin, 2002; Da Rin et al., 2006b; Lerner & Tag, 2013a) are leverage points to stimulate VC/PE investments. In this regard institutional investors play a crucial role as they evaluate market opportunities before investing into new funds (relation 1b and 1c). We therefore confirm the notion that support schemes for VC in specific industries need to take into account the mechanisms in the equity markets to be effective (Lerner, 2002, 2009).
Second, conflicting aims of innovation and financial policy is the state of the financial industry in the aftermath of the financial crisis represent a case in point for indirect policy influences. Excessive risk taking and unbalanced risk-to-reward ratios were identified among the reasons leading to the financial crisis and recent corrective actions have been targeted at decreasing the risk exposure across all parts of the financial industry. While measures to decrease risk exposure can help to stabilize the state of the financial industry, the impacts of these measures usually lead to a drought of capital for innovators in small and medium-size enterprises (SME) (relation 2b and 2c in Figure 13). Policy makers need to differentiate between ‘good and bad’ risks as suggested by Mazzucato (2013a) in order to allow risky investments into VC/PE while at the same time limiting speculation in the financial markets.
There are key differences at the second tier between the United States and Germany with respect to the 2008 financial regulations. While the United States (still) exhibit an investor base with the potential to supply PE with substantial funds, there are comparatively fewer investors in Germany with PE experience (McCrone, 2015). The lack of local anchor investors is an obstacle to the fundraising process and can deter outside investors from committing capital, as capital markets are regionally dispersed (Destin, 2012). Therefore, PE faces some challenges in obtaining funding in the United States, and less resilient alternative investment markets in Germany might experience setbacks in their development, especially with respect to early-stage financing. VCs in the US and in Germany, especially in the clean technology and sustainability field, experienced difficulties in raising follow-on funds for their 20062008 fund generations (Knowles, 2013).
With our analysis, we add new perspectives on the linkages between financial policy and innovation policy (for an overview about policy blunders see Graham, 2005). Although the financial crisis is an exogenous shock, the systemic question of how financial policy is influencing the conditions for innovation, has been a relevant question for (national) policy. The comparison between Germany and US revealed that the institutional changes to reduce risk in asset allocations in the financial sector have affected the financing of US cleantech firms less than it affected German firms due to a robust and long-standing base of institutional investors.
Uncoordinated, individual policies, such as financial market regulation can have powerful ramifications for innovation outcomes that they do not target. In extension of previous literature on financing innovation (Mazzucato, 2013a, 2013b) and policy mixes (Flanagan et al., 2011b; Magro & Wilson, 2013) we underline the implicit role financial policy plays for innovation. Illustrated by the comparison between the United States and Germany, the economic (and environmental) policy stance regarding CT is quite different, while at the same time, the attitude toward financial policy is also different (Hess, 2014). Still, the coupling of objectives of long-term-oriented financial regulation with innovation policy incentives mitigates conflicts. Our empirical findings suggest that scholars should look for more trade-offs involved in decision making of policy makers by identifying other indirect effects (cf. Flanagan et al., 2011b).