Do Innovation Tax Incentives Increase Both the Quantity and Productivity of Innovation? 

Abstract

We investigate the effect of state R&D tax credits on the productivity of innovation. We utilize the research quotient (RQ), which captures a firm’s ability to generate revenue from its R&D investment, as a measure of innovation productivity. Using the staggered adoption of state R&D tax credits across the U.S., we first find that introducing R&D tax credits significantly increases R&D expenditures. More importantly, our results indicate that state R&D tax credits positively influence innovation productivity, with effects concentrated among firms that expand R&D investments rather than those utilizing existing inputs more efficiently. Consistent with our theoretical mechanism, firms whose innovation productivity increases following credit adoption also exhibit higher firm risk. Our study contributes to the literature on the real effects of taxation and investment productivity by demonstrating that R&D tax credits not only boost R&D spending but also enhance the productivity of these investments.