Product Innovations, Process Innovations and Foreign Direct Investment: New Theoretical Aspects and Empirical Findings

The distinction between product innovations and process innovations is crucial for industrialized countries as well as for newly industrialized countries - and only a distinct consideration of product innovations in macroeconomic modeling allows to fully understand Schumpeterian innovation dynamics and their national and international impact. With this focus, initially a simple microeconomic modelling of product versus process innovation is considered in a setting with both inward and outward foreign direct investment, largely following the Bertschek approach. Results from the European Union's Community Innovation Survey are considered as well as relative export unit values - relative to the US EUV - which are a proxy for product innovations in the tradables sector. Regression results show that inward FDI raise both product innovations and process innovations in the EU. The key aspects of both process innovations and product innovations are then considered in an open economy macro model which brings many new insights, including a much better understanding of the links between innovation dynamics, the current account, FDI, the real exchange rate, output and inflation. Product innovations have a different impact on the real exchange rate than process innovations and a dynamic view of the Vernon product cycle is required for an adequate analysis. As regards the demand for money, product innovations affect this demand in a different way to process innovations. Optimal product innovations are also considered. Innovations in Schumpeterian macroeconomics thus gets crucial new perspectives.