Sustainable economic growth in the European Union: The role of ICT, venture capital, and innovation

• DOI: http://doi.org/10.1002/rfe.1064
• Author: Rudra P. Pradhan,Mahendhiran Nair,Mak B. Arvin,Sara E. Bennett
• Date: 01 January 2020
• Published date: 01 January 2020

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wileyonlinelibrary.com/journal/rfe Rev Financ Econ. 2020;38:34–62.

© 2019 University of New Orleans

RESEARCH HIGHLIGHTS

• We consider links among venture capital investment, ICT diffusion, innovation diffusion, and economic growth.

• The sample is European countries between 1989 and 2016.

• We use a panel vector autoregressive model for determining the direction of causality.

• We find both unidirectional and bidirectional causality among the variables.

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INTRODUCTION

The global economic landscape has undergone unprecedented transformations due to several factors, including greater diffu-

sion of new scientific discoveries and technological innovations; the emergence of new technology such as the information

and communication technology1

(ICT); and the introduction of new financial instruments, such as venture capital, that support

high‐risk technological and innovative endeavors.

Received: 1 May 2018

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Revised: 22 December 2018

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Accepted: 28 December 2018

DOI: 10.1002/rfe.1064

ORIGINAL ARTICLE

Sustainable economic growth in the European Union: The role of

ICT, venture capital, and innovation

Rudra P.Pradhan1

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Mak B.Arvin2

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MahendhiranNair3

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Sara E.Bennett4

1Vinod Gupta School of

Management,Indian Institute of

Technology, Kharagpur, West Bengal, India

2Department of Economics,Trent

University, Peterborough, Ontario, Canada

3School of Business and Global Asia in

21st Century Platform,Monash University

Malaysia, Jalan Lagoon Selatan, Malaysia

4College of Business,University of

Lynchburg, Lynchburg, Virginia, USA

Correspondence

Rudra P. Pradhan, Vinod Gupta School

of Management, Indian Institute of

Technology, Kharagpur, West Bengal

721302, India.

Email: rudrap@vgsom.iitkgp.ernet.in

Abstract

Over the past 30years, the economies in Europe have undergone major transfor-

mations that have been powered by diffusion of information and communication

technology (ICT), intensification of innovation, and reforms in the financial sector

to support innovative endeavors. The primary objective of this study was to examine

the causal relationships among ICT diffusion, innovation diffusion, venture capital

investment, and economic growth for 25 countries in Europe for the period from 1989

to 2016. Using a vector error‐correction model, the study examines the underlying

short‐run and long‐run relationships for the above variables. The empirical analysis

shows that in the long run, venture capital investment, ICT diffusion, and innovation

diffusion have significant impacts on economic growth in Europe. However, in the

short run, the direction of the causality varies depending on the specific measures

of ICT diffusion and innovation diffusion that are utilized. Results from this study

provide valuable insights into the types of policies that will contribute to sustainable

economic growth in Europe.

KEYWORDS

economic growth, European countries, ICT diffusion, innovation diffusion, venture capital investment

JEL CLASSIFICATION

O43; O16; E44; E31

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PRADHAN etAl.

While it is widely acknowledged, both in the academic literature and among practitioners, that innovations, ICT, and venture

capital investment are important for sustained economic development, the direction of causation between these variables is still

under‐researched by means of robust empirical investigation. This study attempts to close this gap in the literature by examining

the simultaneous links among economic growth, innovation diffusion, ICT diffusion, and venture capital (VC) investment. We

are especially interested in determining whether the nexus between innovation diffusion and economic growth depends on ICT

diffusion and VC investment in European countries.

Following the endogenous growth models of Romer (1990) and Stokey (1995), various empirical studies have shown that

innovation acts as an important driver2

of economic growth due to innovation's direct impact on the production process by

enhancing productive and allocative efficiencies within the economy (Freeman & Soete, 1997; Grossman & Helpman, 1991;

Hudson & Minea, 2013; Malerba & Brusoni, 2007; Pradhan, Arvin, Hall, & Nair, 2016). New scientific discoveries and tech-

nological innovations enable firms to not only improve their efficiency and productivity, but also discover new “disruptive

technologies” that give them a competitive edge in the market.

Over the last three decades, intensive innovations in ICT have resulted in the proliferation of new user‐friendly ICT tools and

software. These innovations in ICT have had an unprecedented impact on the global economy (Jorgenson & Vu, 2016a,b) and it is

acknowledged that ICT is an important contributor to the gross domestic product (GDP). Advances in ICT infrastructure and hardware

(e.g., new sectors such as the app industry; new creative content; growth in industries such as online gaming), are major contributors

to the wealth of a country(Arvanitis, Loukis, & Diamantopoulou, 2013). ICT is also an important enabler for job creation; workforce

transformations (e.g., flexible work environments); the emergence of new services (e.g., e‐commerce and cloud computing); and the

development of new business innovations and models using the Internet, social media, and other digital technology (Kvochko, 2013).

New discoveries and innovations require major investments in research and development (R&D). However, due to the high

risk of failure of these innovative endeavors, the traditional financial sector tends to shy away from investing in R&D activities.

This has opened up a new market for a new breed of investors, “venture capitalists.” Unlike traditional providers of capital, ven-

ture capitalists have an appetite for high‐risk ventures with potentially high pay‐offs if these innovative ventures can success-

fully transcend the “valley of death” (the period from initial funding for a startup to becoming commercially viable). Various

regulatory reforms were undertaken in many developed countries, including Europe, to ensure the existence of a sustainable

and vibrant venture capital (VC) industry(Carvell, Kim, Ma, & Ukhov, 2013). In Europe, the venture capital industry raised

EUR40billion from 2007 to 2015 and supported more than 28,000 new firms (Metzger, 2016).

Intensive global competition from other countries has resulted in EU countries with high economic growth, such as Germany, pursuing

economic growth strategies such as Smart Manufacturing initiatives (MacDougall, 2014). Smart Manufacturing, also known as “Industry

4.0,” integrates, both vertically and horizontally, multiple production systems via the use of advanced ICT, such as the Internet of Things

(Thoben, Wiesner, & Wuest, 2017). These new economic growth strategies enable firms to enhance their reach for resources, information,

knowledge, and markets. They also assist firms in enhancing the richness of their products and services. To raise the competitiveness of

firms in the EU, the European Commission invested EUR7 billion to transform them into “Factories of the Future” (Ezell, 2016).

The above discussion shows that over the past 30years, Europe has undergone major transformations, by all economic

agents, with: the increased use of ICT; the rapid development of the VC industry; and the intensification of innovation which

has increased economic prosperity. However, the inter‐relationships between the factors that transformed Europe into a major

economic powerhouse have been under‐researched. The primary objective of this study was to rigorously examine causal links

among ICT diffusion, VC investment, innovation diffusion, and economic growth in Europe. Understanding the causal relation-

ships among these factors will provide valuable insights into the types of policies and strategies that countries in Europe, and

perhaps other regions, should put in place to ensure sustained economic growth.

The rest of this paper is organized as follows: Section1 discusses the literature and highlights the contribution of study;

Section2 explains the data, variables, model, and methodology; Section 2.1 offers the empirical results, whilst discussion,

conclusions, and policy implications are covered in Section2.2.

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LITERATURE AND CONTRIBUTIONS

Numerous studies have investigated the innovation, ICT, venture capital, and economic growth nexus. These studies have

varied with regards to the countries that were studied, the time periods of study, and the proxies used to measure these vari-

ables. However, despite these differences, most of these studies examine the relationships between economic growth and only

one or two of the three variables that we consider (innovation diffusion, ICT diffusion, and venture capital investment). In our

paper, unlike other papers in the literature, the causal relationship between any of these two variables is considered in the pres-

ence of the other two variables. This section examines six strands of the literature, particularly with reference to the Granger