Uncertainty and Innovation

Abstract

[evdate 2014-12-04] IAS Conference on Entrepreneurship and Finance. Talk no.2 Title from opening screen.

IAS Conference on Entrepreneurship and Finance, held 4 Dec., 2014, at the Hong Kong University of Science and Technology. Sponsor, HKUST Jockey Club Institute for Advanced Study, and co-sponsor by Center for Asian Financial Markets, Department of Finance, HKUST.

Abstract: Investors must typically decide whether or not to fund an innovative project with very limited knowledge of the odds of success, a situation that is best described as 'Knightian uncertainty'. This paper argues that innovation waves can be the product of investors' uncertainty (or 'ambiguity') aversion. We show that uncertainty-averse investors are more willing to accept an uncertain lottery, such as investing in a new innovative venture, if they can also take other uncertain lotteries, that is, to make contemporaneous investments in other innovative ventures. This means that uncertainty aversion makes investment in innovative projects strategic complements, which results in innovation waves. We also show that innovation waves may be sparked by favorable technological shocks in one sector, and then spill over to other contiguous sectors. Thus, innovation waves ripple through the economy. We also argue that uncertainty aversion has implications for the composition of venture capital portfolios, and the structure of the venture capital industry.

Duration: 34 min.