A theory of the US innovation ecosystem: Evolution and the social value of diversity

This paper develops a simple model of the rise and fall of the large corporate lab. Large firms can either grow through internal research carried out inside their labs, or by commercializing external inventions created by start-ups. Invention by start-ups is spurred by university research. Internal research exhibits an inverted-U pattern driven by two trends: (i) the rise of university research and (ii) the increasing importance of science to invention. We use the model to assess whether the substitution of internal research with external invention can result in welfare losses due to insufficient diversity in the innovation ecosystem. If large firms and start-ups focus on different types of inventions, large firms can have a socially excessive incentive to focus on commercializing external inventions, to the detriment of internal research. This occurs when complementary assets confer a substantial advantage to large firms but other start-ups are already trying to commercialize similar inventions, so that the social value of large firms commercializing start-up inventions is limited. The model shows that, despite social benefits in facilitating external innovation, a division of innovative labor may reduce diversity in the types of innovations produced.