Market frictions in entrepreneurial innovation: Theory and evidence

We propose a model of entrepreneurial innovation that rationalizes its pattern of boom and bust. In the model, a successful entrepreneurial project is the result of a search and matching process between entrepreneurs and capitalists. A strategic complementarity between the entrepreneurs’ demand for funds and the capitalists’ supply arises both on the extensive and on the intensive margin. Using data from the Global Entrepreneurship Monitor, and collecting data on the venture capital market of 23 OECD countries plus China for the period 2007–2015, we find robust evidence of complementarity across the two sides of the market. We also provide a quantitative estimate of a multiplier effect originating from such complementarity.