The Role of Government Procurement in American Innovation

Abstract

This dissertation explores the role of government procurement in American innovation. By leveraging government R&D contracts, which often carry an implicit promise of future production contracts, the U.S. government plays a central role in incentivizing technological advancement. However, the mechanisms and outcomes of this process remain underexplored. This work addresses three key research questions: (1) How do government R&D contracts influence private sector investment in innovation? (2) What is the private value of these contracts for firms? (3) How do startups leverage government R&D funding to experiment and grow?The first study examines the interaction between government R&D contracts and corporate investment in innovation. Using a novel dataset of $4.2 trillion in federal procurement contracts matched to publicly traded firms, the analysis reveals a ``crowding-in'' effect, where firms co-invest in upstream R&D to secure lucrative, noncompetitive production contracts. A theoretical framework explains the conditions under which bundling R&D and production contracts is optimal, producing higher quality outcomes at lower costs when firms have production capabilities. However, empirical evidence shows that this effect has weakened over time as procurement policy changes have increasingly decoupled R&D from production contracts.The second study quantifies the private value of government R&D contracts, highlighting their dual role in funding innovation and signaling future demand. The stock market reaction to a contract announcement indicates that the value of an R&D contract extends well beyond its face value, averaging 19 times the potential revenue from the contract itself. This value is highly concentrated among large, vertically integrated firms that benefit disproportionately from a procurement regime that bundles R&D and production contracts. A conceptual framework elucidates the mechanisms driving this concentration and its implications for market dynamics.The third study investigates the role of government R&D funding in enabling startups to experiment with technologies and markets. Analyzing $42 billion in R&D contracts awarded to high-tech startups, the study finds that market experimentation drives superior performance outcomes, particularly for low-growth startups. Using exogenous increases in R&D contract value triggered by the end of the fiscal year and eligibility criteria for small business programs, the analysis shows that startups benefit significantly from government funding, but the gains are heterogeneous depending on industry and firm characteristics.Together, these findings emphasize the complex role of government procurement in shaping American innovation. By integrating theoretical insights with empirical analyses, this dissertation highlights the benefits and challenges of government procurement of innovative products and services, offering policy recommendations to enhance the effectiveness of R&D funding in driving technological progress and economic growth.