Innovation, financial constraints and relationship lending: firm-level evidence in times of crisis

Financial frictions represent a severe obstacle to firmsÕ innovativeness. This paper shows the existence and quantifies the effects of financial barriers to the innovation propensity of Italian SMEs. Employing direct measures of financial constraints and a credit-score estimated ad hoc, I find financially-constrained firms have a probability of innovating that is significantly lower than sound companies (-30%). Results document the existence of a feedback-effect of innovation on firmsÕ financial position, resulting into an additional reduction in firmsÕ propensity to innovate. The paper also highlights the role of soft information in mitigating financial obstacles to innovation by improving the financial condition of more opaque (small) borrowers.