Innovation Capability, Institutional Quality, and National Economic Performance: Evidence from a Global Panel with Mediation and Moderation Analysis

Abstract

Objectives: This paper examines the impact of national Innovation Capability (ICI), a composite index based on R&D spending, high-technology export intensity and digital infrastructure penetration, on economic performance, measured by GDP per capita. It also poses a question about the control of institutional quality and the mediation of digital infrastructure diffusion to the relationship.

Design/Methodology/Approach: This analysis is based on a balanced panel of 50 countries from 2010 to 2022 (663 country-year observations overall) created using World Bank World Development Indicators (WDI) and OECD Statistics. The empirical approach includes Ordinary Least Squares (OLS) estimation, two-way fixed effects (TWFE), a two-stage least squares (2SLS) instrumental variable approach inspired by the System GMM and formal mediation analysis following the Baron-Kenny-Sobel framework. Moderation effects are allowed for by the inclusion of interaction terms and non-linear dynamics are explored in the quadratic specification.

Results: ICI has a positive and significant impact on national income both in the OLS baseline model (β = 1.052, p < 0.001) and in the fixed effects model (β = 0.734, p < 0.001), indicating that the impact of ICI is positive and economically significant. The quality of the institutions significantly interacts with this relationship (β_interaction = −0.924, p < 0.001); the returns to innovation are partly dependent on, and moderated by, the institutional context. The mediation analysis indicates that the total effect of digital infrastructure on economic performance (internet penetration) is 76.0% (95% CI: (74.7%, 77.4%)), and the non-linear estimation reveals a negative effect of ICI when the capability level is high (β_ICI² = −0.115, 95% CI: (−0.119, −0.112), p < 0.001). These findings are robust to alternative specifications, endogeneity corrections and subsamples.

Originality/Value: The study has three contributions. It develops and validates a multi-dimensional Innovation Capability Index for cross-national analysis that connects the Resource Based View and Dynamic Capabilities Theory at the macro level. It also sheds light on the mediating role of digital infrastructure, which is something that has received very little research attention in macro-innovation-performance research. Lastly, it reveals how the ICI-performance relationship is heterogeneous across institutions, presenting different policy implications for emerging economies and advanced economies.