Cohesion Policy Meets Heterogeneous Firms

Abstract

In this paper, we empirically test the effect of the EU Cohesion Policy using a unique dataset of 273,500 European manufacturing firms, combining regional policy data at NUTS-2 level with firm-level total factor productivities (TFP). In a framework of heterogeneous firms and different absorptive capacity by regions, we show that financing by the European Regional Development Fund (ERDF) aimed at direct investments in R&D is associated with improvement of firms’ productivity in a region, while funding designed at overall Business Support is not. The positive association with RTD spending is stronger in the first quartile of the TFP distributions, i.e., for firms that are least efficient in a region, apparently in line with the priority of the policy, which aims at improving firms’ competitiveness with an eye towards small and medium enterprises (SMEs). We finally argue that considering the heterogeneous distribution of firms’ inefficiencies within a region is crucial for a better design of the Cohesion Policy, better than looking at regional aggregates, to avoid a misallocation of resources.