13.02.2025The Wage-Innovation Link: New Empirical Evidence

Rising wages are driving increased innovation in automation technology as firms seek cost-saving innovations to replace expensive labor – so the well-documented economic theory suggests. But what is the reality? Do firms actually drive and implement automation innovation in response to external pressures, such as higher wages? Despite theoretical evidence being well-established, empirical evidence has been lacking until today. In their new study, David Hémous, UBS Foundation Associate Professor of Economics of Innovation and Entrepreneurship, and co-authors* provide now strong empirical findings, confirming the idea.

An innovative approach

To carry out this study, the authors implemented an innovative approach that combined two distinct datasets. The first involved a newly developed classification of automation patents, using European patent data. The researchers focus on automation patents as a direct measure of technological innovation whereas previous studies limited the examination of the adoption of existing technologies only. This new dataset enables the measurement of firms' innovation activity by tracking automation-related patents at the firm level. This patent-dataset was then combined with a macroeconomic dataset covering 41 countries, focusing on innovative firms exposed to global market forces and was used to compute wage levels. Crossing the two datasets enables a firm-level analysis of how wage fluctuations drive automation innovation. This approach allows researchers to isolate the causal impact of labor costs on technological advancements, providing a more precise understanding of firms' responses to wage changes.

Labor market policies and their unintended technological consequences

In their study, the authors analyzed past labor market reforms and their impact on innovation trends, confirming their assumption. They find out that higher minimum wages drive firms to develop more automation technologies. Conversely, the German “Hartz” reforms, a major labor policy reform implemented between 2003 and 2005 that lowered wages, led to a decline in automation innovation among firms exposed to the German market. These findings highlight how labor market policies directly shape firms' incentives to invest in automation – or not – ultimately influencing long-term innovation trajectories.

Strong empirical evidence and outlook

The study provides strong empirical support for the idea that higher low-skill wages incentivize automation innovation: with a 1% wage increase leading to a 2% to 5% rise in innovation.

Conversely, rising high-skill wages reduce automation innovation, as operating and installing automation machinery often requires high-skill labor. Importantly, the authors find that non-automation innovations (for instance improvement in energy efficiency) do not respond to wage shocks. Policy shocks, such as minimum wage hikes and Germany’s Hartz reforms, further highlight how labor market policies shape technological development and long-term economic dynamics, such as economic growth. Besides, the authors suggest further research into the extent to which rising high-skill wages have influenced the development of recent automation technologies, such as AI.

* David Hémous, Morten Olsen Carlo Zanella, Antoine Dechezleprêtre, Induced Automation Innovation: Evidence from Firm-level Patent Data, Journal of Political Economy, 2025