The increase in equity prices over the 1990s has to a large degree been attributed to
permanently higher productivity growth that is derived from the ‘new economy’ and related research
and development (R&D) expenditures. This paper establishes a rational expectations model of
technology innovations and equity prices, which shows that under plausible assumptions,
productivity advances can only have temporary effects on fundamentals of equity prices. Using data
on R&D capital and fixed capital productivity for 11 OECD countries, the evidence give strong
support for the model by suggesting that technology innovations indeed have only temporary effects
on equity return
