R&D Investment and Technological Appropriability in a Preemption Model

Abstract

In a continuous-time model with stochastic demand, two firms enter the product market via R&D innovations. Unlike previous studies, appropriability is characterised -via the Freund bivariate exponential- as the extent to which the lead patent affects the innovation probability of the rival, whose technological opportunities thereby expand or contract.
We find that R&D investment is more procyclical the weaker the appropriability and we identify four investment mechanisms. With weak appropriability, demand-pulled investments supplement low technological opportunities, while stronger opportunities are seized via early R&D leadership (in periods of low demand) resulting in early monopoly, persisting longer the easier the innovation and more volatile the demand. With strong appropriability instead early R&D leadership supplements low technological opportunities, while strong opportunities trigger early patent races and drive investment towards the Marshallian trigger. The response of R&D investment to adverse changes in the demand differs substantially according to the investment mechanism in action.

Keywords: Innovation, R&D, intellectual property, appropriability, spillovers, Stackelberg games, preemption games, real options, geometric Brownian motion

JEL Classification: C73, D8, O3