Competition and Product Innovation in Dynamic Oligopoly

49 Pages Posted: 17 Oct 2011 Last revised: 31 Oct 2013

Date Written: October 30, 2013

Abstract

We investigate the relationship between competition and innovation using a dynamic oligopoly model that endogenizes both the long-run innovation rate and market structure. We use the model to examine how various determinants of competition, such as product substitutability, entry costs, and innovation spillovers, affect firms' equilibrium strategies for entry, exit, and investment in product quality. We find an inverted-U relationship between product substitutability and innovation: the returns to innovation initially rise for all firms but eventually, as the market approaches a winner-take-all environment, laggards have few profit scraps to fight over and give up pursuit of the leader, knowing he will defend his lead. The increasing portion of the inverted-U reflects changes in firm's investment policy functions, whereas the decreasing portion arises from the industry transiting to states with fewer firms and wider quality gaps. Allowing market structure to be endogenous yields different results compared to extant work that fixes the market structure.

Keywords: competition and innovation, R&D, innovation, dynamic oligopoly, inverted-U, spillovers, state space bounds

JEL Classification: C73, D43, L11, L13, L40

Suggested Citation

Goettler, Ronald L. and Gordon, Brett R., Competition and Product Innovation in Dynamic Oligopoly (October 30, 2013). Quantitative Marketing and Economics, Forthcoming, Available at SSRN: https://ssrn.com/abstract=1944933 or http://dx.doi.org/10.2139/ssrn.1944933

Ronald L. Goettler

University of Rochester - Simon School of Business ( email )

Rochester, NY 14627
United States

Brett R. Gordon (Contact Author)

Northwestern University - Kellogg School of Management ( email )

2211 Campus Drive
Evanston, IL 60208
United States

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