Competition and Innovation: The Inverted-U Relationship Revisited

45 Pages Posted: 29 Feb 2012 Last revised: 16 Jul 2014

See all articles by Aamir Rafique Hashmi

Aamir Rafique Hashmi

University of Calgary - Department of Economics; University of Calgary

Date Written: February 29, 2012


I re-examine the inverted-U relationship between competition and innovation (originally modeled and tested by Aghion et al. (2005) by using data from publicly traded manufacturing firms in the US. I control for the possible endogeneity of competition by using a trade-weighted average of industry exchange rates as the instrument. I find a mildly negative relationship between competition (as measured by the inverse of markups) and innovation (as measured by citation-weighted patents). The relationship is robust to many alternative assumptions and specifications. To reconcile the mildly negative relationship in the US data with the inverted-U relationship that Aghion et al. (2005) find in the UK data, I modify their theoretical model and show that the modified model can explain both negative and inverted-U relationships. The key theoretical assumption is that the UK manufacturing industries are technologically more neck-and-neck than their counterparts in the US. I find support for this assumption in the data.

Keywords: Competition, Market Structure, Innovation, Schumpeter

JEL Classification: L10, O30

Suggested Citation

Hashmi, Aamir Rafique, Competition and Innovation: The Inverted-U Relationship Revisited (February 29, 2012). Review of Economics and Statistics, 2013, 95(5), pp. 1653--1668., Available at SSRN: or

Aamir Rafique Hashmi (Contact Author)

University of Calgary - Department of Economics ( email )

2500 University Drive, NW
Calgary, Alberta T2N 1N4

University of Calgary ( email )

2500 University Drive NW
Calgary, Alberta T2N 1N4


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