The Effects of Competition and Monitoring on R&D Investment: A Dynamic Approach

39 Pages Posted: 31 Jul 2017

See all articles by Mohammad Rezaei

Mohammad Rezaei

University of California, Berkeley - Real Estate Group, Students

Mark D. Schroder

Michigan State University - The Eli Broad Graduate School of Management

Date Written: July 25, 2017

Abstract

We examine a dynamic model of R&D investment by competing firms with an uncertain payout and uncertain time to development success. The effect of competition on R&D investment depends critically on whether firms are able to monitor, and react to, each other's actions. In the absence of monitoring, competition speeds up investment and erodes option values. When monitoring is allowed, the Pareto-dominant closed-loop equilibrium is identical to the first-best cooperative equilibrium, with investment that is increasingly postponed as more firms enter the market. A novel approach, solving a sequence of pure-jump equilibria, is used to obtain the equilibrium in the Brownian limit.

Keywords: real options; Brownian motion; Nash equilibrium; open loop; closed loop

JEL Classification: Q31

Suggested Citation

Rezaei, Mohammad and Schroder, Mark D., The Effects of Competition and Monitoring on R&D Investment: A Dynamic Approach (July 25, 2017). Available at SSRN: https://ssrn.com/abstract=3009416 or http://dx.doi.org/10.2139/ssrn.3009416

Mohammad Rezaei

University of California, Berkeley - Real Estate Group, Students ( email )

CA
United States

Mark D. Schroder (Contact Author)

Michigan State University - The Eli Broad Graduate School of Management ( email )

323 Eppley Center
East Lansing, MI 48824-1121
United States
517-432-0622 (Phone)
517-432-1080 (Fax)

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