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An explanation for the inverted-U relationship between competition and innovation

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Abstract

The Dixit-Stiglitz model is extended by the possibility for rms to un- dertake process innovation. The model can provide a new explanation to describe the relationship that research activity of rms is positively corre- lated with product market competition at low levels of competition, and negatively at high levels that has been found in the data. The initial pos- itive relationship is caused by an increased business stealing opportunity with more competition, while the negative eect comes from the reduc- tion of the markup due to higher competition (measured as elasticity of substitution). Also the ambiguous relationship of market entry barriers with respect to research activity is discussed using a less general form of the model. This framework may also be used to explain the inverted-U relationship found between competition and advertising expenditures.

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Paper provided by University of Vienna, Department of Economics in its series Vienna Economics Papers with number 0813.

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Date of creation: Dec 2008
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Handle: RePEc:vie:viennp:0813

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  1. Vives, Xavier, 2005. "Innovation and Competitive Pressure," Department of Economics, Working Paper Series qt1s1059vr, Department of Economics, Institute for Business and Economic Research, UC Berkeley.
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Cited by:
  1. Michael Polder & Erik Veldhuizen, 2012. "Innovation and Competition in the Netherlands: Testing the Inverted-U for Industries and Firms," Journal of Industry, Competition and Trade, Springer, vol. 12(1), pages 67-91, March.

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