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The dynamics of innovation and horizontal differentiation

  • Narajabad, Borghan
  • Watson, Randal
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    We study innovation in a dynamic stochastic discrete-time duopoly with endogenous horizontal differentiation. Innovation takes the form of a quality ladder; horizontal differentiation is Hotelling competition. We compute Markov-perfect equilibria and study the effects on long-run innovation of changes in taste heterogeneity (transport costs) and firms' costs of relocating products. Innovation rises as the industry's long-run position moves toward products that are permanently co-located in the space of horizontal tastes. A large enough fall in taste heterogeneity will raise long-run innovation, while more costly product relocation lowers innovation if taste heterogeneity is high, and raises it otherwise.

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    Article provided by Elsevier in its journal Journal of Economic Dynamics and Control.

    Volume (Year): 35 (2011)
    Issue (Month): 6 (June)
    Pages: 825-842

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    Handle: RePEc:eee:dyncon:v:35:y:2011:i:6:p:825-842
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