The Effects of Process R&D in an Asymmetric Duopoly under Cournot and Supply Function Competitions

In this paper we attempt to explore the welfare effects of (process) R&D in an asymmetric duopoly with a homogeneous product under Cournot and supply function competitions. To this aim, we consider a two-stage perfect-information game where the duopolists compete in stage one in R&D investments and in stage two either in quantities or in supply functions. Calculating the (subgame-perfect Nash) equilibrium of this game numerically for a wide range of initial cost parameters and comparing it to the equilibrium with no R&D, we show that R&D has a positive effect on the welfares of consumers and the society as a whole. While its effect on the profits of the duopolists is also positive under the Cournot competition, it becomes negative under the supply function competition. This latter negative effect is caused by the duopolists' more aggressively investing in R&D under the supply function competition, increasing the industry output, and consequently decreasing the product price, to a harmful level for themselves. Moreover, we show that R&D always widens up the efficiency gap between the duopolists under the supply function competition, while narrowing it down under the Cournot competition.