International Schumpeterian competition and optimal R&D subsidies

European University Institute 2007

This paper studies the welfare effects of international competition in the market for innovations, and analyzes how competition affects the costs and the benefits of cooperative and non-cooperative R&D subsidies. I set up a two-country quality-ladder growth model where the leader, the home country, has R&D firms innovating in all sectors of the economy, and the follower, the foreign country, shows innovating firms only in a subset of industries. The measure of the set of sectors where R&D workers from both countries compete for innovation determines the scale of international Schumpeterian competition. Both governments engage in a strategic R&D subsidy game and respond optimally to changes in competition. For a given level of subsidies, increases in foreign competition raise the quality of goods available (growth effect) and lowers domestic profits (business-stealing effect); the overall effect of competition on domestic welfare depends on the relative strength of these two counteracting forces. When governments play a strategic subsidy game, increases in foreign competition trigger a defensive innovation policy mechanism that raises the optimal domestic R&D subsidy. Cooperation in subsidies leads both countries to set higher subsidies. Finally, while cooperation is beneficial for the global economy, there exists a threshold level of competition below which the home country experiences welfare losses under cooperation.

international competition; endogenous technical change; growth theory; strategic R&D subsidies; international policy cooperation; O41; O31; O38; F12; F43; Working Paper

English

ITCAD oai:cadmus.eui.eu:1814/7730
1830-7728
1134289769

EUROPEAN UNIV INST - CADMUS
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