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International Schumpeterian Competition and Optimal R&D subsidies

Giammario Impullitti

No ECO2007/55, Economics Working Papers from European University Institute

Abstract: 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.

Keywords: international competition; endogenous technical change; growth theory; strategic R&D subsidies; international policy cooperation (search for similar items in EconPapers)
JEL-codes: F12 F43 O31 O38 O41 (search for similar items in EconPapers)
Date: 2007
New Economics Papers: this item is included in nep-com, nep-cse, nep-ino, nep-ipr, nep-pr~, nep-mic and nep-tid
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