Bigger is better: Market size, demand elasticity and innovation

Klaus Desmet and Stephen Parente ()

No 2008-10, Working Papers from Instituto Madrileño de Estudios Avanzados (IMDEA) Ciencias Sociales

Abstract: This paper proposes a novel mechanism whereby larger markets increase competition and facilitate process innovation. Larger markets, in the sense of more people or more open trade, support a larger variety of goods, resulting in a more crowded product space. This raises the price elasticity of demand and lowers mark-ups. Firms, therefore, become larger to break even. This facilitates process innovation as larger firms can amortize R&D costs over more goods. We demonstrate this mechanism in a standard model of process and product innovation. In doing so, we question some important results in the new trade and endogenous growth literatures.

Keywords: trade; population; price elasticity; competition; innovation; firm-size; scale effects; Dixit-Stiglitz; Hotelling (search for similar items in EconPapers)
JEL-codes: F12 L11 O31 (search for similar items in EconPapers)
Date: 2008-10-27
New Economics Papers: this item is included in nep-bec, nep-com, nep-cse, nep-ino, nep-mic and nep-tid
Note: This paper is included in the IMDEA Social Sciences Working Paper Series through the PROCIUDAD-CM Programme
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Citations: View citations in EconPapers (10)

Published International in Economic Review 51(2), May 2010: 319-333

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Related works:
Journal Article: BIGGER IS BETTER: MARKET SIZE, DEMAND ELASTICITY, AND INNOVATION (2010)
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