Paying off the Competition: Contracting, Market Power, and Innovation Incentives

Xuelin Li, Andrew Lo () and Richard Thakor

No 28964, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: This paper explores the relationship between a firm’s legal contracting environment and its innovation incentives. Using granular data from the pharmaceutical industry, we examine a contracting mechanism through which incumbents maintain market power: “pay-for-delay” agreements to delay the market entry of competitors. Exploiting a shock where such contracts become legally tenuous, we find that affected incumbents subsequently increase their innovation activity across a variety of project-level measures. Exploring the nature of this innovation, we also find that it is more “impactful” from a scientific and commercial standpoint. The results provide novel evidence that restricting the contracting space can boost innovation at the firm level. However, at the extensive margin we find a reduction in innovation by new entrants in response to increased competition, suggesting a nuanced effect on aggregate innovation.

JEL-codes: D42 D43 G31 K21 L41 L43 L65 O31 O32 (search for similar items in EconPapers)
Date: 2021-06
New Economics Papers: this item is included in nep-com, nep-ind, nep-reg and nep-tid
Note: CF EH LE PR
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Citations: View citations in EconPapers (14)

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