R&D COMPETITION WITH ASYMMETRIC FIRMS

This paper considers a non‐tournament duopoly model of process innovation. Costs of production can be reduced by firms spending on R&D. Firms are asymmetric in the sense that they may differ in their initial costs of production. It is shown that the high‐cost firm may spend more (or less) in R&D than its low‐cost rival. This main result is dependent on the relative magnitude of two important forces: the incentive effect, whereby the low‐cost firm always has a stronger incentive to spend on cost‐reducing R&D, and the effectiveness factor, which favours the high‐cost firm.