DP3815 Compatibility Standards and Strategic Trade Policy

Author(s): Uwe Walz, Bernd Woeckener
Publication Date: March 2003
Keyword(s): compatibility decisions, standards, strategic trade policy
JEL(s): F12, F13, L13
Programme Areas: International Trade and Regional Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=3815

We analyse the compatibility decisions of two national firms producing horizontally differentiated variants of a good that exhibits network effects for the world market. One of the firms is able to endogenously establish an installed base in its domestic market. The firm's effort in that respect is reinforced by a production subsidy that covers the firm's domestic market. With the help of a three-country model we ask under which circumstances this local subsidy may be and actually is used as a strategic trade-policy device. We show that the installed-base effect plays a role only when the firms opt for incompatibility. In addition, we obtain the result that only for intermediate values of the network-effect parameter incompatibility is chosen. In all other cases, compatibility emerges and so the local subsidy can be shown to increase world welfare.