DP4784 R&D Policies, Trade and Process Innovation

Author(s): Jan I. Haaland, Hans Jarle Kind
Publication Date: December 2004
Keyword(s): process innovation, R&D, subsidies, trade
JEL(s): F12, F13, F15
Programme Areas: International Trade and Regional Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=4784

We set up a simple trade model with two countries hosting one firm each. The firms invest in cost-reducing R&D, and each government may grant R&D subsidies to the domestic firm. We show that it is optimal for a government to provide higher R&D subsidies the lower the level of trade costs, even if the firms are independent monopolies. If firms produce imperfect substitutes, policy competition may become so fierce that only one of the firms survives. International policy harmonization eliminates policy competition and ensures a symmetric outcome. However, it is shown that harmonization is not necessarily welfare-maximizing. The optimal coordinated policies may imply an asymmetric outcome with R&D subsidies to only one of the firms.