DP6479 Multilateral Subsidy Games

Author(s): Dermot Leahy, J Peter Neary
Publication Date: September 2007
Keyword(s): Industrial policy, Investment subsidies, Oligopoly, R&D spillovers, Strategic trade policy, Subsidy wars
JEL(s): F12, L13
Programme Areas: International Trade and Regional Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=6479

This paper examines the rationale for multilateral agreements to limit investment subsidies. The welfare ranking of symmetric multilateral subsidy games is shown to depend on whether or not investment levels are "friendly", raising rival profits in total, and/or strategic complements, raising rival profits at the margin. In both Cournot and Bertrand competition, when spillovers are low and competition is intense (because goods are close substitutes), national-welfare-maximizing governments will over-subsidize investment, and banning subsidies would improve welfare. When spillovers are high, national governments under-subsidize from a global welfare perspective, but the subsidy game is welfare superior to non-intervention.