INNOVATION AND COOPERATION UNDER VERTICAL PRODUCT DIFFERENTIATION

This paper analyzes the strategic decisions of two identical duopolists who determine both the timing and the quality of their innovation through their research and development activities. The product market is vertically differentiated and the firms choose the prices of their innovations in Bertrand competition. The firms interact in a two-stage, non-cooperative game, where they first decide on the quality and innovation date and then choose the prices in the second stage appropriately. The existence of equilibria in pure and mixed strategies is analyzed. It is shown that the firms have an incentive to form a Research Joint Venture and to share their research know-how even when research results are certain and there are no spillover effects, and that cooperation is not socially desirable.