Impact of Technical Progress on the Relationship Between Competition and Investment

This paper investigates the impact of technical progress on the relationship between competition and investment. Using a model of oligopolistic competition with differentiated products in which firms invest to reduce their marginal cost of production (or to improve quality), I find that technical progress, by increasing the size of innovation, defined as the drop in marginal costs (or the increase in quality) obtained for a given investment amount, increases total investment and decreases the level of competition that maximizes investment in the industry. This feature also holds for consumer surplus and welfare. This means that innovative industries maximize consumer surplus and welfare at a lower level of competitive pressure than do less innovative industries. In the model, competition is measured either by the number of competitors or by the degree of horizontal substitutability between offers. The results hold for both measures, subject to a relatively steady industry specific rate of technological change.