K.Arrow:The case of a major inventionsDIncentivesforfirmsincompetitivemarketPmhigherPoSMonopolisticFirmArea (P'm S, V, W)P'mMinus Area (Pm B, T, PO)ReplacementeffectHFirminCompetitiveMarketVActs as a MonopolyWKAreaPOAKWDTechnische Universiteit0TUMoQo M,eEipdhovenUniversity of TechnologyEconomics109/29/2013of Innovation2013
9/29/2013 Economics of Innovation 2013 10 K. Arrow: The case of a major invention K C1 Q $ W D’ Qo 0 H P0 A S D P’m Pm C0 T M0 M1 V Incentives for firms in competitive market B higher Monopolistic Firm Area (P’m S, V, W) Minus Area (Pm B, T, P0) Replacement effect Firm in Competitive Market Acts as a Monopoly Area P0 A K W
K.Arrow:The case of a major inventionLogicoftheargument:Innovation>largedecreaseincosts(Co<<C1)Competitivefirm:lowersprice,actsasamonopolyMonopolisticfirm:lowersprice,lessincentivetoproduce innovation (Replacementeffect):Benefits:monopoly (l)<competitivefirm (l/ll)K.Arrow:Competitive market structure havealways higherincentivesforinnovation!TechnischeUniversiteitTUEindhoven-UniversityofTechnologyEconomics119/29/2013of Innovation2013
9/29/2013 Economics of Innovation 2013 11 K. Arrow: The case of a major invention • Logic of the argument : • Innovation > large decrease in costs (C0 << C1) • Competitive firm: lowers price, acts as a monopoly • Monopolistic firm: lowers price, less incentive to produce innovation (Replacement effect) • Benefits: monopoly (I) < competitive firm (I/II) K. Arrow: Competitive market structure have always higher incentives for innovation!
J.A.Schumpeter:Twomodels on marketstructure and innovationSchumpeterMarkl:“Creative destruction"Singleentrepreneurlinnovatorcentraltoinnovation(e.g.PhilipsandSiemens)TechnologicallyEasytoEnterIndustryNewSmall FirmscontributetoInnovationsinIndustryEmerging of newindustries(electronics,chemicalindustry)(vs.“old"industries)StudiesIndustrieslate1gth/begin20thcenturyRadicallychangeway of production,organizationanddistribution("TheTheoryofEconomicDevelopment"1912)TechnischeUniversiteitTUEindhovenUniversityofTechnology12EconomicsofInnovation20139/29/2013
J.A. Schumpeter: Two models on market structure and innovation Schumpeter Mark I: “Creative destruction” • Single entrepreneur/innovator central to innovation (e.g. Philips and Siemens) • Technologically Easy to Enter Industry • New Small Firms contribute to Innovations in Industry • Emerging of new industries (electronics, chemical industry) (vs. “old” industries) • Studies Industries late 19th /begin 20th century • Radically change way of production, organization and distribution (“The Theory of Economic Development” 1912) Economics of Innovation 2013 9/29/2013 12
Schumpeter: Two models on marketstructure and innovationSchumpeterMarkllModel:“Creativeaccumulation"Large firms becomes central to innovation (e.g.chemical&electronicsindustry)Sizeof IndustrialR&Dlaboratoryimportantforinnovation(e.g.EconomicsofscaleinR&D)Barriers toentry for new innovators and small firmsLargefirmsadvantagesbasedonaccumulatedstockofknowledgeinspecifictechnological areas,competenciesinR&D,productionand distributionand relevantfinancial resources("Capitalism,SocialismandDemocracy"1942)Technische UniversiteitTUEindhovenUniversityofTechnologyPAGE13EconomicsofInnovation20139/29/2013
Schumpeter: Two models on market structure and innovation • Large firms becomes central to innovation (e.g. chemical & electronics industry) • Size of Industrial R&D laboratory important for innovation (e.g. Economics of scale in R&D) • Barriers to entry for new innovators and small firms • Large firms advantages based on accumulated stock of knowledge in specific technological areas, competencies in R&D, production and distribution and relevant financial resources (“Capitalism, Socialism and Democracy” 1942) Economics of Innovation 2013 9/29/2013 PAGE 13 Schumpeter Mark II Model: “Creative accumulation
Reflection in management literatureonviewsSchumpeter'sMarkllmodel:AdvantagesoflargefirmsforinnovationBetterabletospreadfixedcostsoveralargesalesbaseAdvantagesinfinancial marketsBetterexploiteconomiesofscaleandscopeinresearchLarge,diversifiedfirmsarebetterabletoexploitanunexpecteddiscoveryArrow(andSchumpeterMarkImodel):Advantagesofsmallfirmsforinnovation·HigherflexibilityCanentermarket nichesmoreeasilyTechnische UniversiteitTUEindhoven-University of TechnologyEconomics149/29/2013of Innovation2013
9/29/2013 Economics of Innovation 2013 14 Reflection in management literature on views • Schumpeter’s Mark II model: Advantages of large firms for innovation • Better able to spread fixed costs over a large sales base • Advantages in financial markets • Better exploit economies of scale and scope in research • Large, diversified firms are better able to exploit an unexpected discovery • Arrow (and Schumpeter Mark I model): Advantages of small firms for innovation • Higher flexibility • Can enter market niches more easily •