A dynamic analysis of a monopolist's product and process innovation with nonlinear demand and expected quality effects

Abstract

<p style='text-indent:20px;'>The purpose of this paper is to investigate the dynamic control problems of a firm's product innovation (quality-improving) and process innovation (cost-reducing) with expected quality (reference quality) effects under nonlinear demand in a monopoly market. Our work significant features are: (i) a monopolist dealing with customer behavior in the spirit of behavioral economics determines the product quality, and carries out product and process innovation activities over time; (ii) the consumers' demand structure depends on product quality, expected quality and price in a separable multiplicative way between state variables and control variable. Our main results show (i) under monopolist decision-making and social planner adjustment, the stability of the system depends on the discount rate and consumers' memory parameter; (ii) the effort rate of process innovation is increasing with the expected quality, while the effort rate of product innovation is increasing with the memory parameter in the neighborhood of the steady-state shadow price of expected quality; (iii) as the memory parameter increases, the steady-state effort of process innovation is greater than that of product innovation; (iv) although the price is still determined by the monopolist under social planner adjustment, the price as well as both the efforts of product and process innovation under the social planner adjustment are always higher than that under the monopolist decision-making.</p>