A Schumpeterian theory of multi-quality firms

Abstract

This paper introduces multi-quality firms within a Schumpeterian framework. Featuring non-homothetic preferences and income disparities in an otherwise standard quality-ladder model, it shows that the resulting differences in the willingness to pay for quality among consumers generate both positive investments in R&D by industry leaders and positive market shares for more than one quality, hence allowing for the emergence of multi-product firms within a vertical innovation framework. This positive investment in R&D by incumbents is obtained with complete equal treatment in the R&D field between the incumbent patent holder and the challengers: in this framework, the incentive for a leader to invest in R&D stems from a “surplus appropriation effect” specific to vertically-differentiated markets, i.e. the perspective of more efficient price discrimination when expanding the product portfolio. Such a framework makes it possible to analyse the impact of income distribution, as well as that of several possible R&D policies, both on long-term growth and on the allocation of R&D activities between challengers and incumbents.