Week 6 Lecture 2

Question 1

Define innovation

Answer 1

Innovation is an application of new ideas to the products, processes, or other aspects of the activities of a firm that
lead to increased value

Question 2

What does R&D include?

Answer 2

R&D includes:
- Basic research: Work done to acquire new knowledge without any particular application or use in view
- Applied research: Application of the existing knowledge to problems involved involved in creating new products or processes
- Development: Systematic work on applied research

Question 3

What are the two types of innovation?

Answer 3

• Product innovation: the introduction of a new product or a significant qualitative change in an existing product
• Process innovation: the introduction of a new process for making or delivering goods and
  services

Question 4

Define R&D spending

Answer 4

R&D spending is the monetary value
of resources a company spent on R&D

Question 5

Give the two definitions of R&D intensity

Answer 5

• R&D intensity is a share of the expenditures on R&D in the total revenue of a company
• R&D intensity = R&D expenditure / Total revenue
• R&D intensity is a share of the aggregated expenditure on R&D in the GDP of a country
• R&D intensity = Total R&D expenditure / GDP

Question 6

What are the problems associated with R&D?

Answer 6

1- Knowledge is a public good. Private provision of knowledge is suboptimal
2- Spillover effect: Innovation by one firm delivers a spillover effect (positive externality) on other firms
3- Patent race and duplication: If one firm manages to get the patent before the other they have wasted research money

Question 7

What are some possible solutions to the problems associated with R&D?

Answer 7

• Public provision of new knowledge eg. institutions and research centres
• Firm cooperation and collaboration
• Protection of intellectual property rights

Question 8

Briefly explain the incentives to innovate in a monopoly market structure

Answer 8

There are modest incentives to innovate as:
- Potential gains are small relative to the monopolistic profits the firm earns
- The opportunities are good as a monopoly can finance expensive R&D projects and bear risks
- However the overall incentive is rather low as the firm has no one to compete with in innovations

Question 9

Briefly explain the incentives to innovate in highly competitive industries

Answer 9

In highly competitive industries there are weak incentives to innovate as:
- Although potential gains are large, the opportunities approach 0 as a small firm cannot finance expensive R&D projects and attract high-risk investment
- With many firms in the market the likelihood of duplicating results is high and the risk of irrecovareable costs is also high

Question 10

Briefly explain the incentives to innovate in concentrated industries market structure

Answer 10

In concentrated industries there are strong incentives to innovate as:
- Potential gains are significant as a successful firm can become a monopoly or a dominant firm
- The opportunities are favourable as in concentrated industries firms are large enough to finance R&D projects, attract capital and bear risks
- In oligopolies it is easier to negotiate and collaborate therefore reducing the likelihood of duplication