Class test 1 Flashcards
Define Product innovation
The introduction of a new product, or a
significant qualitative change in an existing product
Define process innovation
The introduction of a new process for making
or delivering goods and services
Four main forms of IPR
Patents, trademarks, designs and copyright.
Three conditions to obtain a patent!!!
1) Has to have novelty (in the worldwide domain).
2) Has to embody a significant inventive step
3) Must be capable of an industrial application
4 market failures that cause innovation to be undersupplied
- Innovation as a public good
- Externalities from innovative activity
- Indivisibilities, uncertainty, and capital markets
- Patent races and duplication
Innovation as a public good
Knowledge is non-rival and non-excludable. Economic efficiency requires P=MC but MC of sharing knowledge is zero. If P=0 there is no incentive to innovate but if P>0 efficiency is lost as people are excluded.
Agents have an incentive to “free ride” on the innovation of others as no agent can be excluded.
Externalities from innovation
Innovation has unpriced effects on other agents outside of the market mechanism. This results in the private return being below social return for all levels of investment R&D. If firms were able to capture the whole social benefit the optimal innovation would be supplied.
Indivisibilities
Project cannot be broken up into smaller parts resulting in large up front fixed costs. With small MC competitive pricing in unprofitable, leading to an undersupply in R&D.
Uncertainty and capital markets
Uncertainty is inherent in the innovation process. Insurance against the failure to discover something new and profitable by undertaking R&D is not on offer. Assuming firms are risk averse this will lead to an undersupply of R&D, especially in smaller firms as they are less able to diversify risk.
Both uncertainty and indivisibilities could be solved if capital
markets worked ”perfectly”. So investors should be able to calculate the expected value of a project and invest according to highest returns.
However:
▶ difficult for investors to understand and evaluate innovation projects, must trust innovator’s judgement (e.g., Shark Tank/Dragons’ Den)
▶ there are fixed costs of evaluating projects
The appropriability problem and 3 reasons why
The Appropriability Problem refers to the (in)ability of an
innovator to appropriate full gains of its innovation.
Appropriability of knowledge/innovation is incomplete due to:
◦ Perfect competition → easy replication depletes profits
◦ Public good nature of Knowledge - also subject to positive
externalities → not enough compensation
◦ Indivisibilities (increasing returns) and Uncertainty → risk
4 solutions to restoring the incentive to innovate
Solution 1. Public provision of a public good: Govts subsidise
basic research through funding universities and research agencies.
Solution 2. Pigovian subsidies: correct incentives to produce
innovative products by ↑ rate of return from private to social level.
Solution 3. Defining property rights: correct externalities
(unpriced spillover), write new contracts to create a market for rights.
E.g., patents, copyrights, trademarks
Solution 4. Other mechanisms: Secrecy, prizes, research joint
ventures, etc.
The Appropriability Tradeoff:
■ Low appropriability leads to efficient distribution of knowledge
but inefficiently low creation of knowledge.
■ High appropriability improves the incentives for knowledge
creation but puts up barriers hindering distribution.
What distinguishes an innovation from an invention or discovery?
An invention or discovery enhances the stock of knowledge, but it does not instantaneously arrive in the market place as a full-fledged novel product or process. Innovation occurs at the point
of bringing to the commercial market new products and processes arising from applications of both existing and new knowledge
How does a monopoly induce a deadweight loss?
Deadweight loss occurs when people are excluded from using the good even though their willingnesses to pay are higher than the marginal cost. This results in a loss of consumer surplus.
