The Distribution of Demand, Market Structure, and Investment in Technology

Abstract

In a quality-ladder growth model, the dispersion in the demand for quality influences the prices innovators may charge for their innovations and the number of such firms that may obtain market shares at any one time. Under a more dispersed distribution, the innovator may only charge a lower price to cover the entire market. The payoff to innovation declines, causing investment to fall. When the dispersion has reached a critical level, the innovator will no longer price out the incumbents, turning the market into a natural oligopoly with firms selling different grades co-existing at any one time, even if it is optimal for all consumers to buy the highest grade available. Any further increases in dispersion raise the payoff to innovation, inducing greater investment.