Research and development with stock-dependent spillovers and price competition in a duopoly (Q2247909)

The authors consider the problem of the research and development (R \& D) accumulation and price competition between two identical firms in a differential game framework. Each firm forms its R \& D stock \(X_{i}(t)\), \(i = 1,2\), via investment \(u_{i} (t) \geq 0\) such that \(\dot {X}_{i} (t) = u_{i} (t)\), \(X_{i} (0) = 0\), \(0 \leq t \leq T\), where the time horizon \(T\) is finite and fixed. Firm \(i\) reduces its production cost by increasing its stock \(X_{i} (t)\), and due to free spillovers, it can benefit from its competitor's stock \(X_{j} (t)\), \(j \neq i\). More in detail, it turns out from knowledge accumulation which is modeled as \(Z_{i} (t) := X_{i} (t) + \varepsilon X_{j} (t)\), ``where \(0 \leq \varepsilon \leq 1\) is a parameter for the costless spillover effect, such that \(\varepsilon = 0\) reflects the case of full R \& D appropriability and \(\varepsilon = 1\) the case of perfect R \& D spillovers''. It is assumed that firm \(i\)'s consumer demand is depended on both firms' prices \(p_{i} (t)\) and \(p_{j} (t)\) linearly: \(S_{i} (p_{i} (t),p_{j} (t)) := \alpha - \beta p_{i} (t) + \gamma p_{j} (t) \geq 0\) with parameters \(\alpha > 0\), \(0 \leq \gamma < \beta \). The objective function of each firm is as follows: \[ \Pi _{i} = \int_{0}^{T} \left[ (p_{i} (t) - c + Z_{i} (t)) S_{i}(t) - u_{i}(t)^{2}/2 \right] dt + mS_{i} (T) \] with parameters \(c > 0\) and \(m > 0\). Each firm maximizes its objective function via its price \(p_{i} (t)\) and investment \(u_{i} (t)\). This differential game is investigated with respect to Nash equilibrium under two assumptions about the observability of the competitor's current R \& D stock.