Dynamic Firm R&D Games: Manufacturing Costs and Reliability Paths

Consider a dynamic intra-industry trade model with two goods, two firms, and two countries in which product ¡°reliability¡± is determined by R&D paths. This paper focuses on how a change in competitive conditions in terms of manufacturing costs affects the firms¡¯ decision about optimal reliability. Briefly, the main result of the paper is that when the manufacturing costs are similar and closely track each other, a lower manufacturing cost prompts both firms to increase their R&D and product reliability. But when the manufacturing costs are not similar, either before or after the change, the results are quite different. A profit maximizing firm will sometimes take advantage of a reduction in its own manufacturing cost by actually doing less R&D¡ªand thus producing a less reliable product.