Removing geo-blocking: What are the effects on innovation for vertically differentiated goods?

At present, there is a wide debate on regulating geo-blocking, an online practice that prevents consumers from buying or having access to products and services from another country. This practice is not only used by retailers, but is also of great importance in the market for digital visual broadcasting. We develop a model to identify the cases, in which firms have an incentive to include geo-blocking clauses in their licensing agreements. In addition, we analyze the effects of restricting geo-blocking on the level of innovation of two vertically differentiated goods and on the overall product variety. Our results show that the market outcome primarily depends on the level of competition between the two goods. For instance, regulatory changes do not have any impact if competition is very low or very high. However, if competition is sufficiently high, the removal of geo-blocking decreases the level of innovation of the good that is traded. The product quality of the other firm, instead, increases - as long as R&D costs are sufficiently high. Putting both effects together, it becomes evident that the quality gains do not compensate for the quality losses. In addition, the removal of geo-blocking affects the product variety as well - a lower level of competition increases the product variety and vice versa.