Rent protection as a barrier to innovation and growth

This paper builds a model of R&D-based growth in which the discovery of higher-quality products is governedby sequential stochastic innovation contests. Incumbent firms producing state-of-the-art-quality productsexpend resources in activities to protect their rents; challengers raise claims to these rents by engaging in R&Dto discover better-quality products. Rent-protecting activities create barriers to innovation and increase theexpected duration of an incumbent’s monopoly power; R&D investments reduce it. The model (i) offers anovel explanation for the observation that the difficulty of conducting R&D has been increasing over time,(ii) generates endogenous scale-invariant long-run innovation and growth, and (iii) identifies a new structuralbarrier to innovation and growth. In the present model, long-run growth depends positively on proportionalR&D subsidies, the population growth rate, and the size of innovations, but negatively on the market interestrate and the effectiveness of rent-protecting activities. The presence of rent-protecting activities causes themarket rate of innovation to rise by amplifying the welfare distortion associated with the intertemporalspillover effect.