Review of Industrial Organization 12: 259–270, 1997.
1997 Kluwer Academic Publishers. Printed in the Netherlands.
Cost Reduction, Competitive Pressure and Firms’
Optimal R&D Strategies in a Duopolistic Industry
, PAOLO MANCUSO
and ALBERTO NASTASI
Institute of Systems Analysis and Computer Science, National Research Council, Viale Manzoni 30,
00185 Roma, Italy;
Department of Production, Systems and Computer Science, University of Rome
“Tor Vergata”, Via della Ricerca Scientiﬁca, 00133 Roma, Italy
Abstract. This paper deals with a duopolistic industry where ﬁrms are engaged in cost-reducing
R&D activity in order to maximize their market shares. Firms’ R&D competition is characterized
as a dynamic noncooperative feedback game where the optimal strategies are affected by the extra-
industry R&D activity and the degree of intra-industry spillovers. Numerical simulations highlight
the importance of the assumptions on the ﬁrms’ absorptive capacity (to exploit external knowledge)
in determining the optimal levels of ﬁrms R&D investrnents.
Key words: Noncooperative R&D, dynamic noncooperative feedback game, stock of technological
knowledge, intra-industry spillovers, extra-industry R&D.
In this paper, the R&D activity is analysed within a dynamic model where ﬁrms are
engaged in a price war. Actually, aggressive pricing strategies are widely adopted
in oligopolistic industries, such as steel, nuclear turbine, airline transportation,
telecommunication and personal computers industries (Cyert et al., 1995). A ﬁrm’s
decision of charging low prices is motivated by the fear of losing market share or
the desire to regain a market share that has been and continues to be eroded by
a rival’s price cutting strategy. Within this competitive environment, a ﬁrm which
charged prices with the objective to maximize its proﬁt might have serious survival
problem. On the other hand, proﬁt-seeking ﬁrms have limited abilities to change
products and technologies (Teece, 1988).
Our analysis deals with a duopolistic industry where ﬁrms decide their R&D
strategies in order to maximize their market shares. To examine the effects of
ﬁrms’ R&D expenditures, we refer to a concept of ﬁrm’s stock of technological
knowledge based on that provided by Cohen and Levinthal (1989), according
to which the external R&D (conducted outside the ﬁrm) contributes to a ﬁrm’s
stock only if it carries out systematically R&D activity. In other terms, a ﬁrm’s
R&D expenditure enhances directly the ﬁrm’s stock of technological knowledge
We wish to thank W. G. Shepherd and an anonymous referee for comments and suggestions that
have improved the content and the presentation of this paper.