“Optimal R&D Portfolios in a Multiproduct Duopoly” by Ping LIN
I study the market equilibrium when two multiproduct firms choose R&D portfolios before competing in the product markets. Unlike in the case with single-product firms, an increase in a firm's (cost-reducing) R&D investment in a given product has two strategic effects: A business stealing effect, whereby its competitor's output in this product market decreases, and a cross-market effect whereby the competitor fights back in other product lines. Firms' R&D investments in the same product markets are thus strategic substitutes whereas that across markets are strategic complements. In the subgame perfect equilibrium, firms each conduct more R&D in their core product than in their non-core products, thus making them more concentrated in their core businesses. Under R&D cooperation, firms will shut down competing research labs and each choose an undiversified R&D portfolio, if and only if the degree of product substitutability is sufficiently high.