Disruptive innovation by heterogeneous incumbents and economic growth: When do incumbents switch to new technology?

In this paper, we construct a tractable endogenous growth model to examine heterogeneous incumbents’ current technology-switching behavior. Then, we examine the effects of policies such as a subsidy for innovation by incumbents, a subsidy for innovation by entrants, and the extension of patent length. Our setting suggests interesting and counterintuitive results. High quality incumbents tend to be less likely to conduct innovation, which is inconsistent with Schumpeter’s hypothesis. A subsidy for innovation by entrants decreases the average quality of differentiated goods. Moreover, it may decrease the growth rate of the economy if the positive spillover of innovation from average quality of differentiated goods is sufficiently large.