Trade Policy and Innovation Policy with Asymmetric R&D Spillovers

Abstract

This paper studies the effect of tariffs on R&D expenditures when there are R&D spillovers between firms. We consider a three-stage game, where the government determines the amount of the tariff and R&D subsidy in the first stage, firms choose their R&D expenditures in the second stage, and outputs are determined in the third stage based on Cournot competition. We show that if the foreign government gives an R&D subsidy to the foreign firm, foreign R&D will increase and the domestic firm's profit and domestic welfare will decrease. The home country can recover this profit and welfare loss, partially or totally, if it uses two policy instruments simultaneously: a tariff and an R&D subsidy.