1. Technology, R&D, and Efficiency Chapter 13W Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.

2. 13W-2 Invention, Innovation, and Diffusion New and better products Better ways of producing and distributing those products Occurs over the very long run Profit is the incentive LO1

3. 13W-3 Invention, Innovation, and Diffusion Short run No change in technology, plant, or equipment Long run No change in technology Very long run Technology changes with R&D LO1

4. 13W-4 Invention, Innovation, and Diffusion Invention New product or process Based on scientific knowledge Patent protection Innovation Product innovation Process innovation Can’t be patented LO1

5. 13W-5 Invention, Innovation, and Diffusion Diffusion Spread of innovation through imitation or copying Firms embed new innovation Crucial to capitalism Requires R&D expenditures LO1

6. 13W-6 Global Perspective LO1

7. 13W-7 Applied research (invention) 15% R&D Expenditures LO1 Development (innovation and imitation) 80% Basic research 5%

8. 13W-8 Modern View of Technological Advance Technological advance Capitalism is the driving force Profit is the incentive Rivalry among firms is the cause Starts from within the economy Internal to capitalism Old view was a random event from outside the economy LO1

9. 13W-9 Role of Entrepreneurs Initiator, innovator, and risk bearer Forming start-ups Other innovators Innovating within existing firms Anticipating the future Exploiting university and government scientific research LO2

10. 13W-10 A Firm’s Optimal Amount of R&D Marginal benefit and marginal cost Interest-rate cost-of-funds Bank loans Bonds Retained earnings Venture capital Personal savings Interest-rate cost-of-funds curve LO3

11. 13W-11 20 16 12 8 4 0 20 40 60 80 100 Interest rate, i (percent) R&D expenditures (millions of dollars) i Interest-rate cost-of- funds curve R&D Millions $10 20 30 40 50 60 70 80 Interest- Rate Cost of Funds, % 8888888888888888 LO3 A Firm’s Optimal Amount of R&D LO3

12. 13W-12 A Firm’s Optimal Amount of R&D Expected rate of return “r” Marginal benefit from R&D Expected-rate-of-return curve Slopes downward due to diminishing returns for R&D expenditures Expected not guaranteed returns Adjustments Optimal amount of R&D LO3

13. 13W-13 A Firm’s Optimal Amount of R&D 20 16 12 8 4 0 20 40 60 80 100 Expected rate of return, r (percent) r Expected-rate- of-return curve R&D Millions $10 20 30 40 50 60 70 80 Expected Rate of Return, % 18 16 14 12 10 8 6 4 R&D expenditures (millions of dollars ) LO3

14. 13W-14 A Firm’s Optimal Amount of R&D 20 16 12 8 4 0 20 40 60 80 100 R&D expenditures (millions of dollars) Expected Rate of Return, % R&D Millions Interest Rate Cost of funds, % 18 16 14 12 10 8 6 4 $10 20 30 40 50 60 70 80 88888888888888 Expected rate of return, r, and Interest rate, i (percent) r = i LO3

15. 13W-15 Increased Profit via Innovation Increased revenue via product innovation Importance of price Unsuccessful new products Product improvements Reduced cost through product innovation LO4

16. 13W-16 Increased Profit via Innovation Unit of Product Marginal Utility, Utils Marginal Utility per Dollar (MU/Price) Marginal Utility, Utils Marginal Utility per Dollar, MU/Price) Marginal Utility, Utils Marginal Utility per Dollar, MU/Price) First 1010/1=102424/2=125252/4=13 Second 88/1=82020/2=104848/4=12 Third 77/1=71818/2=94444/4=11 Fourth 66/1=61616/2=83636/4=9 Fifth 55/1=51212/2=63232/4=8 With $10 and choice of A and B (2A, 4B) With $10 and choice of A, B or C (1B, 2C)

17. 13W-17 Increased Profit via Innovation Total product Average total cost Units of labor Units of output 2500 2000 1000 TP 1 TP 2 ATC 1 ATC 2 2000 2500 $5 0 4 0 Upward shift of the total product curve Downward shift of the average total cost curve LO4

18. 13W-18 Imitation and R&D Incentives Imitation problem Fast-second strategy Benefits of being first Patents, copyrights, and trademarks Brand-name recognition Trade secrets and learning by doing Time lags Profitable buyouts LO5

19. 13W-19 Global Perspective LO5

20. 13W-20 Imitation and R&D Incentives LO5

21. 13W-21 Role of Market Structure Pure competition Incentive to innovate, but rate of return is low Monopolistic competition Incentive to differentiate but profits are temporary LO6

22. 13W-22 Role of Market Structure Oligopoly Large size Ability to finance R&D Barriers to entry can foster R&D Complacency is a negative Pure monopoly Little incentive to innovate due to strong barriers to entry protecting profits LO6

23. 13W-23 Inverted U Theory of R&D Firms’ R&D spending rises with the industry concentration ratio Reaches a peak at 50% Declines after 50% Empirical evidence generally supports this theory LO6

24. 13W-24 Inverted U Theory of R&D R&D expenditure as a percentage of sales Concentration ratio (percent) More competition Less competition 0 25 50 75 100 LO6

25. 13W-25 Technological Advance and Efficiency Productive efficiency Increasing productivity of inputs Allocative efficiency A more-preferred mix of goods and services Creative destruction LO7

26. 13W-26 Decline in Federal R&D Spending Government spends on basic scientific research Benefits not realized for many years Private business prefers R&D that can be profitable quicker Federal spending on basic scientific research measured as a % of the budget has declined Now consumption spending by government is favored over investments in scientific research