Quality improvements and the incentive to leapfrog

Abstract In a model of an uncovered market of vertically differentiated products, incentives of non-identical duopolists to improve the technological maximum quality are analyzed. It is assumed that initially firms offer products with different qualities and that the R & D cost function changes exogenously. This induces a reconsideration of firms' quality decisions. Both firms have the same R & D costs for improving the maximum quality. Quality changes within the existing quality range are assumed to incur only fixed adjustment costs. It is shown that the firm which initially is in the low-quality position always has a higher incentive to improve industry's quality than its rival if adjustments costs are sufficiently high. Persistence of dominance may occur for a low degree of initial differentiation, low adjustment costs and R & D cost functions with a high slope.