Meet me halfway: research joint ventures and absorptive capacity

Abstract We propose a representation of a firm’s ‘effective’ R&D effort level that reflects how both its R&D approach and R&D budget influences its ability to realize spillovers from other firms’ R&D activity, i.e. its ‘absorptive capacity’, and generalizes the commonly employed representation. The ability to choose an R&D approach is accommodated by positing a three-stage game in which the choice of an R&D approach is made in its first stage. The firms’ R&D budgets and output levels are chosen in the game’s second and third stages, respectively. It is found that when firms cooperate in the setting of their R&D budgets, i.e. form a research joint venture, they choose identical broad R&D approaches. On the other hand, if they do not form a research joint venture, then they choose firm-specific R&D approaches unless there is no danger of exogenous spillovers. The analysis suggests that the commonly employed representation of firms’ effective R&D investment levels implicitly presupposes that the firms have chosen to cooperate in setting their R&D budgets.