Effect of piracy on innovation in the presence of network externalities

This paper analyzes the impact of simultaneous increases in piracy (piracy effect) and network externalities (network effect) on R D investment. A single firm s R D investment increases (or decreases) if the network effect (or piracy effect) is dominant. With R D competition, if the firms significantly differ with respect to their R D efficiencies and if the piracy effect dominates the network effect then the less efficient firm s R D investment increases and that of the more efficient firm s decreases. In this case, the overall probability of successful innovation increases. The reverse holds if the network effect dominates the piracy effect. If the firms are less asymmetric then their R D investment either increases or decreases depending on the relative strengths of the piracy and network effects.