Announcing High Prices to Deter Innovation

Price announcements—similar to the ones made by tech firms at media events—are effective in deterring innovation. By announcing (and setting) a high price, a firm increases its rivals’ short-run profits, reducing the rival firms’ incentives to innovate by magnifying their Arrow’s replacement effect. We show that the equilibrium prices are greater and research and development (R&D) investments lower relative to when price announcements cannot be used strategically. We call this the R&D deterrence effect of price and show that it induces equilibrium prices that may exceed the multiproduct monopoly prices and even dissipate the consumer benefits of innovation.

This paper was accepted by Joshua Gans, business strategy.