Endogenous R&D Subsidies for Both the Foreign and Home Countries

The goal of the present paper is to explore the optimal subsidy of R&D by both the foreign and home countries in a model based on Herguera and Lutz (The World Economy, 1998). While they assume the home country subsidy is designed to help the home country "leapfrog" the foreign, we assume countries choose subsidies to maximize social surplus. This paper suggests that while leapfrogging is perhaps not the goal a country should usually pursue, a positive subsidy is always optimal in the home country and sometimes in the foreign country.This paper was presented at the 16th International Conference of the International Trade and Finance Association at the University of Lodz, Poland, in May 2006.