A Schumpeterian model of growth and inequality

This paper contributes to the analysis of the effects of demand structure on longterm growth. Introducing non-homothetic preferences in an otherwise standard quality- model, we first show that disparities in purchasing power generate positive R&D investment by quality leaders. This result is obtained with complete equal treatment in the R&D field between the incumbent patentholder and the challengers as well as without any concavity in the R&D cost function: in our framework, the incentive for a leader to invest in R&D stems from the possibility for an incumbent having innovated twice in a row to efficiently discriminate between rich and poor consumers displaying differences in their willingness to pay for quality. We hence exemplify a so far overlooked demand-driven rationale for innovation by incumbents. We then move to analyzing the impact of inequalities on long-term growth in our quality-ladder framework, and find that a lower level of wealth disparities always leads to an increase in the long-run growth rate. Finally, we show that beyond this negative impact on growth, inequalities also influence the allocation of the overall R&D effort between incumbents and challengers: a higher level of inequalities will in most cases lead to a bigger share of the overall R&D investment to be carried out by quality leaders.