Economics of Innovation: An Introduction

This book aims to explain why innovation—despite its enormous social value—does not occur automatically or efficiently, and how economics can illuminate the incentives, institutions, and policies that shape it. The book's central premise is that ideas differ fundamentally from ordinary goods: They are costly and risky to create but cheap to copy, so competitive markets typically under-supply and misdirect them. Understanding innovation therefore requires analyzing appropriability, uncertainty, market structure, and strategic behavior.The scope spans two parts. Part I builds the foundations: definitions of technology, invention, and innovation; a simple model of innovation supply; the history of technological progress; growth theory (Malthus, Solow, Romer); the production of ideas (recombination, fishing out, the burden of knowledge); the six market failures afflicting ideas; and the institutions designed to correct them—intellectual property rights, optimal patent design, prizes, and open source. Part II turns to strategic interactions, introducing game theory and applying it to intellectual property litigation and settlement bargaining, the contested relationship between competition and innovation (Arrow vs. Schumpeter, the inverted-U), and licensing and technology transfer.Written as an undergraduate and graduate textbook with formal models (typically linear demand and constant marginal cost) and extensive problem sets, its goal is to equip readers to evaluate innovation policy, and understand imperfect instruments, each targeting different market failures while introducing its own issues.