To be the First or To be the Best: Innovation Competition

We model R&D and new product introduction under competition as a stochastic game. During R&D each firm's product quality improves, but so does the risk of its competitor introducing his product first. We show that in equilibrium each firm sets a minimum threshold and introduces its product the first time its quality exceeds the threshold. We then study how the equilibrium quality and timing of introduction depend on the intensity of competition. In particular, we show that competition among two equally strong firms is socially optimal.