To sustain profitability amidst rising production costs and avoid direct price increases, firms often resort to shrinkflation, reducing product sizes. This paper examines the role of consumer inattention in facilitating this strategy. Many shoppers overlook subtle decreases in product size, allowing firms to raise per-unit prices. This paper shows that the presence of inattentive consumers, who may not notice subtle decreases in product size, results in higher per-unit prices, especially in less competitive markets. especially in markets with limited competition. While shrinkflation helps businesses manage rising costs, it ultimately diminishes value for all (attentive and inattentive) consumers. These findings underscore the importance of greater transparency and potential regulatory measures to protect consumers from these hidden price hikes. Note: Because firms may find shrinkflation to be an efficient way to offset rising costs, this work advocates for regulations that promote transparency and awareness of package size changes, rather than an outright ban. Transparent unit pricing will help consumers recognize price increases caused by shrinkflation.

How do career concerns influence teamwork? Workers put in effort not only to maximize their current compensation but also to shape their professional reputation, which can impact future job opportunities and long-term earnings. This study examines how reputation incentives affect team dynamics when individual performance is observable and depends on the abilities of teammates. Such situations commonly arise in fields like research, engineering, and law, where individuals work on their own projects while also receiving input from colleagues. In this setting, workers may strategically help or even sabotage teammates to signal that they are of higher ability. This study shows that employees have incentives to manipulate outcomes to appear more capable, sometimes at the expense of the teammates's success. In particular, the findings suggest that when a worker’s contributions significantly impact a teammate’s project, and that project succeeds, the worker has an incentive to provide support, since employers may attribute part of the success to the worker’s high ability, enhancing their reputation. However, if the worker’s contributions are minimal and the teammate’s project succeeds, the employer is more likely to view the teammate as the more skilled individual, potentially harming the worker’s reputation. In this case, the worker may have an incentive to sabotage their teammate’s work, as a teammate’s failure could be interpreted as a positive signal about the worker’s relative ability. These insights shed light on workplace competition, performance evaluations, and the unintended consequences of career-driven behavior in team settings.

What gives innovative companies an advantage in global markets? This study explores how firms that invest in innovation outperform their peers in international trade by analyzing their export behavior. Specifically, it examines how export sales are structured—breaking them down into the prices charged and the quantities sold across different markets. Using a newly compiled dataset on innovative Greek manufacturing exporters, firms are classified as innovators based on their international patent filings. The data reveals that while only 1.3% of Greek manufacturing exporters have patent applications, these firms contribute a remarkable 23.6% of total export sales. Importantly, this study finds that the success of these innovative firms is not due to higher pricing but rather to the significantly larger quantities they sell. As market competition intensifies among non-innovative firms, innovators strengthen their position, particularly in more distant markets, expanding their global reach. Data and Methodology The analysis is based on two primary data sources. Export activity is derived from the Intrastat–Extrastat databank, maintained by the Hellenic Statistical Authority (ELSTAT). This dataset provides detailed firm-level information on export quantities and values across various countries, disaggregated at the five-digit Standard International Trade Classification (SITC5) level. Innovation activity is assessed through PATSTAT, a comprehensive global database that records patent applications and granted patents across approximately 100 patent authorities. The study identifies Greek innovative firms by extracting all patent filings associated with Greek-based assignees, regardless of jurisdiction. The dataset reveals that between 2007 and 2016, Greece filed 843 patent applications with the European Patent Office (EPO), placing it among the lower-ranked countries in patent filings per capita - consistent with its relatively low R&D investment intensity (European Commission, 2008). However, Greek firms are more active in other international patent offices; for example, between 2006 and 2011, they filed 680 applications with the U.S. Patent and Trademark Office (USPTO) compared to 507 with the EPO. To link innovation and trade performance, firms in the Intrastat–Extrastat and PATSTAT databases were manually matched, allowing for a direct comparison of export outcomes between innovative and non-innovative firms.

This article describes the content of the course titled “Economics of AI and Innovation”, offered by the Department of Economics of Yale University at a senior undergraduate level and at the MBA program of the Yale School of Management in another format. Artificial Intelligence (AI) is transforming how almost every market works. Traditional strategies of product differentiation and transaction costs are no longer offering companies a lasting competitive advantage. Instead, the digital experience itself and the provision of highly tailored recommendations, prices, and discounts have emerged as a lucrative new avenue for companies to use to sell their products and services. This course focuses on the effects of AI on markets from an industrial organization perspective. It examines the incentives faced by customers and retailers and analyzes how these agents interact in traditional stores, but also in new Internet marketplaces and platforms. It also discusses how AI has disrupted the structure of existing industries (e.g., music, TV, journalism) and how AI has affected the operation of the new Internet markets (e.g., platforms of accommodation and transportation). The goal of this course is to equip students to identify the market dynamics and trends and connect economic models to ongoing policy discussions about privacy, intellectual property (IP) rights protection, big tech and antitrust. The topics are divided into two broad sections. First, we study how economic theories and business strategies are changing with the use of AI in retail. We analyze the economics of price discrimination (e.g., personalized pricing, dynamic pricing), bundling, searching cost, network effects, switching costs, product differentiation, price competition, etc. Second, we analyze economic models related to current policy debates. For example, we study the economics of patents and copyrights, and then we discuss whether the existing IP system is appropriate to protect machine-created inventions, AI systems and the data that AI relies on to operate. We study the economics of prizes and analyze why targeted and blue-sky prizes are being used in promoting research in AI. We also examine whether mergers among high-tech giants are a threat to consumer welfare.

This paper considers a regenerative feedback mechanism in R&D, where knowledge spillovers enhance a firm's own research productivity. Researchers often find it more cost-effective to solve technological challenges by leveraging the disclosed findings of others, whether through patents or publications. In turn, subsequent innovations, facilitated by these spillovers, can be reintegrated into the original researcher's work, further enhancing their outcomes. An innovative firm can reabsorb its spilled knowledge by recombining its own existing ideas with external follow-up developments in novel and unexpected ways. For example, Intel cites a Microsoft patent, which is later cited by another Microsoft patent, illustrating how an initial idea can evolve through external contributions before being reabsorbed into the original innovator’s research. This study argues that when feedback loops in R&D are regenerative, firms not only contribute to the innovation of others through spillovers but also indirectly improve their own research capabilities. Because incoming spillovers allow firms to internalize a portion of the knowledge they share, the benefits of investing in R&D increase as outgoing spillovers grow. As a result, firms have greater incentives to engage in R&D when knowledge diffusion is high, leading to more efficient production and faster technological progress. The findings suggest that firms can be more profitable when intellectual property (IP) protections are weaker, allowing for greater knowledge spillovers. Given the characteristics of high-tech industries, government policies should be designed to facilitate the optimal level of knowledge diffusion. In markets with regenerative feedback mechanisms, policies that relax IP restrictions or actively encourage knowledge exchange can help firms absorb external innovations and achieve better R&D outcomes. To foster long-term innovation and economic growth, policymakers should create an environment that supports collaboration between researchers and institutions while ensuring legal frameworks promote the effective sharing of ideas.

How do changes in risk influence the compensation contracts offered by firms that invest in cost-reducing R&D? Do all firms adjust their contracts in the same qualitative manner when risk increases? This work argues that higher risk leads to asymmetric, and often opposing, responses among competing firms in the market. When firms differ in the cost of incentivizing their agents, the resulting reductions in marginal costs will also be asymmetric. This work shows that the conventional negative relationship between risk and incentives may no longer hold when firms compete for consumers. The firm that faces a lower cost of providing incentives - either because its worker is less risk-averse or its idiosyncratic risk is lower - will experience a smaller reduction in marginal costs, allowing it to gain a competitive advantage in market share. This increase in market share introduces a new incentive mechanism, referred to as the business-stealing effect. When firms’ innovations are strategic substitutes, this effect benefits the firm with lower incentive costs and counteracts the standard negative impact of risk on incentives. If the business-stealing effect is strong enough, it can even create a positive relationship between risk and incentives for the firm that gains market share. This model has important policy implications. Public policies aimed at reducing market risk to encourage innovation across all firms may, in some cases, have the opposite effect. As expected, firms employing highly risk-averse workers will respond strongly to lower risk by providing greater incentives and increasing their R&D investment. However, firms with less risk-averse workers and lower agency costs will react less aggressively. In fact, as firms with highly risk-averse workers invest more in R&D and further reduce their production costs, they will expand their market presence at the expense of competitors that employ less risk-averse workers. As a result, these latter firms may reduce their R&D investment when risk decreases. This suggests that risk-reducing policies could unintentionally lead some firms to innovate less, undermining the intended goal of promoting industry-wide innovation. Moreover, the findings extend beyond product market competition. Similar dynamics may arise in other strategic settings - such as political campaigns - where initial actions function as strategic substitutes and parties compete for “market” share, even if the underlying motivations differ.

Can too much competition hurt profits? This paper explores how firms invest in cost-cutting R&D when facing competition and moral hazard. We find that moral hazard - often seen as a drawback - can boost profits. In fiercely competitive industries, companies aggressively invest in R&D to outpace rivals, often to the point of eroding their own profits. However, this paper argues that when risk-sharing leads to underinvestment in R&D, firms save costs and increase profits. This work also analyzes how R&D spillovers between competitors shape the link between profits and risk. It shows that in a market where firm's innovations are strategic substitutes, competition drives R&D investment in industries with highly elastic demand. This occurs because a firm with a cost advantage can more easily expand its market share at the expense of its competitor. As a result, firms have stronger incentives to invest in R&D when demand is more elastic. In this setting, knowledge spillovers further encourage R&D. Firms invest in R&D to achieve even a marginal cost advantage over their rivals, and as spillovers increase, competitors respond by intensifying their own R&D efforts. Consequently, both competition and spillovers drive greater investment in innovation. However, this increased investment also raises R&D costs without necessarily leading to higher equilibrium profits. The presence of moral hazard among researchers results in the underprovision of R&D incentives. To mitigate these inefficiencies, firms may find it beneficial to delegate R&D decisions in advance or appoint highly risk-averse agents, reducing excessive investment and ultimately increasing profits. Firms benefit when the balance between incentivizing effort and providing insurance shifts in favor of the latter. We find that firms can capitalize on these advantages as long as the cost of motivating and insuring researchers remains below a critical threshold. If R&D costs are too high, firms achieve higher profits under full information. These findings provide insight into the organizational structures firms may prefer, depending on the cost of exerting effort and the competitive dynamics of the market.

Who takes the lead in basic research - universities or commercial firms? This paper examines how competition in basic research unfolds between universities and private companies. This work considers a setting where universities disclose their scientific findings when successful, making new knowledge publicly available. Firms can then build on these discoveries, adding commercial value and developing new products or services that generate profit. By comparing different scenarios in which either entity leads, this article finds that innovation in basic research is most effectively driven when universities take the lead and firms follow. Universities can invest more in fundamental research, which benefits firms by providing a foundation for commercial applications. As a result, firms prefer universities to lead, as it allows them to benefit from new scientific discoveries without bearing the full cost of early-stage research. This paper suggests that innovation flourishes most when universities take the lead, making this the optimal scenario for advancing scientific and technological progress. These insights can help inform policies on research collaboration and IP protection.