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What kind of market structure promotes rapid technological progress? This question can be traced back to at least the writings of Joseph Schumpeter. In the Theory of Economic Development (published in 1911) Schumpeter viewed small entrepreneurial ventures as seedbeds of technological discovery, yet three decades later in Capitalism, Socialism and Democracy (published in 1942) he advanced the now familiar hypothesis that large firms with market power accelerate the rate of innovation. Because market power is endogenous to Schumpeterian growth--new firms enter and may come to dominate an industry through creative destruction--his 1911 and 1942 arguments are not entirely separable. For the most part, however, the literature has focused on Schumpeter's 1942 position to understand whether, "a market structure involving large firms with a considerable degree of market power is the price that society must pay for rapid technological progress." How to create a balance between what society gains from Schumpeterian innovation and what it loses through high pricing and restrictions of output is a recurrent issue in the economics of antitrust enforcement.
Despite the huge literature spawned by Schumpeter's ideas, empirical support for them has been lacking. According to Wesley Cohen and Richard Levin, "the empirical results concerning how firm size and market structure relate to innovation are perhaps most accurately described as fragile," and F. M. Scherer concludes that, "the weight of the existing statistical evidence goes against Schumpeter's 1942 argument that large corporations are particularly powerful engines of technological progress." Since the publication of Adolf Berle and Gardiner Means's The Modern Corporation and Private Property in 1932, scholars have been especially concerned that agency problems may reduce the effectiveness of R&D in large firms, and that incumbents may be resistant to change or unable to respond to radical innovation because of organizational inertia. Several authors have shown that insulation from competitive pressures discourages innovation and growth, while refutations of Gibrat's Law imply that smaller--not larger--firms tend to innovate more than proportionately to their size.
Although the Schumpeter hypothesis has come in for some hard empirical knocks, at least one strand of the literature suggests that it should not be rejected altogether. Theory shows that market power can stimulate technological progress because firms innovate on the expectation of receiving monopoly rents. Thus, Philipe Aghion...