Technological activities are a source of economies of scale and efficiency (Davies & Geroski, 1997; Gruber, 2000; Mueller & Tilton, 1969; Phillips, 1966) having a direct impact on the firms’ monopoly power.
Technological activities leading to innovations are captured
by product and process patents. Product innovation increases the firm’s
monopoly power through product differentiation as the firm now charges higher
prices for differentiated products (Cohen
& Klepper, 1996; Lunn,
1986; Vives,
2008).
Process innovation positively affects firms’ monopoly power
through cost reduction that improves productivity and output (Crépon et
al., 1998; Deolalikar
& Röller, 1989; Griliches,
1980; Hall,
2011; Kamien
& Schwartz, 1982). In this study, we analyse the impact of product and
process innovation on firms’ market power for the Indian pharmaceutical sector.
Indian pharmaceutical industry provides an interesting
research context to explore the impact of product and process patent on market
power. This sector witnessed many structural changes in the last 50 years like
patent policy reforms that have altered the industry’s competitive pressures.
As until the 1970s, this industry was dominated by MNEs where both product and
process patents were allowed (Duggan et
al., 2016; Kale
& Little, 2007).
The year 1970 marked a watershed year with policy change
whereby only process innovation could only be patented in the fields of food,
drug and agrochemicals for 7 years. Following this, MNEs left the market, while
domestic firms improved their capabilities by conducting adaptive R&D (Duggan et
al., 2016; Goldar,
2013; Kale
& Little, 2007).
The next major change occurs with the re-introduction of
product patents in 2005 to comply with the Agreement on Trade-Related Aspects
of Intellectual Property Rights (TRIPs).1
The presence of MNEs significantly alters the competitive
forces in the Indian pharmaceutical industry. MNEs have access to technology
developed by their parent organizations that provide them competitive advantage
vis-→-vis domestic firms (Buckley
& Casson, 1976; Rugman
& Verbeke, 1992, 2003).
Empirical evidences also suggest that innovation performance of MNEs is
superior to domestic firms in India (Ambrammal
& Sharma, 2016; Dhanora
et al., 2018; Khachoo
et al., 2018). Moreover, a group of studies also find that there is a
significant knowledge flow from MNEs to domestic firms (Khachoo
& Sharma, 2017; Marin
& Sasidharan, 2010; Sasidharan
& Kathuria, 2011).
MNEs are large and dominating firms due to superior
technology and availability of finance. MNEs also have an edge over domestic
firms in terms of investment capacity, absorption capacity, technology profile
and productivity score (Cohen
& Levinthal, 1989; Patel
& Pavitt, 1997; Sharma,
2012).
Majority of studies in the Indian context utilized R&D
expenditure to proxy firm-level innovation (Basant
& Mishra, 2014; Kathuria,
2008; Narayanan,
1998; Sasidharan
& Kathuria, 2011; Sharma et
al., 2018) with little attention on patenting as a measure of innovation (Ambrammal
& Sharma, 2016; Chadha,
2009; Deolalikar
& Röller, 1989).
Utilization of R&D does not represent the actual
technological capabilities of a firm because many firms in the developing
country do not report their R&D and also all the R&D expenditure does
not convert into successful innovation.
However, utilization of patent overcome these problems as it
is the outcome of successful R&D. Patents are also positively associated
with the commercialization of the new product and also new product sale.
Firm-level innovation activities are classified as
technological and non-technological innovation activities. Technological
innovations are product and process innovation whereas non-technological
innovations are marketing and organizational innovations.
Accordingly, while examining the impact of patenting on
market power, this study utilizes different types of technological innovations,
that is, product and process innovation. These innovations are changes or
essential improvements in the product (product innovation) and production
method (process innovation).
This classification is essential because both product and
process innovation influence the performance of firms through different
channels. Product innovation enhances firm performance through price increasing
channel whereas process innovation through cost reduction channel. In the
context of developed countries, studies have incorporated types of innovation
activities while analysing innovation and performance relationship (Lunn,
1986; Nemlioglu
& Mallick, 2017).
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