Following Brander and Spencer 1983 and 1985, consider two countries denoted by i = X; Y , each ofwhich has one rm producing a homogeneous product only for export, to be sold in the internationalmarket. Both rms compete a la Cournot in the international market. The inverse demand functionin the international market is P = 15 – 0:5Q. In addition, assume that the preinnovation unit costof each rm is c = 4. Let ri denote the amount of R&D sponsored by the government in country i.Assume that when the government i undertakes R&D at level ri, the unit production cost for the rmproducing in country i is reduced to c-ri, i = X; Y . nally, the total cost to government i of engagingin R&D at level ri, is TC(ri) = (ri)sq/2 .(a) Identify countriesbest response function. [7 Points](b) What is the Nash equilibrium R&D level for each country? Discuss your results. [7 Points]
