Input price discrimination and upstream R&D investments

We study the welfare effects of input price discrimination when an upstream supplier that secretly contracts with two cost-asymmetric downstream firms undertakes R&D investments. We show that a ban on input price discrimination increases (decreases) the level of upstream R&D investments when downstream cost-asymmetry is relatively low (high). Nevertheless, we find that welfare always decreases after the ban. Thus, input price discrimination should be welcomed rather than prohibited even when it stifles the upstream supplier’s incentives to engage in cost-reduction activities.