Essays on Competition and Innovation

Abstract

The relationship between product market competition and corporate innovation is shaped by a complex interplay of market forces, regulatory environments, and technological trends.

The study of young ventures has long been deemed essential in understanding technological progress and the phenomenon of creative disruption. Over the past few decades, venture capitalists (VCs) have played a pivotal role in fostering the growth of startups, particularly within the technology sector, by screening and advising them to successfully bring innovative products or services to the market. Thus, understanding how competition among startups affects VCs’ investment decisions and guidance is vital for comprehending the pathway to startup success and the dissemination of their innovative ideas into the market.

In the first chapter of this dissertation, I examine the effect of VCs’ strategic investment in potentially competing startups on those startups’ outcomes. Using a new analytical framework, I highlight two effects. First, VCs internalize the competition among portfolio startups, and this impacts their incentives to engage in activities that influence startups' outcomes. Second, by investing in a business area, VCs learn to select better startups within that business area. This selection effect incentivizes VCs with competing portfolio startups to take actions enhancing the outcomes of their subsequent investments at the expense of the first one. To test the hypotheses, I combine venture investment data from Crunchbase (2008-2021) with S&P 451 Research, a tech M&A database that classifies startups according to a unique hierarchical technology taxonomy. I find that the first of the competing startups invested by a VC exhibits poorer performance after the VC invests in a competitor, as compared to startups that do not share any VC with a competitor. In contrast, subsequent startups invested by the VC in the same business area outperform startups not sharing a VC with a competitor. While these results are partly attributable to the selection effect, they also indicate that investing in competitors enables VCs to exert additional influence on their portfolio startups, favoring subsequent investments over initial ones. My findings contribute to a broader literature on innovation by documenting how externalities between startups in the portfolio of the same investor interact with portfolio value maximization strategies and affect both entrepreneurs and investors.

Chapter 1 underscores the influence of competition dynamics on the trajectory of startup-driven innovation and its eventual accessibility to consumers on the market. However, when successful startups enter markets and compete with established incumbents, their innovations can disrupt the competitive landscape. For example, ride-sharing companies like Uber and Lyft, backed by VCs, introduced a new business model relying on superior technology to match drivers to riders and transformed a heavily regulated industry like the taxi one. Thus, the second part of the dissertation shifts focus to the competition between innovative entrant platforms and regulated incumbents, using the taxi industry as a case-study. While the emergence of ride-sharing platforms brought significant benefits to consumers through enhanced matching technology, it also led to the devaluation of taxi licenses, posing challenges for policymakers.

Despite taxes levied exclusively on platforms are arguably among the main tools on the agenda, relatively few papers have studied their effects. Chapter 2 fills this gap by analyzing the effects of a tax imposed by the city of Chicago, which levied taxes on ride-sharing but not traditional taxi trips. I document a significant increase in ride-sharing prices, particularly for single rides starting or ending in downtown Chicago, which faced the largest tax increment. Tax pass-through rates were approximately 100% for single rides and even more pronounced for shared rides in the downtown area. This pattern can be explained by the fact that ride-sharing companies are multi-product peer-to-peer platforms and riders may substitute single with shared rides. The tax steered riders towards shared options downtown, leading to a slight increase in traditional taxi usage. Conversely, areas outside downtown witnessed reduced ride-sharing use, with no rise in demand for taxis. This is consistent with a more intense competition between taxi and ride-sharing services downtown. Lastly, although the tax alleviated congestion, the magnitude of this benefit remains modest and constrained to the downtown area.

By introducing a new technology and competing with traditional taxis, ride-sharing companies not only ensure lower prices and higher quality of service to riders but also help reduce inequality in their access to transportation means. In effect, the ability to commute affordably and reliably across neighborhoods can facilitate socio-economic and racial integration and reduce spatial mismatches. This suggests that taxes such as the one analyzed in Chapter 2 can also exacerbate disparities across different groups of the population by unequally affecting urban mobility, thus generating significant distributional costs.

In Chapter 3 I examine the heterogeneous impact of the same tax across different community areas in Chicago, focusing on whether it had unequal consequences in community areas with different racial compositions. I document significant heterogeneity in price increases due to the tax across the community area of departure as well as across destination points, providing evidence that this was correlated with community areas’ differential access to alternatives to ride-sharing, such as public transit. Clustering community areas based on racial composition reveals that Black areas experienced the highest price increases and percentage reductions in ride-sharing usage. Overall, the losses in rider surplus were larger in minority-concentrated areas. These findings highlight the potential trade-offs between addressing negative externalities and exacerbating inequalities in urban policy and suggest the need for further research on the impact of congestion policies on racial inequality.