Economics & Finance / Economic Theory / Microeconomics

Market Size in Innovation -This study, authored by economists Daron Acemoglu and Joshua Lynn,

Market Size in Innovation: Theory and Evidence from the Pharmaceutical Industry

Daron Acemoglu, Joshua Linn

This study, authored by economists Daron Acemoglu and Joshua Lynn, explores how potential market size drives technological innovation and new drug entry in the pharmaceutical industry. By analyzing exogenous demand fluctuations caused by demographic changes in the United States, the authors demonstrate the significant incentive effect of market size on innovation: for every 1% increase in the potential market for a particular drug category, the number of new drug entries in that category increases by 4% to 6%. This response is observed in both generic and non-generic drug sectors, and through analysis of forward-looking expectations, it is found that pharmaceutical companies often begin adjusting their R&D investment five to ten years before the actual surge in market demand. The study, through rigorous econometric models, eliminates confounding factors such as technological progress, healthcare policies, and changes in mortality rates, strongly supporting the endogenous technological progress theory—that profit motives are the core engine guiding R&D direction.