Nº 20-35: The Impact of Emerging Market Competition on Innovation and Business Strategy: Evidence from Canada

How do firms in high-income countries adjust to emerging market competition? We estimate how a representative panel of Canadian firms adjusts innovation activities, business strategies, and exit in response to large increases in Chinese imports. Whether firms invest in process or product innovation matters: on average, the number of process innovations declines more strongly than the number of product innovations. In addition, firms that initially pursue process innovation strategies and survive have higher profits ex-post, but are ex-ante more likely to exit. In contrast, firms that initially pursue product innovation strategies have higher profits if they survive, without significant impact on exit. Both empirical patterns are consistent with our theory, which suggests that innovation strategies do not ensure insulation against competitive shocks, but instead increase risk.