Innovation and imitation in an asymmetrically-regulated industry

We model a game of innovation and imitation between a regulated firm and an unregulated firm. Although regulation may slow the industry-wide pace of innovation, it does not necessarily do so. In fact, by weakening the regulated firm's incentive to imitate a rival's successful new technology, regulation may make the rival's innovation profitable, thereby accelerating innovation. By extension, giving the regulated firm stronger incentives may backfire by producing either excessive or insufficient innovation; these negative outcomes are more likely the greater is the cost-reducing potential offered by the new technology.