Competition from informal firms and new-to-market product innovation: A competitive rivalry framework

Abstract

Although informal firms are rare in developed economies, they are prevalent in emerging economies and create significant competitive pressure for formal firms. Recent literature has focused on the effects of informal competition on product innovation, but the results have been inconsistent. This discordance motivated this study. Drawing on insights from competitive rivalry, this study investigates how informal competition affects formal firms’ product innovativeness (i.e., whether to develop new-to-market products or not). Using a sample of firms operating in Eastern Europe and Central Asia from the World Bank Enterprise Survey, we find that if formal firms encounter intense competitive pressure from informal firms, they are less inclined to develop new-to-market products. Furthermore, credit constraints strengthen the adverse effect of competitive pressure from informal firms on the development of new-to-market product innovation, but state legitimacy weakens this effect. This investigation provides insight into the barriers to innovation in emerging economies and adds to the existing literature by highlighting the need to consider the varied effects of informal competition on different types of product innovation.