Whereas in monopolistic competition it is expected that competitors will match innovations in the long run, that is not necessarily the case in an oligopoly. The firm against which you are competing might not be able to match your innovation capabilities, and that would result in your firm being able to earn profits in the long-run from innovation. If, however, there are low barriers to entry, then new firms could enter the market and match your innovation. Therefore, only when the oligopoly is protected is there an incentive to invest in innovation for long-run economic profit. It is expected that the other firm will attempt to match the innovation, because firms in oligopolies respond to each other's moves, but that firm may be incapable of doing so, and would eventually lose market share as a result.
Price moves will be matched by competitors, the result being no gain for either firm unless they collude to limit supply. Since that is typically prohibited by law, the one move that these firms can make to win market share is to innovate and hope that the competitor cannot match that innovation. Thus, oligopolies have strong economic incentive to innovate, as such activity would give them the opportunity to win long-run economic profit at the expense of the competitor.
Works Cited:
Investopedia. (2011). Microeconomics Investopedia. Retrieved November 21, 2011 from http://www.investopedia.com/exam-guide/cfa-level-1/microeconomics/oligopolies.asp#axzz1eNA3wlFt
