The implementation of information and communication technologies (ICT) has increased the productivity of industrialized economies in the last two decades. However, the process of adoption, use and diffusion of ICT is a non-trivial task that affects the dynamic evolution of industries and markets. This process tends to be gradual, starting with a negligible restructuring of inputs of production and followed over time by continuous reorganization at the firm level. As some firms in this process reap the benefits of ICT sooner (and better) than others, ICT represent a source of firm heterogeneity that might generate important competitive advantages.Based on recent economic research, the proposed project attempts to analyze the impact of ICT use on firm heterogeneity for a representative sample of firms from the German manufacturing and service sectors. Moreover, it attempts to study the consequences of such heterogeneity, given its impact on firms’ competitive advantages, on the relationship between innovation and the level of competition at the firm level. As highlighted by the Lisbon strategy and its new strategic framework i2010 – European Information Society, this is an issue of great public policy relevance.The analysis will provide a theoretical model of the evolution of ICT adoption, incorporating innovation, the level of competition and firm heterogeneity. The model will be used to derive testable empirical implications and to perform policy experiments. In addition, the project attempts to estimates the relationship between firm heterogeneity and ICT use, given appropriate econometric methods. Finally, the project will assess the impact of competition on innovation activity for the German manufacturing and service sector, taking into account the intensity of ICT use.The proposed project provides several contributions to the analysis of ICT use, productivity and industry evolution. First, it provides theoretical foundations for the relationships analyzed for the German manufacturing and service sectors. Second, it derives a mechanism that explains how the use of ICT affects innovation incentives and the level of competition. And third, it presents an empirically relevant framework that permits the analysis of hypothetical policy measures.