Regulatory attitudes and environmental innovation in a model combining internal and external R&D

The extent to which environmental regulatory institutions are either ‘green’ or ‘brown’ impacts not just the intensity of regulation at any moment, but also the incentives for the development of new pollution-control technologies. We set up a strategic model of R&D in which a polluter can deploy technologies developed in-house, or license technologies developed by specialist outsiders (an ‘eco-industry’). Polluters exert R&D effort and may even develop redundant technologies to improve the terms on which they procure technology from outside. We find that, while regulatory bias has an ambiguous impact on the best-available technology, strategic delegation to systematically biased regulators can improve social welfare.     

Scarcity, growth and R&D

The limits to economic growth due to resource scarcity can be alleviated only by the development of backstop substitutes. This paper combines resource-based economic growth with R&D to reduce the cost of backstop technologies. Characterizing the entire dynamics of optimal growth and R&D processes, we find that an economy's growth prospects depend on its type, as determined by its production technology and learning ability, and by its knowledge–capital endowment. A wide variety of growth patterns emerges, ranging from cases in which an economy that without R&D eventually stagnates (converges to a steady state) is diverted by R&D onto a path of sustained growth, to cases in which R&D is not warranted. Resource scarcity is shown to encourage R&D due to the increased reliance on the backstop technology.     

The strategic use of innovation to influence regulatory standards

This paper investigates the welfare consequences of strategic behavior by firms to affect the amount of environmental regulation they face. Environmental regulation often attempts to force an industry to develop cleaner technology, but the regulator may have no means to commit to a specific standard. This lack of regulatory commitment induces firms to choose innovation strategically. It is well-known that firms have incentives to suppress innovation to induce the regulator to ratchet down the standard, and this strategic behavior lowers welfare. This paper explores a countervailing incentive. In oligopoly settings, firms have heightened incentives to innovate so as to increase regulation and raise rivals costs. In equilibrium, the incentive to raise rivals cost can mitigate the welfare loss arising from no regulatory commitment. Also, a regulator who is unable to commit ex ante to the stringency of a regulatory standard can induce more clean technology than a regulator with a commitment mechanism.     

The strategic use of innovation to influence regulatory standards

This paper investigates the welfare consequences of strategic behavior by firms to affect the amount of environmental regulation they face. Environmental regulation often attempts to force an industry to develop cleaner technology, but the regulator may have no means to commit to a specific standard. This lack of regulatory commitment induces firms to choose innovation strategically. It is well-known that firms have incentives to suppress innovation to induce the regulator to ratchet down the standard, and this strategic behavior lowers welfare. This paper explores a countervailing incentive. In oligopoly settings, firms have heightened incentives to innovate so as to increase regulation and raise rivals costs. In equilibrium, the incentive to raise rivals cost can mitigate the welfare loss arising from no regulatory commitment. Also, a regulator who is unable to commit ex ante to the stringency of a regulatory standard can induce more clean technology than a regulator with a commitment mechanism.     

The optimal time path of clean energy R&D policy when patents have finite lifetime

We study the optimal time path for clean energy innovation policy. In a model with emission reduction through clean energy deployment, and with R&D increasing the overall productivity of clean energy, we describe optimal R&D policies jointly with emission pricing policies. We find that while emission prices can be set at the Pigouvian level independently of innovation policy, the optimal level of R&D subsidies and patent lifetime change with the stages of the climate problem. In the early stages of clean energy development, innovators find it more difficult to capture the social value of their innovations. Thus, for a given finite patent lifetime, optimal clean energy R&D subsidies are initially high, but then fall over time. Alternatively, if research subsidies are kept constant, the optimal patent lifetime should initially be long and fall over time.     

Environmental Policy and International Trade when Governments and Producers Act Strategically

Some environmentalists express concern that trade liberalization may damage the environment by giving governments incentives to relax environmental policies to give domestic producers a competitive advantage. Support for such concern may be given by models of imperfectly competitive trade where there may be “rent-shifting” incentives for governments to relax environmental policies. But there are also incentives for producers to act strategically, e.g., through their investment in R&D, and in this paper I extend the literature on strategic environmental policy by allowing for strategic behavior by producers as well as governments. I show that (i) allowing for producers to act strategically on balance reduces the incentive for governments to act strategically; (ii) allowing governments to act strategically increases the incentive for producers to act strategically; (iii) welfare is lower when both parties act strategically; and (iv) strategic behavior by producers and governments is greater when governments use emission taxes than when they use emission standards.     

Carbon taxation,OPEC and the end of oil

I develop a differential game between an oil cartel and an importer investing in research and development (R&D) to reduce the cost of a green substitute to oil. In equilibrium, the cartel is forced to deter the substitute, which thus imposes a price ceiling falling over time. Credible carbon taxes are below the Pigovian level, implying the importer cannot internalise the full pollution externality, much less capture resource rents. Without carbon pricing, the importer curtails long-run pollution using a costly R&D programme. Normatively, climate policy will be more expensive if relying on green R&D programmes only.     

Dynamic Incentives of Environmental Regulations: The Effects of Alternative Policy Instruments on Technology Diffusion

We develop a framework for comparing empirically the effects of alternative environmental policy instruments on the diffusion of new technology. "Market-based" and "command-and-control" approaches can he quantitatively compared by estimating the economic penalty that firms, through their actions, reveal to be associated with violation of standards. In the context of concerns about global climate change, we empirically examine the likely effects of Pigouvian taxes, technology adoption subsidies, and technology standards. We employ state-level data on the diffusion of thermal insulation in new home construction, comparing the effects of energy prices, insulation cost, and building codes.     

Firm incentives to promote technological change in pollution control

The process of technological change in pollution control is broken into three basic steps: innovation, diffusion, and optimal agency response. Firm incentives to promote these steps are then examined under five regulatory regimes: direct controls, emission subsidies, emission taxes, free marketable permits, and auctioned marketable permits. On a relative basis, emission taxes and auctioned permits provide the highest firm incentives to promote technological change; at times, free permits generate lower incentives. Direct controls, which are common regulatory tools, usually provide the lowest relative firm incentives to promote technological change.     

Budget-Balancing Incentive Mechanisms

A. P. Xepapadeas [J. Environ. Econom. Management20, 113-26, 1991] developed a pollution abatement incentive mechanism that both reduces the information requirements of a regulator and is "budget-balancing," drawing only on the social gains from pollution abatement to encourage firm compliance. This paper demonstrates that, contrary to Xepapadeas, the budget-balancing system of random penalties cannot be used to induce compliance with the regulator′s objectives if firms are risk neutral. However, the mechanism can be successfully applied if firms are sufficiently risk averse [E. Rasmusen, RAND J. Econom.18, 428-435, 1987].     

Putting free-riding to work: A Partnership Solution to the common-property problem

The common-property problem results in excessive mining, hunting, and extraction of oil and water. The same phenomenon is also responsible for excessive investment in R&D and excessive outlays in rent-seeking contests. We propose a “Partnership Solution” to eliminate or at least mitigate these excesses. Each of N players joins a partnership in the first stage and chooses his effort in the second stage. Under the rules of a partnership, each member must pay his own cost of effort but receives an equal share of the partnership's revenue. The incentive to free-ride created by such partnerships turns out to be beneficial since it naturally offsets the excessive effort inherent in such problems. In our two-stage game, this institutional arrangement can, under specified circumstances, induce the social optimum in a subgame-perfect equilibrium: no one has a unilateral incentive (1) to switch to another partnership (or create a new partnership) in the first stage or (2) to deviate from socially optimal actions in the second stage. The game may have other subgame-perfect equilibria, but the one associated with the “Partnership Solution” is strictly preferred by every player. We also propose a modification of the first stage which generates a unique subgame-perfect equilibrium. Antitrust authorities should recognize that partnerships can have a less benign use. By organizing as competing partnerships, an industry can reduce the “excessive” output of Cournot oligopoly to the monopoly level. Since no partner has any incentive to overproduce in the current period, there is no need to deter cheating with threats of future punishments.     

Monopoly and external costs: An application of second-best theory to the automobile industry

A monopoly that creates external costs poses a classic second-best problem: Whereas optimal allocation would be achieved by both removal of the monopoly and correction of the externality, it cannot be presumed that either action taken alone would improve welfare. It is shown that the desirability of pursuing either policy in isolation depends on the relative size of the external cost and the monopolist's price-cost margin. The analysis is applied to the automoblie manufacturing industry. Under current estimates of pollution damage and price-cost margin, industry output is suboptimal. Whereas this finding may not be translated directly into policy recommendations, it suggests that some skepticism about internalizing pollution costs is justified unless such action is accompanied by an appropriate reduction in monopoly power.     

North–South Investment Flows and Optimal Environmental Policies

In the context of a simple North–South model that focuses on the international movement of capital, we show how neglect of pollution-generating effects of foreign investment may lead to distorted and misleading policy recommendations. Such a neglect has recently received emphasis in the empirical literature on East Asian economies, as in Bello and Rosenfeld (1990, “Dragons in Distress: Asia's Miracle Economics in Crisis,” Food First, San Francisco), and was shown to overlook resulting tendencies in these economies toward specialization, away from agriculture and toward manufacturing. Our simple model formalizes this observation and allows us to show that even for an unspecialized capital-poor, resource-rich South, such pollution-generating effects provide incentives for the North to encourage, rather than to discourage, foreign investment abroad and strengthen Southern incentives to restrict foreign investment more sharply than is conventionally assumed. In a nutshell, it brings out the implications of Northern capital “creating its own demand” as a consequence of its adverse impact on the Southern resource base. Despite its simplicity, the model thus sheds light on three interrelated aspects of international trading relations: production asymmetry, incomplete markets, and monopolistic advantage.     

Strategic environmental policy; eco-dumping or a green strategy?

The Porter hypothesis claims that a strong environmental policy best serves the interests of a nation's export industry. While this hypothesis seems to be based on some form of bounded rationality, this paper argues that governments may have good reasons for setting an especially strong environmental policy even though firms are fully rational. If the available abatement technology turns the environment into an “inferior input”, competitiveness is spurred by a strong environmental policy. The government should take advantage of this, and set an especially strict emission quota or an especially high emission tax. The findings in the paper also has consequences for the desirability of international cooperation with respect to national environmental policy. If a strict environmental policy spurs competitiveness, the environment is better protected without cooperation.     

Discrete modelling of supply response under uncertainty: The case of the fishery

In the absence of complete control in a regulated industry, effective management requires prediction of firms' behavioral responses to public policy. This paper develops a discrete choice model of supply response under uncertainty and applies it to fishery choice problems of New England fishing firms. While fishermen demonstrate a bias towards remaining within the same fishery, sufficient incentives, in terms of changes in expected returns and risk, are shown to elicit response. Due to extreme uncertainty concerning population dynamics of fish stocks, a satisficing approach to management, facilitated by this type of modelling, may be more appropriate than bioeconomic optimization.     

Self-Reporting and the Design of Policies for Regulating Stochastic Pollution

Existing environmental regulations frequently require firms to self-report their compliance status to regulatory agencies. Using a principal-agent framework, I derive and compare incentive-compatible regulatory policies with and without self-reporting. I find the firm needs to be audited less often when self-reporting is required, but punished more often. The sign and magnitude of the gains from self-reporting depend on the relative size of audit and sanction costs, the accuracy of the regulator′s monitoring technology, and the desired level of abatement effort.     

Effects of Carbon Taxes in an Economy with Prior Tax Distortions: An Intertemporal General Equilibrium Analysis

This paper analyzes the costs of carbon taxes in a model that recognizes interactions between this tax and pre-existing taxes. First we examine the extent to which costs of a U.S. carbon tax are reduced when its revenues finance cuts in income taxes. Such use of revenues significantly reduces, but does not eliminate, the overall policy costs. The positive overall costs reflect the carbon tax′s focus on intermediate inputs and its relatively narrow base in comparison with income taxes. We also examine the sensitivity of the carbon tax′s costs to the level of pre-existing taxes. For any given use of revenues, welfare costs rise significantly with pre-existing tax rates, indicating that models disregarding pre-existing taxes may substantially understate the costs of new environmental tax initiatives.     

The Impact of Economics on Environmental Policy

Environmental economists have seen their ideas translated into the rough-and-tumble policy world for over two decades. They have witnessed the application of economic instruments to several environmental issues, including preserving wetlands, lowering lead levels, and curbing acid rain. This essay examines the impact of the rise of economics in the policy world on the making of environmental policy. I focus on two related, but distinct phenomena—the increasing interest in the use of incentive-based mechanisms, such as tradable permits, to achieve environmental goals; and the increasing interest in the use of analytical tools such as benefit–cost analysis in regulatory decision making.I argue that economists and economic instruments have had a modest impact on shaping environmental, health, and safety regulation, but that economists will play an increasingly important role in the future. Although the role of economics is becoming more prominent, it does not follow that environmental policy will become more efficient. This apparent inconsistency can be explained by the political economy of environmental policy.     

The role of environmental activity integration into the R&D department to obtain competitive advantage

The objective of this work is to examine to what degree the integration between R&D and environmental departments facilitates the achievement of an environmental practice-derived competitive advantage. With this aim, we surveyed 110 International Organization for Standardization (ISO) 14001 certified factories. The results reveal that the integration of environmental action into the R&D department enhances a company's reputation through the product quality and image. Moreover, the said integration positively influences the company's overall innovative capability and, hence, its ability to penetrate international markets.     

Non-cooperative and cooperative climate policies with anticipated breakthrough technology

Global warming can be curbed by pricing carbon emissions and thus substituting fossil fuel with renewable energy consumption. Breakthrough technologies (e.g., fusion energy) can reduce the cost of such policies. However, the chance of such a technology coming to market depends on investment. We model breakthroughs as an irreversible tipping point in a multi-country world, with different degrees of international cooperation. We show that international spill-over effects of R&D in carbon-free technologies lead to double free-riding, strategic over-pollution and underinvestment in green R&D, thus making climate change mitigation more difficult. We also show how the demand structure determines whether carbon pricing and R&D policies are substitutes or complements.