R&D Subsidies and Climate Policy: Is There a “Free Lunch”?

Abstract

Abstract. Because of the long-term nature of the climate problem, technological advances are often seen as an important component of any solution. However, when considering the potential for technology to help solve the climate problem, two market failures exist which lead to underinvestment in climate-friendly R&D: environmental externalities and the public goods nature of new knowledge. As a result, government subsidies to climate-friendly R&D projects are often proposed as part of a policy solution. Using the ENTICE model, I analyze the effectiveness of such subsidies, both with and without other climate policies, such as a carbon tax. While R&D subsidies do lead to significant increases in climate-friendly R&D, this R&D has little impact on the climate itself. Subsidies address the problem of knowledge as a public good, but they do not address the environmental externality, and thus offer no additional incentive to adopt new technologies. Moreover, high opportunity costs to R&D limit the potential role that subsidies can play. While R&D subsidies can improve efficiency, policies that directly affect the environmental externality have a much larger impact on both atmospheric temperature and economic welfare.

The Optimal Climate Policy Portfolio When Knowledge Spills Across Sectors

“…The fact that complementing the Stabilisation policy with an R&D policy brings a reduction of stabilisation costs is in line with the findings of Goulder and Schneider (1997) and Popp (2006).…”

“…Until now, the few attempts to incorporate R&D spillovers in integrated models for the study of climate policy have been confined to the inclusion of intrasectoral spillovers (Popp, 2006), and international spillovers (e.g. Bosetti et al, 2008).…”

“…Moreover, our numerical assessments give quantitative foundations to a debate that has been theoretical and not grounded on empirical basis so far. Goulder and Schneider (1997) and Popp (2006) are the two main studies that analyse by means of computational models with knowledge externalities a climate policy portfolio in which R&D policy is coupled with a policy to reduce GHG emissions. However, there are major differences among modelling assumptions that allow only marginal comparisons of results.…”

“…However, there are major differences among modelling assumptions that allow only marginal comparisons of results. First and foremost Goulder and Schneider (1997) and Popp (2006) concentrate only on intrasectoral spillovers. The WITCH model displays intrasectoral spillovers and in principle it is possible to replicate the analysis of the earlier studies.…”

“…We assume, however, that the intrasectoral inefficiencies in knowledge creation are fully internalised and we instead concentrate on intersectoral spillovers to incorporate the complex interaction of R&D dynamics between two broad sectors that are affected differently by a policy to reduce GHG emissions. A further difference with respect to Popp (2006) is that we do not exogenously impose that increased spending in energy R&D crowds-out other kinds of R&D investments. By modelling endogenous knowledge accumulation in the two knowledge stocks, we can describe the optimal reallocation of resources to R&D in general, and between sectors.…”