Environmental regulation stringency and allocation between R&D and physical capital: A two-engine growth model

Juin-Jen Chang, Chien-Yu Huang, Chun Yee Wong and Yibai Yang

Journal of Economic Behavior & Organization, 2023, vol. 216, issue C, 733-753

Abstract: Many studies have identified the negative effect of environmental regulation on capital accumulation and the positive effect on innovation, but this observed capital-innovation tradeoff due to environmental regulation lacks theoretical underpinning. We fill this gap by developing a unified two-engine endogenous growth model with environmental regulation, and show that a stringent environmental policy (in terms of pollution tax) leads to a sectoral reallocation from dirty inputs to clean final-good sectors, which increases the demand for R&D and activates the innovation engine. The capital engine depends on the elasticity of substitution between polluting and capital inputs. If both are sufficiently complementary, capital accumulation slows down. Another novelty of our model is that the contrasting responses of the two growth engines can lead to an inverted-U relation between overall GDP growth and environmental taxation. Our calibration shows that a well-designed environmental regulation can achieve a “double dividend”: both improving the environment and enhancing economic growth and social welfare. Our empirical analysis provides macro-level evidence to justify our model prediction by using cross-country panel data.

Keywords: Two growth engines; Environmental regulations; R&D; Capital accumulation (search for similar items in EconPapers)
JEL-codes: O11 O44 Q20 (search for similar items in EconPapers)
Date: 2023
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jeborg:v:216:y:2023:i:c:p:733-753

DOI: 10.1016/j.jebo.2023.10.030

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