Do market-based instruments really induce more environmental R&D? A test using US panel data

Produced as part of the Governments, markets and climate change mitigation CCCEP research programme theme

Working Paper 98


This paper was updated in January 2013

National governments are considering increasing spending on greenhouse gas mitigation R&D by billions of dollars per year at a time when many nations face severe fiscal austerity.

This study investigates empirically whether it is realistic to expect market-based environmental policy instruments to stimulate a lot of environmental R&D spending on their own.

The hypothesis developed is that increasingly market-based forms of environmental regulation might bring a conditional reduction in the level of environmental R&D spending, all else being equal; and that increasingly market-based approaches to climate mitigation policy may not necessarily induce the large amounts of environmental R&D spending that some corners of the induced innovation literature might predict.

The hypothesis is tested using panel data on environmental R&D spending for 30 industry groups over 22 years.

The evidence suggests the degree to which the prevailing policy regime embraced market forces may have diminished the R&D-motivating effect of the environmental regulatory burden. This implies that the quest to raise environmental R&D spending may be a good thing in its own right, and that the quest to incorporate market principles and institutions into environmental policy design may also be a good thing, but that market-based policies may undermine the incentives that firms have to invest in environmental R&D.

David Grover