Induced Technical Change: Evidence and Implications for Energy-Environmental Modelling and Policy

Technical change is important in addressing environmental issues, and becomes particularly so concerning difficult, long-term and global issues like climate change. This conclusion is confirmed by data on specific technologies identified, and by and almost all economic modeling sensitivity studies. However, the discussion often obscures a key distinction between: • autonomous technical change, which depends mostly on autonomous trends and government R&D; and • induced technical change, which depends mostly upon corporate investment (R&D, and learning-by-doing) in response to market conditions. There is very strong evidence that much technical change in the energy sector is of the second kind. Evidence comes from studies of specific technology costs as a function of market conditions and investment; the generation and persistence of energy efficiency potentials including international comparisons; and energy demand trends through the price shocks. Action to limit emissions or otherwise create markets for cleaner technologies can therefore be expected to result in technological improvements including cost reductions. Incorporating such induced technical change (ITC) in economic models (making it endogenous to the models) is very complex. It makes the modeling inherently non-linear and complex, with path dependencies and the potential for multiple equilibria. Such treatment is beyond the scope of the major E3 models currently in use. In these models, technical change is incorporated through exogenous assumptions and this is potentially an important weakness. Specific models devoted to investigating ITC have emerged during the mid and late 1990s. These models show that it can alter results in many ways. Models that draw upon the empirical engineering literature tend to show very large impacts indeed. Models in which innovation is a constrained resource that may be shifted from one sector to another tend to show lesser effects. Other and simpler approaches also show results that appear quantitatively quite divergent. These differences require further exploration but do not undermine the conclusion that induced technical change is likely to be important in the context of long-term issues like climate change. New efforts are seeking to incorporate ITC in more mainstream E3 models but results are not yet available that enable the impact of ITC to be estimated in these models. Overall the economic and policy implications of ITC appear to be as follows; the findings are summarised in Table E1 (drawn from the concluding section): Long run costs. Several (but not all) studies incorporating ITC suggest that it could make addressing climate change – …

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