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Finding a link between emissions taxes and R&D investments

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The fight against climate change is a colossal and daunting challenge. But many economists argue that gradually increasing emissions taxes would dramatically reduce the amount of greenhouse gases released into the air at the lowest economic cost.

“The question is, will manufacturing companies respond to the tax? That’s where our article comes in, and it appears the answer is yes,” said James Brown, MBA Kingland professor and chairman of finance. at the Ivy College of Business at Iowa State University.

Brown pointed out that his new paper Posted in The Journal of Financial Studies, one of the top peer-reviewed academic journals in finance, does not provide policy advice. Instead, he and his co-authors offer an analysis of data they collected on around 33,500 manufacturing companies in 18 countries to better understand what happens when countries start taxing companies for their gas emissions. Greenhouse effect.

Brown and his research team found a strong and clear link between countries implementing high emissions taxes and manufacturing companies dramatically increasing their investment in research and development (R&D).

“Now what exactly that means is a much harder question to answer. That’s where we’re trying to make inferences with a lot of additional testing,” Brown said.

Brown said people generally view R&D as a pathway to new products. For example, if a pharmaceutical company is increasing its R&D spending, it is likely trying to develop a new drug that can be patented and sold in the market.

But during the researchers’ in-depth analysis of the data, they found that companies that significantly increased their R&D following the implementation of emissions taxes did not lead to a slew of new patents. This, Brown explained, indicates that manufacturing companies were using R&D dollars to increase their ability to adopt and implement new technologies that change the way they produce, rather than to develop new patentable products.

An effective change

“Companies don’t always have the incentive to switch to cleaner production technologies on their own; that’s where policy can potentially have an impact,” Brown said.

“Command and control” regulations (for example, requiring manufacturers to install specific types of emissions mitigation equipment) are another policy tool that can lead to less pollution, but Brown said the approach emissions tax is probably a more effective policy lever. Indeed, a tax on emissions forces companies to internalize at least part of the costs of polluting production, which in turn encourages them to find cleaner means of production in the most profitable way possible.

“We generally believe that changes to less polluting means are very costly for the economy, but if you encourage this change through R&D and the adoption of new technologies, you can move to a cleaner production process without necessarily slowing down. economic growth,” Brown said.

Knowledge spillover

The recently published study found that the greatest increase in R&D investment in response to emissions taxes at the national level occurred in sectors that are big polluters and have a lot of what Brown called knowledge spillovers”. Knowledge spillage refers to the ease with which information spreads between companies in the same industry.

“If you are a polluting company in an industry where knowledge spreads easily between companies, you have more incentive to invest in R&D and incorporate cleaner manufacturing methods that have already been developed by another company or experts external,” Brown explained.

Brown said examples of high-pollution industries with high knowledge spillovers include cement, lime and mineral products. In contrast, oil and steel are highly polluting industries with relatively low knowledge spillovers.

From macro to micro

In the researchers’ analysis of the data, Japan accounted for the highest number of sightings, followed by the UK and Canada. Brown said the researchers didn’t pull data from the United States because it doesn’t have a national emissions tax like other countries; trying to include data from the United States could have skewed the results because there are too many regional differences in environmental regulations.

Brown and his research team are working on a follow-up study to find out exactly what R&D dollars are going to and if emissions are actually going down.

“We need to understand at a micro-level what these taxes do specifically for polluting emissions. We can’t do that at the cross-national scale that we used for this study, but maybe we could at a specific country scale,” Brown said.

Additional research questions Brown wants to answer:

  • What is the right mix of policies to dramatically reduce emissions?
  • Besides these taxes, are there other policies or institutional factors that would support/prevent a shift to cleaner production?

Researchers from the KTH Royal Institute of Technology in Stockholm, Sweden, contributed to the study published in The review of financial studies.

Strict environmental laws are ‘pushing’ companies to pollute elsewhere

More information:
James R Brown et al, Can environmental policy encourage technical change? Taxes on emissions and investment in R&D in polluting companies, The review of financial studies (2022). DOI: 10.1093/rfs/hhac003

Provided by Iowa State University

Quote: Finding a link between emissions taxes and R&D investments (2022, January 21) retrieved January 21, 2022 from

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