‘Environmental policy and modelling in evolutionary economics’.

1. Technology successions and policies for promoting more environmentally friendly technologiesPaul WindrumCentre for International Business and Innovation (CIBI)MMUBS, UKe-mail: p.windrum@mmu.ac.uk ‘Environmental policy and modelling in evolutionary economics’. 3rd International Conference on Computational Management Science

2. Key themes • Path dependency versus search for novelty • Identifying necessary conditions for a technology succession • Tripartite Framework for modelling environmental policy: policy makers, consumers and firms

3. Path dependency vs novelty Simmel (1957) dialectics • Individuals desire both distinction and conformity (social group animals) • Individuals are habitual but desire novelty Good reasons for path dependency: • Expolitation of scale and scope economies • Change is expensive an risky

4. Scopeof this paper. • Focus on sequential technology competitions – technology successions. • Diffusion phase of product life cycle • Conditions under which new technologies can displace established technologies.

5. Technology competitions are a particular subset of product competition. 2 features: 1) there is a technical differentiation (non-compatibility) between the competing technologies 2) tend to be significant switching costs for adopters (pecuniary and non-pecuniary learning costs) As a result: technology competitions are zero sum games, i.e. winner-takes-all competitions.

6. Why are technology competitions important? 1. Technically, standards are essential for the integration and development of technological systems, e.g. internet. 2. commercial advantage of proprietary ownership and control of a standard technology, e.g. ‘WINTEL PC’ 3. Policy - technologies are an important factor that frames and gives direction to policy. Alternative technologies tend to be associated with different envelopes, and so policy makers are deeply interested in the different possibilities associated with new and/or alternative technologies.

7. Technology successions versus technology substitutions. Technological substitution: new technology with superior quality/price performance over the same set of service characteristics as the old technology, e.g. CD and vinyl LP. A technology succession: new technology opens up new consumption possibilities not previously provided by the old technology. E.g. the car facilitated the development of suburban living. There was new type of transport user - the suburban car commuter.

8. Technology successions: New trajectories • New consumer groups and preferences • New firms with new production processes, and technological competences • New policy frameworks

9. Key factors that affect probability of a succession. 1. Preconditions • new firm entrants with new technology designs • policy making setting a new policy environment • individual consumers willing to experiment with new consumption possibilities. • Consumers - set of individual consumers willing to switch away from an existing consumer type and experiment with a new type. This situation arises when there are negative externalities to belonging to an established consumption type.

10. In the framework: • negative externalities associated with the number of previous adopters, such as physical congestion and snob effects. • pollution p generated through the use of artefacts. 3. Windows of opportunity related to economic and investment cycles, and to different stages of the product life cycle.

11. 4. Firms -quality /price of the initial set of designs offered by new technology entrants. Windrum and Birchenhall (2005) find a trade off between the direct utility of the characteristics offered by a product and the indirect utility of product price. Consequently, offering superior characteristics alone is not sufficient because price differentials can be large. • subsequent R&D performance of old and new technology firms (sail ship effect) • market entry conditions - barriers to entry such as high set up costs due to capital intensity of production, i.e. high fixed costs  + availability of venture capital.

12. time - a succession is more likely to occur (a) the shorter the time old technology firms have (i.e. prior to new technology firms entering the market) to innovate and develop designs that closely match the preferences of their target consumers, and (b) the longer new firms have to innovate and turn their initial set of designs into a set of designs that are optimal for their target consumer type. • Policy makers - a new technology paradigm requires the development of a new policy model leading to a shift in policy.

13. Probability of a policy shift depends on the strength of policy path dependency on current policy and the extent to which the policy maker is willing to discount path dependency in favour of changes in environmental opinion (based on new scientific understanding, the actions of interest groups, and the media). • There are factors that affect the speed with which changes in environmental opinion translate into policy change. • Finally, there are factors affecting the speed of adjustment from a change in policy view to the actual implementation of a new policy view.

14. Elements of co-evolutionary framework Policy makermaximises objective function (1) control variable is If env. opinion depends on observed pollution (2)

15. Change in policy depends on how policy maker treats policyt-1 (path dependency) and env.opiniont (factor for change). CES function (Shy 1996): If treated as perfect compliments (a→ -∞ opinion change is 100% compatible with old technology) then new technologies never adopted. If treated as perfect substitutes (a=1), then new technologies will be adopted if there is partial compatibility.

16. Consumers Fixed # of individual consumers. Each individual consumer chooses between a set of alternative consumer types. Each consumer type is tied to the use of a particular technology – group utility function specified over a number of service characteristics. Thus, the introduction of a new technology facilitates the development of a new consumer type.

17. If a new consumer type continues to attract individual consumers, it will grow and eventually displace the old, established consumer types. Important: individual tastes and preferences evolve over time as individuals have new experiences with radically new technology products that they come into contact with. This is done through individuals joining and leaving consumer types (link with Becker 1996).

18. In each period, individual consumer i evaluates as set of existing consumer types (T1, T2, …Tt). The payoff j associated with a consumer type using technology j at time t is (3) where is optimum quality/price combination for consumer type j is current quality/price combination offered by firms to consumer type j in period t is returns to adoption associated with consumer type j in period t. is the observed level of pollution that is generated by n users of technology j

19. The first term on the right hand side of (3) captures the private good aspect of consumption while the second and third terms capture the public good aspect of consumption. An individual consumer will decide to join a new technology consumer type T1 or an old technology consumer type T0 if (4) Given that consumers treat rjt-1 (path dependency) and new characteristics (factor for change) as substitutes and not complements.

20. Firms Firms are heterogeneous with respect to the set of service characteristics C that make up their product designs, and the consumer type T that they target. In each period, every firm has a current design and a productive capacity. Firms compete by offering products that are a distinct point in a multi-dimensional service characteristic / price space. Product innovation is the means by which firms search this multi-dimensional space.

21. Unit cost is the sum of average fixed cost ( /y) and an average variable cost that is a function of the of service characteristics offered by the design. TC= (/y) + (k k ck(xk) ) (5) where k are constants and the ck are increasing convex functions of the kth service characteristic. The price of its design is determined by a fixed mark-up on the unit cost of production. pjt = (1+jt)  jt (6) where jt is the jth firm’s average total cost in period t and jt is the jth firm’s mark up in period t.

22. Successful firms, with high levels of sales and production, gain a direct advantage from their lower average fixed costs and (in turn) lower prices, making their goods more attractive to consumers. Where the growth of productive capacity is financed from initial wealth or profits, a firm with relatively high levels of sales, and thus profits, will be able to finance a higher growth of capacity. Loss making firms initially use up their monetary wealth, then their productive capacity before becoming bankrupt and exiting the market.

23. Govt. Policies • timing of policy changes (distinct windows of opportunity) • Must take into account data on successions - network externalities of consumers using established and new technologies, rates of entry and exit amongst old and new technology firms. • Support ‘intermediate’ technologies as they arise (horse - electric trams – car)

24. Demand side policies should encourage the development of new consumer types and discourage continuing adherence to old consumer types. Government can lead by example and be purchase of new technologies (Freeman et al. 1982). • Traditional policy instruments: taxes and legislation to alter the relative quality/price performance of old and new technologies environmental legislation to ban an established technology outright (e.g. CFCs) or specifically target one or more characteristics of an old technology

25. Seek to assist the demand side strategies used by new entrants to overcome network externalities enjoyed by old technology firms: changes may be made to competition law to allow introductory price offers or ‘give away’, cross-leveraging installed user bases • Government policy may seek to alter the length of the investment cycle by legally specifying the maximum period in which consumers to repurchase a particular technology product (Japanese government to speed up the reinvestment cycle for cars). • Needs to be a viable alternative to support!

26. Supply side policies • taxes and subsides on final goods (discussed) • preferential subsidies to R&D performed by new technology firms. • Less traditional - instruments designed to encourage new firm entry, e.g. venture capital • pull out of public provision of complementary infrastructure and services to the old technology and start developing infrastructure and services that are complementary to the new technology.