Common Tragedies

Thoughts on Environmental Economics

Technology Policy: Part 2

Posted by Evan Herrnstadt on November 1, 2007

As promised in Part 1, here is some discussion of Richard Newell’s comments from the Brookings event. More details on this and the topics discussed in Part 1 can be found in Newell’s relevant RFF Backgrounder. Full disclosure: I worked for Richard on a couple of relevant memos.

Anyway, getting right down to it, Newell’s policy suite included:

(1) Making the R&E tax credit permanent

(2) Doubling the federal climate research budget to $7 billion/yr

(3) Improving research strategy and coordination

(4) Experimenting with inducement prizes.

Point (3) is fairly straightforward as we don’t want to duplicate a lot of work or do work that is in no way complementary. However, we should also seek to avoid constricting research agendas. Point (4) was addressed in a previous post.

Point (1) is fairly crucial to the R&E effort. However, the tax credit has been of limited effectiveness for a few reasons. Most importantly, as Newell notes, it has been a temporary addition to the Internal Revenue Code since its inception; as of 2004, it had been renewed 11 times and was oft-modified. This uncertainty makes long-range R&E planning difficult. However, there are two other reasons the credit might not be so effective. First, if a firm has little taxable income, the tax credit is of little use. Second, applicable expenditures are extremely restricted; even if research is considered “qualified”, related expenses such as overhead and equipment costs are not covered. These issues could be addressed by establishing an equivalent subsidy and/or expanding the expenditures eligible for the credit.

In regard to point (2), an audience member from Energize America asked Newell whether $7 billion is enough. People often fail to recognize that R&D is like so many other things in that its marginal benefit is indeed diminishing. There are only so many facilities and R&D scientists and engineers. In a 1998 article, Austan Goolsbee* argues that the benefits of R&D spending tend to increase the wages of the S&E community, as opposed to creating more actual work on R&D. If this is indeed the case, we might already be at a saturated point where the S&E labor supply is quite inelastic. On the other hand, perhaps increased R&D spending today encourages more students to study hard sciences, resulting in more S&E workers tomorrow. Anyhow, the point is that we can’t just throw a million bazillion dollars at climate technology and expect all our problems to be solved.

Which leads me to the most important point Newell made: R&D policy must be paired with a carbon price to be most effective. Obviously, it would be nice to have some auction or tax revenues with which to fund an R&D expansion. In addition, without a demand pull, there will be no market for these new technologies until they become cost-competitive with existing cheaper methods of energy production.

* Goolsbee, A. (1998). “Does Government R&D Policy Mainly Benefit Scientists and Engineers?” The American Economic Review, 88(2), 298-302.

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