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The Strategic Use of Innovation to Influence Regulatory Standards: Theory and Evidence

By Steven Puller


Regulation often attempts to force an industry to develop cleaner technology. I investigate whether firms in an oligopoly setting use innovation strategically to affect the amount of regulation they face. I develop a simple model to capture strategic incentives both to suppress and heighten innovation. This paper dissects the various incentives and disincentives for pollution-abatement innovation in response to technology-forcing regulation. I find that the equilibrium level of R&D will be determined by the net of five effects: (1) Compliance Cost Reduction, (2) Raising Rivals' Cost, (3) Ratcheting, (4) Spillovers, and (5) R&D Costs. A simple numerical example demonstrates that rms may face higher or lower incentives to innovate relative to the case of exogenous regulation ("regulation-taking"). Empirical analysis nds evidence of endogeneity between the innovation of chemical manufacturers and regulation under the 1990 Clean Air Act Amendments. These results suggest that regulation should not necessarily be treated as exogenous in either empirical or theoretical models

Year: 2002
OAI identifier: oai:CiteSeerX.psu:
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