Uncertain R&D and the Porter Hypothesis

Ever since Michael Porter proposed that environmental regulations can improve competitiveness, much economic research has examined the potential for such outcomes. Attempts to model Porter hypothesis outcomes in a way consistent with neoclassical economics have focused on things such as strategic relationships between firms, moral hazard problems, and economies of scale. In this paper, I offer a simpler alternative. The results of any R&D project are uncertain. Calibrating a simple model of induced R&D with uncertainty so that the expected value of research is only positive with environmental policy, I find that between 8 and 24 percent of simulations result in cases where post-regulation profits are higher than pre-regulation profits. This result is consistent both with Porter finding specific cases with complete innovation offsets and with macro-level findings that environmental policy is not costless. I conclude by discussing the implication of these results for environmental policy and future research.