Which policies best induce technological innovation?

On November 8th, as the inaugural speaker for their Environmental Policy and Economics speaker series,Sustainable Prosperity, the University of Ottawa’s Institute of the Environment and Carleton University’s School of Administration and Public Policy hosted Nick Johnstone from the OECD’s Environment Directorate. Mr. Johnstone spoke on Leveraging Private Finance and Inducing Innovation for Climate Mitigation through Public Policy, based on research carried out by his team in the Empirical Policy Analysis Unit.

Getting the policies right to induce innovation in emerging environmental technologies is an important question for policy-makers in the context of accelerating climate change. The stakes are getting higher, and the need to learn from both past policy experience and that of other jurisdictions has never been as essential.

The rapidly evolving climate and technology policy context is why the comparative and empirical work of the Organisation for Economic Co-operation and Development (OECD) is vital, especially in examining how governments can encourage innovation in renewable energy, alternative fuel vehicles and other emerging technologies that are needed to mitigate climate change.

One of the main challenges facing policy-makers when designing policies to encourage technological innovation is to not be in the business of picking winners. The OECD has found that, to remedy this problem, governments should support a portfolio of technologies, and especially technologies that have multiple benefits, such as those in smart grid and energy storage.

The OECD’s research shows that the characteristics of policies are even more important than the policies themselves. In particular, policy flexibility and predictability play key roles in promoting innovation in environmental technology. At the same time, the mix and sequencing of policies is also important. For example, with regards to alternative fuel vehicles, standards are more important to encourage technological innovation in electric vehicles, which are further from the market than hybrids, for which a fuel price (i.e. raised through a fuel or carbon tax) has a more significant impact.

To summarize, the OECD has identified the five following elements as principles of policy design to encourage “green” innovation:

Stringency – how ambitious is the policy objective relative to business as usual;

Flexibility – how much space is provided to identify new technologies and methods;

Incidence – how closely does it target the underlying policy objective; and

Depth – how well it generates incentives across the full range of possible outcomes.

The other piece of the puzzle is how to finance technology research and development and innovation. Governments do already provide quite significant funds for early support of emerging technologies. In Canada, companies finance about 50% of renewable energy projects themselves (i.e. from their balance sheets). Government grants do also play a role, with the Government of Ontario having been the largest provider of grants to new energy projects in Canada in the 2000-2011 period, as shown in the Figure below.

But the private sector is also playing an active role in financing renewables. In Canada, Brookfield Renewable Power Inc. and Enbridge have each provided close to USD $1 billion over the eleven year period of 2000-2011, as shown in the figure below.

We are still far short of where we need to be, both in Canada and globally, in terms of decarbonising the economy, but with smart policy design informed by evidence and experience we are more likely to get on the right path.